Market at Crossroad & Potential Catalysts

Over the past few weeks, we are seeing several consolidation patterns popping-up in different markets. Consolidation usually signals in-decision or brief pause before resumption of the underlying trend. However, markets also consolidate in a sequence of 1s and 2s before a significant move in a new direction.

It appears like we are experiencing both the cases in different areas, where market is tracing out a sequence of 1s and 2s, and is waiting for a catalyst to break out of this consolidation. Following charts show this pattern:

Bonds: Since July Bond prices have been increasing but in an overlapping manner. This suggests that either this is a corrective move and we will see a move down soon, or we will soon see above June highs.

Gold: Over the past 4 days, Gold has placed in 4 inside days above the downtrend line and near the resistance. Inside days show indecision - a point where buyers and sellers are not comfortable making the move. Although most of sideways consolidations result in a move in the direction of the trends, next few days will be telling in terms of the move.

Stocks: SP500 is stair stepping down. Like other instruments, this stair-step pattern would either give way to a substantial decline in the near future or would turn out to be a correction in the broader up trend.

Even though stock market sentiment has come down recently, it remains elevated. On the other hand sentiment for Bonds and Gold is rising but not very optimistic yet. Proprietary timing indicators suggest that next turn date is few weeks away in the stock market. Therefore, if the market declines, other assets could rally but they need a catalyst to move away from current sideways indecision.

Need for Catalyst
Today's Jackson Hole speeches by Janet Yellen (Fed Chair) and Mario Draghi (Chair ECB) could be the catalyst that the market is waiting for.

If it is the trigger and if the markets start moving in 3rd wave out of this consolidation, logical move would be a rally in Gold and Bonds, while decline in Stock Market. Stock market is over-valued and has been rising for over a year, so this move is very possible. A decline in the stocks will be attributed to debt-ceiling debate and numerous other distractions from Washington by fundamental analysis but essentially it will be a natural part of the market rhythm.

We have underscored this observation multiple times that financial news media distracts investors. It can lead to early exit and pre-mature entry into investment positions. As a result, one of the lessons that we learned through 2016 is (Investing Lessons)

Lesson 1: There are no guarantees but being persistent is the key to long-term success

Long-term investing is regarded as the secret ingredient for many successful investors. Time is a very powerful commodity. If you give time to a successful business model or investing strategy, and combine it with dedicated and passionate management team, it will give you amazing long-term results.

Another reason why long-term returns are much more important than short-term returns is because when a portfolio achieve critical mass, one’s personal savings will not have that big an impact on the growth of portfolio. For example: $100K invested today will grow to 1M @ 20% return in ~13 years. At that point 100K will not have as much value because @20% / year an investor will experience a $200K increase without adding any more funds.

Thirdly, investing is a game of nerves and patience, whether in the stock market or any other endeavor like small business, start-ups through Angel/Venture investing, or Private Equity. The only difference with stock market based investing is that you have the opportunity to exit early because the market provides excessive liquidity, which provides peace of mind for many investors.

Long-term investment positioning and persistence provides investor with the focus needed to successfully withstand periods of draw-down because major moves take place after big draw-down periods. We will discuss additional lessons in the next post.

How to Position? 

Most of the readers would agree that the markets are at a critical juncture. However, knowing this is one thing and acting on this information is totally different. So far in 2017, we have mentioned several big moves on this blog and on twitter but doubt if effective trading was performed around this analysis by the readers.

Effective, long-term and consistent trading requires discipline and an edge in the market to adjust findings as market situations change. At this critical time, we are using proprietary models to expose clients to positions that have the highest success probability.  Performance - H1 2017 

Contact

• Any investment / trading questions: Twitter (@survive_thrive)
• Free e-mails or Investing: Click on the button below 

Bond Market Buy Signals

After experiencing a sharp decline in the last ~2 months, bond markets is now consolidating. In fact, today it managed to rally above a critical level. If bonds can hold near this level for the next few days, intermediate trend would turn up.

This decline has resulted in multiple bond indicators turning bullish i.e. sentiment turning so pessimistic that it is now bullish. Three widely followed sentiment indicator readings are given below:

1- Hulbert Sentiment Index:
The blue line below represents bond yields. Bond yields move in the opposite direction to the bond prices. Red line indicates the sentiment towards bonds. At this point, it appears that the sentiment is as negative as we have seen in ~2 years. Therefore, there is a good wall of worry to support a bond rally.

2- Bund Sentiment
Bunds are German bonds. Bunds were among the bonds that went into negative yield territory. While they were negative, everyone was bullish on the future of Bunds. However, very few realized that it was more close to the end of the Bunds rise. On the contrary, right now investors are very bearish on Bunds. This suggests that this a good time to increase exposure to bonds

3- Bond Sentiment NDR indicator
According to NDR services, bond sentiment is now extremely pessimistic, which supports the argument that the Bond decline is over-extended and we should anticipate a rise in Bond prices:

Bond Market Trend
While we are seeing some very pessimistic sentiment readings, these are coming at a time when the Bond market remains in a bull market according to our proprietary Market Classification Model. Therefore, the prudent trade right now would be to add or maintain longs in the bond market.

Keep in mind that bond market has been rallying for over 30 years, and yields have been declining for the same period. This trend will eventually come to an end. The question is whether it has already ended or will end with one for decline.

In either case, bond yields will not go up right away. They will go up if the economy continues to improve and Federal Reserves raises interest rates couple of times. Fed's changes to short-term interest rates does not directly impact the longer-term interest rates because those rates are driven by market expectation.

In the next blog post, we will discuss the bond market structure and both Bull and Bear scenarios. Poor bond market is in no one's favor and the central banks will try their utmost to ensure interest rate rise remains in control. From an investment perspective, we might see 1 or 2 more opportunities to fund big capital purchases at a lower interest rate.

If interested in free e-mail list or in paid services, please fill-out the form below.

Bonds Market Analysis and Impact

After a dynamic and super-charged start of 2016, the long-term bond prices, as measured by TLT, are at the same level where they started the year - 120.6 vs 120.7 (shown below).

 
Above chart shows the amazing ascent and first six months and the sharp decline over past 4 months. Today's news is full of negative articles about the bond market rout, and potential consequences.

Bond market is the life blood of modern economies. There is hardly any developed country in the world that is debt free. Countries issue debt/bonds to implement development projects and repay any interest/payments that are due on existing obligations.

United States is a unique case where the government cannot just keep issuing bonds to raise money without any checks and balances. These checks and balances help keep the government debt in control, which supports the dollar and increases confidence among the lenders that they will get their money back.

This check/balance process is known as the debt-ceiling. Without confidence in the system, creditors might start hesitating in purchasing government treasuries, which could lead to higher bond yields, making it more difficult for US to finance future needs.

Orderly, rise and fall of treasury yield is very normal because it is governed by economic realities and Fed's actions. But sudden sharp rise, can be catastrophic for the overall economy. That being said, we are in a long-term downtrend in the bond yields, which will reverse one day in the near future.

Long-term view
In early 1980s, long-term treasuries were yielding 14%. They went as low as 2% in July 2016 - amazing time to refinance or make a big purchase at next to no interest rate.

However, this kind of decline will not last for ever. Typically, there is a ~30 year bond market cycle and right now we are near the bottom of the yield cycle. Following chart shows the yield decline structure.

Now the question is whether this trend has ended or does it have one last decline left in it? 

From a fundamental perspective, it is difficult to rationalize how the inflation can pick-up with oil, gold and other commodities being hit with higher dollar. If dollar rallies, it will pressure inflation and as a result, yields would come down.

Short-term View
From a short-term perspective, bond market has become extremely oversold. The sentiment is conducive to a sharp rally, as investors start to rationalize higher yields through new post-election economic realities. DSI sentiment is also extremely subdued.

Note - Election or no-election, economic realities don't change randomly. Rather, their interpretation changes but in the end everything cancels out in the direction of the primary trend

Following chart shows the near-term structure of the bond market. There are two ways to decipher this structure, but both ways suggest that this is a corrective structure. Below chart shows both the wave counts.

We will continue to monitor the bond market as we approach next month's Fed FOMC meeting. Fed might not raise the rates after an election surprise, which could give a boost to bond market.

Last Word
A collapse of the bond market will be a very bad scenario for investors and the economy. Abrupt rise in interest rates can destroy US abilities to pay existing obligations and could lead to a significant market impact. This impact might start from the US but could quickly spread through out the world. And once such a spiral starts, it is almost impossible to halt it in the middle.

If you are an investor with a substantial portfolio in bonds, you need to carefully watch for trend change in the bond market. Our proprietary Market Classification Model remains in a bull market for Bonds.

If interested in free e-mail list or in paid services, please fill-out the form below.

Inverted Head and Shoulders pattern abound

Even though the market declined in the beginning of this week and scared away many market participants, who had just recently entered the markets, market is now again near all-time highs. But this time, markets are sporting inverted head and shoulders patterns.

Inverted Head and Shoulder patterns are bullish patterns. They either suggest trend reversal or trend continuation after consolidation. Once this pattern is complete, we can assume that the sideways action of the past 2 months has been completed and we are not on the verge of a substantial rally.

Following chart shows the inverted head and shoulders pattern in SP500:

A rally above 2200 level and holding that price will suggest that the market has broken out. Target of this pattern is at least 2275. However, this pattern could result in significantly higher prices because we will enter a very bullish part of the market rally i.e. 3rd wave ascent.

We have been discussing this potential Head and Shoulders pattern for the past few weeks. Following chart was shared on September 20th, highlighting Nasdaq 100 performance and potential Head and Shoulder formation:

Since then the Nasdaq 100 index broke above the neck line and has now completed a successful test of the neck line. Following chart shows the performance of Nasdaq with recent market data filled in:

Overall market trend remain up, as per Market Classification Model. We use MCM to identify the trend and it has kept us on the right side of the market for a very long time now.

If interested in free e-mail list or in paid services, please fill-out the form below.

 

Model's Performance - Apr 29, 2016

As of right now, April has been a net neutral month. The rally that we saw in the early part of April fizzled out in the last week or so. And now the market is on the verge of closing the month in the negative territory.

However, at the same time, the Portfolio Enhancement Algorithm performed very well in April. Since the beginning of 2016, we are closely tracking the performance of this model. Following chart shows the performance since Jan 2016.

As one can see the model rallied sharply in Jan/Feb, while market declined. Then it consolidated while market rallied sharply in Feb/March. Interesting aspect of this consolidation was that it was not impacted by the sharp rally of the stock market i.e. it was just a consolidation of the gains versus wiping out all the gains.

Soon after the consolidation was complete, the model rallied again. And this time, the rally was followed by a mini consolidation in April. This brings us to today, where the model is breaking out to new highs. So far in 2016, the model is up 12.9% vs SP500 gain of 1.5% (including dividends).

Although the performance of this model is very impressive and its more impressive in the leverage world, which we continue to monitor (we share the results of leveraged model's performance in May/Jun time frame), there are numerous other benefits of this model based portfolio which we have discussed in following posts over the past few weeks:

1. Benefits of the Model - Part 1
2. Benefits of Model - Part 2
3. Benefits of Model - Part 3

One another benefit of this model is the ability to implement Buy and Hold Strategy, which we will discuss in the next post along with analyzing the portfolio performance quantitative perspective. 

IPM Trade Matrix Update - Trade 5 (Part 5)

Trade Overview

Today's market action was very constructive. While on one hand large caps like DJIA and SP500 absorbed recent gains by going sideways, small caps and tech stocks rallied sharply. This rally in small caps is a very encouraging sign for the broader market rally. Furthermore, breadth during this rally has been very impressive. 

Following chart shows a smoothed Advance/Decline line. According to this chart, market breadth hasn't been this strong in a while. 

Please note that this chart has two implications:

1. We won't enter a new bear market right away i.e. current rally has a ways to go: 1929 comparison should not be taken seriously
2. We might be approaching an overbought area and could see a pull-back over the next couple of weeks.

This chart also confirms IPM Trade Matrix's buy signal. The only difference is that the IPM Trade Matrix generated its signal several days before the breadth jump. Therefore, IPM Trade Matrix is a real-time actionable system with greater profit possibilities. 

Our Elliott Wave structural analysis of the market suggests that the market is in a firm uptrend. We are at least a week away from an intermediate term correction. Please note that this will not be a serious correction. It might just fill-out the right shoulder of the Inverted Head and Shoulder pattern (discussed earlier). IPM Top date has already been e-mailed to subscribers.

As evident from the above chart, market has just completed a sequence of 1s and 2s. As long as the stop levels are not broken (outlined below) we will stay long. If profit objectives for TNA are hit, we will bring our trailing stops closer per IPM Trade Matrix definitions and will let the market decide its next move.

Elliott Wave analysis cannot be completed without sentiment analysis. And current sentiment analysis suggests that we are still not seeing optimism in the market. This is  very good for the health of this rally. We will keep an eye on the stop levels and profit objectives, as we are approaching the end of Trade 5 per IPM Trade Matrix.

IPM Trade Matrix 2014 Trades

TRADE - 1: (Long) = +2.6%

TRADE - 2: (Short) = +9.3%

TRADE - 3: (Long) - Non IPM Trade Matrix trade = -0.2%
TRADE - 4: (Short - 1/31/14 to 2/5/14) = +7.25% 

TRADE - 5: Long

Long TNA at 70 ==> new TNA basis = 69.94 (added few longs today) 
Longs were initiated on 2/11/14 and 2/13/14 based on IPM Trade Matrix Trigger and Elliott Wave structure. More might be added if opportunity comes within IPM turn window. 

TRADE CONDITIONS
Condition: Bottom within IPM Turn Window  
Trigger: Rally above SP500 = 1789, DJIA = 15790, Russell 2000 = 111.5, Global Dow = 2401
Supporting Indicators: Up trend (8/4 did not complete), Next IPM can be either Top/Bottom

PROFIT TARGETS
Profit Target 1: 1870
Profit Target 2: 1930

RISK
Stop: Break below 1750 (valid till we are within IPM Turn Window)
Trailing Stops: Break below 1790 (SP500) and 15780 (DJIA)
Typical IPM Trade Matrix Risk: 1.5%
Actual IPM Trade Matrix Risk: 1.3% (Entry = 1813, Exit = 1790, Risk = 1.3% )
Risk Reason: There are multiple reasons to be worried: 1929 stock market parallel, 8/4 Test to the downside is in process (will be invalid at new highs) - almost invalid, and major IPM Bottom window in process - almost invalid.  

Applicable Rule (There are 7 Rules in the IPM Trade Matrix. Following are applicable to the market right now): 

1. Do not go long or short without trigger to prevent losses by market moving against you.  
2. Exit half at profit objective 1. Exit full at profit objective 1 if proprietary momentum continuation signals are not present.
3. Observe stop-losses to minimize draw-downs

Note: IPM Trade Matrix Trades will be posted in the first half of 2014. This is an experiment to understand and enhance the capabilities of this Matrix.

For Blog updates on Google+ add: Understand Survive Thrive 

For Blog updates on Twitter, add: @survive_thrive

For E-mail updates: 

Fed's Taper & Market Reaction

Federal Reserves will make a decision about its monetary taper in this upcoming week. Majority of analysts are expecting a taper. The question one should be asking right now is that how will the markets react to Fed's decision to taper. This is because only market's price reaction to the news pays, and not what the news was. As for the market, it has been rising nicely for the past 2 weeks. In fact, after bottoming on August 30 (the IPM Model bottom date), market has rallied to 1690 in 2 weeks i.e. an increase of ~70 points.

As we approach this critical week, markets are over-bought and some sentiment measures are touching optimistic extremes. This type of market behaviors asks us to be cautious over the next week or so.

If we had a Federal Reserves meeting scheduled with possibility of taper at a time when sentiment was pessimistic and market had been over-sold, it would have been a good time to buy the FOMC meeting's outcome. However, current market structure from an Elliott Wave perspective along with Market Matrix's analysis suggests that we might be in for a sideways to down market over the next few days.

From a global perspective, emerging markets are in a very interesting position. These markets have been in a downtrend since January 2013. Although they have seen a sharp rally over the past few weeks, this rally has brought the emerging market index at a critical resistance level.  If EEM fails to break sharply above recent highs, there is a serious potential that downtrend will resume.

Please note that according to proprietary market classification methodology, emerging markets recently entered a bear market in May 2013, and have been in a bear since then. Now the question remains if they will be able to break into a bull market, or the Bear will re-assert itself. Bear's reassertion would lead to widespread consequences. Next week will give us a better picture of how the emerging markets will react to Federal Reserve's monetary policy decision.

Finally, futures are rallying sharply on the decision of Larry Summers withdrawal as Fed's next chairman. This rally has taken most of U.S. indices to all time highs. It falls nicely in line with September Strategy

Market Analysis & 8/4 Test

Friday saw a sharp decline in the markets, as expected from the IPM Model forecast, which stated that markets should continue to decline till next turn date. Markets topped in October, and started to decline while most of the people were expecting a rise into the elections. If market continues to decline over the next week, people will start attributing this decline to damage caused by Hurricane Sandy. However this might not be the case, in fact this decline might suggest that market is expecting a Obama Win in the elections (another blog post will be published).

Since one needs to analyze the market from a holistic perspective,  Market Matrix helps in analyzing the market in terms of Sentiment, Market Trend, Elliott Wave structure, Technical Indicators, and Leading Markets. Market Matrix takes on even more importance when taken in conjunction with the 8/4 Test. Currently, Market Matrix is neutral while 8/4 test is signaling a sell signal. This is very ominous development for the market.

8/4 Test is a unique method developed by Understand, Survive and Thrive, to determine when we have seen a significant trend change. Friday's market decline has brought the market very close to generating a Sell Signal. The 8/4 Test has perviously signalled larger trend changes. For example, a 8/4 Sell Signal was generated before following declines:

May 2010       SP500: 1164 ==> 1004     -     13.8%
May 2011       SP500: 1330 ==> 1264     -     5%
July 2011       SP500: 1326 ==> 1076     -     18.9%
Nov 2011       SP500: 1216 ==> 1160     -      4.6%
May 2012      SP500: 1365 ==> 1265     -      7.3%

Median Decline: 7.3 %, Average Decline = 9.9%
Prob (Decline) = 0.9

Expected Decline = 9.9 *.9 = 8.96%


8/4 Signal is composed for 4 steps:
1- Decline / Setup: This step involves initial decline to a proprietary Moving Average (8)
2- Test: Initial decline is followed by a rise to a faster proprietary Moving Average (4), but does not make a new high
3- Failure: Market starts a sharp decline
4- Breakdown: Market breaks below the M.A. (8)

We are currently at the fourth step. Once this step is completed (Decline below 1406), we can see sharp decline. Based on expected decline of 8.96%, market can decline to low 1300s. Please note that this is a statistical calculation, and will be refined with the latest IPM data)

Interesting Observation:
The market top was forecasted by the IPM Model even before the 8/4 Setup was initiated. Current 8/4 test suggests that the decline we are witnessing right now will be deeper then expected. Although we can see a brief rally within next 2 weeks (as per IPM update sent to subscribers), market will not start a bull market after elections have been completed. Instead we could see a lower low or a double bottom at the next IPM Turn date (will be sent to subscribers).

 SUBSCRIPTION INFORMATION

If interested in these updates, please fill out the form below.