Written by Jim Welsh
Macro Tides Weekly Technical Review 25 January 2021
St. Patrick’s Day is still 51 days away but penny stock speculators, call option traders, and institutional money managers can only see green. The Federal Reserve will continue to expand its balance sheet by $120 billion a month with its purchases of $80 billion of Treasury bonds and $40 billion of Mortgage Backed Securities as far as the eye can see. Congress has already authorized more than $3 trillion in fiscal stimulus and may add another $1.9 trillion in coming weeks.
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Penny stock buyers are being rewarded with huge gains, call option buyers on high priced stocks are doubling their stimulus payments, dealers are forced to buy the underlying shares to hedge their short call positions, and down and out cyclical stocks have rewarded value oriented institutional money managers with huge gains since November 9. Mesmerized by the success of these investment strategies any negative news is ignored as the narrative of a strong second half rebound evokes the allure of a Roaring Twenties Boom just over the horizon.
A good example of the ramp up in speculation was highlighted by the Wall Street Journal’s coverage of GameStop on January 25, which has soared from under $20.00 a share on January 12 to $159.00 on January 25.
Some of the meteoric rise can be attributed to a large short position in GameStop after revenues had fallen for the last four years and the purchase of call options by small traders.
One of the key points is that Chat Rooms are providing small traders the platform to target and manipulate individual stocks. The Chat rooms of today are not much different from the Stock Pools that developed during the Roaring 20’s stock rally that gradually pulled more of the public into speculating in the stock market with 50% margin. Operators of stock pools took in public money and then used it to manipulate individual stocks.
After the 1929 Crash and the investigations that followed, the manipulation by stock pools and other abuses led to the formation of the Securities and Exchange Commission. Ironically the SEC was initially led by Joseph Kennedy who had operated a stock pool himself.
Excerpt from the WSJ article:
“The tussle over the company, with a modest market value of about $5 billion at Friday’s close and four years of declining sales, exemplifies the increased sway of retail investors. Many poured into the market during the coronavirus lockdown, congregating on online platforms to swap trading ideas and to boast about winning bets. The rapid swings prompted the New York Stock Exchange to briefly halt trading nine times for volatility. That followed a hectic premarket session in which GameStop’s stock price soared and more than 10 million shares traded hands, far above the average.”
“The rally has been fueled by individual investors, encouraging each other on social media to pile into GameStop shares and options. The company has become a high-profile battleground between bullish chatroom-driven day traders, especially on online platform Reddit, and hedge fund short sellers, who have been betting against the stock. The buying pressure has led money managers to switch out of substantial bets that the stock would fall, investors and analysts said. GameStop began the year as one of the most-shorted companies listed on the New York Stock Exchange and Nasdaq, according to Dow Jones data. As of Friday, short interest in the company’s shares outstanding stood at 102%, according to IHS Markit data tracked by S&P Global Market Intelligence. This resulted in a short squeeze, in which rising prices prompt investors to buy back shares they had sold short to cut their losses, pushing the stock higher still.”
“GameStop has been the most-actively traded stock by customers of Fidelity Investments in recent sessions, with buy orders outnumbering sell orders by more than four-to-one, according to the brokerage. “We broke it. We broke GME at open,” one Reddit user wrote Monday after the NYSE halted trading, referring to GameStop’s stock-market ticker. Some Reddit users egged others on when GameStop shares subsequently went into reverse, using an emoji to describe the stock as a rocket to the moon. “Hold the line! No room for doubters,” wrote one. Another bemoaned losses: “I’m still new to this and bought to double my holdings at $137. Please tell me I’m OK.” Adding to the frenzy, options contracts tied to GameStop shares have been changing hands at a record pace, a sign investors are trying to position for further gains. When the stock leapt 51% Friday, options activity tied to the company jumped to the highest level ever. The purchase of bullish call options can feed into gains for underlying stocks, because dealers that sell the contracts may seek to hedge against rising prices by buying the shares. Options for GameStop shares next expire Friday.”
A boom in the second half of 2021 is dependent on containment of COVID-19 and all of its variants, which could prove more difficult than presumed. The British variant is known to be 50% more infectious but was initially thought to be less deadly. Over the weekend it was announced that the British variant is likely more deadly. The British variant has already been found in 20 U.S. cities and could become the dominant strain in some of these cities within the next six weeks. Although the current vaccines will be effective against the British variant, the efficacy may be less according to Dr. Fauci. Of greater concern is the South African variant which is already known to be more infectious and deadly, and its Brazilian cousin. Due to its structure the South African variant is expected to make the current vaccines far less effective
Those expecting a smooth transition to a second half boom in the U.S. economy simply based on liquidity and fiscal support are overlooking the significant risk that efforts to contain the Pandemic within the next few months may not be completely successful. The rate of vaccinations will improve and President Biden’s goal of vaccinating 100 million people within the next 100 days may be achieved. The wild card is the virus which will continue to mutate in ways that will make the vaccines of today less effective tomorrow. This will require newer versions of existing vaccines, especially if the British or South African variants become dominant in coming months in the U.S. Any meaningful disappointment related to the vaccine or the reopening of the economy in the second half of the year could lead to a quick and sharp decline that brings the S&P 500 down to 3550.
Stocks.
The S&P 500 closed at a new all time high on January 25 but the S&P 500’s RSI did not confirm the new high. When the S&P 500 made a new high on January 8 of 3824.68 its RSI was 70.9, but with the S&P 500 almost 1% higher on January 25 the RSI was 66.9. This indicates that the upside momentum is losing steam and often appears just prior to a correction.
Although market breadth has been healthy overall, the NYSE Advance-Decline line has weakened since January 14 when the S&P 500 closed at 3795. The softening in market breadth is also evident in the number of stocks posting a new 52 week high. On January 14 the 5 day average (green line) of net new highs was 302 but was only 228 on January 25, and the 21 day average (black line) has slipped from 246 on January 14 to 228.
The same pattern of weakening breadth has developed on the Nasdaq Composite with the Nasdaq Advance – Decline Line lower on January 25 than on January 14. The RSI on the Nasdaq 100 (QQQ) was 77.1 on January 14 but only 70.0 on January 25.
Since September 24 the Russell 2000 has been the strongest major market average. If a correction is coming, the Russell will need to top. The Russell 200 recorded a new closing high on January 22 but its RSI was 70.6 compared to 76.4 on January 14. The Russell 2000 has clearly rallied in 5 waves since the low on September 24, which means a correction is much more likely. The negative RSI divergence increases the probability of this outcome.
Since the lows in the major averages at the end of October, the S&P 500, Nasdaq 100, and Russell 2000 have continued to make higher highs and higher lows. In order to confirm that at least a short term high has been established in the S&P 500, Nasdaq 100, and the Russell 2000, these averages will have to fall below a prior low. Until that happens all trends are up, despite the RSI negative divergences and softening in market breadth. The table is set for a correction but prices have to confirm.
The S&P 500 is expected to drop to 3550 (blue trend line, first chart on pg.4) and could to 3350 (green trend line). The Nasdaq 100 QQQ could fall to 280, if the Pandemic really gets out of control and the Biden administration chooses to lockdown the economy. After the coming correction, the S&P 500 is expected to rally above 4000.
Dollar
The Dollar is providing more support to the potential that the low on January 6 was the end of Wave 5 from the March 2020 high. The 5-day moving average (red) has climbed above the 13-day moving average for the first time since early November. The Dollar should trade up to 92.00 where it will encounter resistance and how it manages to break above or fail at this resistance will indicate whether the Dollar will post a lower low in coming weeks. It is possible that the current rally is wave 1 of a larger advance, with any pullback bottoming above the January 6 low and represent wave 2. The initial phase of a rally will likely come from short covering which could be ignited by negative news out of Europe that weakens the Euro rather than good news that strengthens the Dollar. The rollout of the vaccine in the EU has been slower than in the U.S., so the EU economy could prove noticeably weaker than the U.S. in coming months.
Gold
Irrespective of near term squiggles, Gold is expected to fall below $1766 and could fall to the down trending line that connects the low in August, September 24, and November 30 which is near $1720. Although unlikely, Gold could fall to $1660 during a spike low. Gold dropped $304 from the high of $2070 to the low of $1766 (Wave a?), before rebounding to $1960 (wave b?). An equal decline would bring Gold down to $1656 (wave c?) If and when Gold does fall below $1766, the manner in which it does so will provide some clues as to whether the trend line at $1720ish will be support.
Silver
Last week I thought Silver might bounce to $26.00 and on January 21 it traded up to $25.99. Silver is still expected to test and likely drop below $21.78.
Gold Stocks
If GDX follows the potential pattern in Gold, which would allow Gold to fall to $1656, GDX could drop below $28.00. Traders can establish a 33% position if GDX drops below $32.00.
Treasury yields
The 10-year Treasury yield is expected drop to 0.95% before climbing to 1.266%. At some point in 2021, more likely in the second half of the year, the 10-year Treasury yield could spike up to 1.75% to 1.95%. This outlook will depend on whether the current vaccines prove effective against the new COVID-19 variants that are beginning to spread in the U.S.
The first target for the 30-year Treasury yield is 1.94% but was expected to retest the breakout at 1.75% first. Long term the 30-year has the potential to rise to 2.15% to 2.35%.
TLT has been expected rally to $154.00 to $155.00, and possibly as high as $158.00. Last week traders were advised to take a 50% position if TLT dropped below $149.92, using $148.00 as a stop. TLT failed to fall below $149.92 and today’s rally to $153.67 suggests the expected rally has already begun.
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The MTI generated a Bear Market Rally (BMR) buy signal when it crossed above the red moving average on April 16 when the S&P 500 closed at 2800. A new bull market was confirmed on June 4 when the WTI rose above the green horizontal line.
Although the MTI has confirmed the probability of a bull market, it doesn’t preclude a correction. The S&P 500 is expected to fall to 3550 and potentially as low as 3350 if the Pandemic overwhelms hospitals and more restrictions are enacted in January and possibly into February. Once this correction is complete the S&P 500 is expected to rally to 4000 and potentially higher in the first half of 2021.
The primary 10 sectors for the S&P 500 with the Russell 2000 and Midcap included.
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