Bearish signs appear on Wall Street, and it's time to exit long bond positions
The S&P 500 SPX took a nasty downturn on Dec. 18, but the magnitude of the selling seems somewhat overdone.
The U.S. market still has are some bullish factors in place. Perhaps the biggest at this point is that SPX pulled back right to the strong, previously tested support area at 5,870, but has not violated it yet. A two-day close below 5,870 would be cause for us to relinquish our long-held "core" bullish position. In addition, there's resistance at or just below 6,100.
Pay attention to the bullish "island reversal" gap (circled on the accompanying SPX chart). And there is strong support at the 5,670 to 5,700 area. However, if SPX declines that far, then its chart will have taken on a more bearish tone.
Technically, the MVB buy signal (green "B" on the SPX chart) is still in effect since SPX never toughed the +4<SIGMA> band (the upper band). That position has been rolled up several times along the way, so profits are locked in.
The U.S. market is suffering from some internal damage, including breadth, "new highs versus new lows," and some poor action in other indices. For example, the Dow Jones Industrial Average DJIA fell for 10 consecutive trading days - nine of them preceding the post-Fed-meeting collapse. Similarly, the smaller-cap Russell 2000 index RUT hasn't fared much better - down 11 of the past 13 trading days as of Dec. 18.
Yet equity-only put-call ratios are not exactly joining in with the bearish crowd. The standard ratio (first chart) continues to make new lows. That's an extremely overbought condition, but it won't turn bearish for stocks until that ratio reverses and begins to trend higher. The second chart - the weighted ratio - does show a sharp upturn after the Dec. 18 market collapse, but one day does not make a change of trend. Even so, I've marked it as a possible sell ("S?").
Importantly, market breadth has just been abysmal. The breadth oscillators - which generated sell signals a little over a week ago - have descended into extremely oversold territory. But, oversold does not mean buy. They would have to show significant improvement, such as three straight days of advances leading declines, before generating a buy signal.
On the NYSE, new lows have taken control over new highs. This not only stopped out the intermediate-term buy signal from this indicator (which had been in place since August), but rolled it over to a sell signal. That sell signal arose because there have been more than 100 new lows consecutively in recent days. The last sell signal from this indicator (in early August 2024) was short-lived, but it cannot be ignored.
VIX VIX had been keeping the party going by hovering at low levels, but that is now over. VIX is "spiking" higher, and in doing so has raised some negative flags. The trend of VIX buy signal will be stopped out if VIX closes above its 200-day moving average (MA) of 16.0.
The potentially good news is that VIX has now entered "spiking" mode (i.e., it closed more than 3.0 points higher over a three-day or shorter time span). A "spike peak" buy signal will occur when VIX closes at least 3.0 points below the highest price that it has reached on this spike upward. So far, the high yesterday was 28.32, so today a VIX close at or below 25.32 will generate a "spike peak" buy signal.
The construct of volatility derivatives often takes on a bearish tone in a market like this, but it hasn't generated a sell signal. The term structure of the VIX futures has flattened out but hasn't reversed. The same can be said for the Cboe Volatility Index term structure.
At this point, we are still holding onto the "core" bullish position because of the SPX chart. A two-day close below 5,870 would terminate that position. Meanwhile, we are trading new confirmed signals as they occur. In addition, we are rolling options that are deeply in-the-money.
New sell signal
As noted in the market commentary above, there is a new sell signal from the "new highs vs. new lows" indicator.
Buy 1 SPY SPY (Jan. 17) at-the-money put and Sell 1 SPY (Jan. 17) put with a striking price 40 points lower.
This position will be held until new highs exceed new lows on the NYSE for two consecutive days.
Possible VIX 'spike peak' buy signal
VIX has been spiking upwards; when it does back down, a "spike peak" buy signal will occur for stocks. The trading system that we have built around these spike peaks has specific parameters:
If VIX closes at least 3.0 points below the highest price that is has reached from Dec. 18 going forward (currently 28.32 on Dec. 18), then buy 1 SPY (Jan. 24) at-the-money call and sell 1 SPY (Jan. 24) call with a striking price 20 points higher.
This trade, if established, would be stopped out if VIX were to close at a higher level than its previous 28.32 peak. Otherwise, the position will be held for 22 trading days.
New recommendation: Glimpse Group (VRAR)
This low-priced stock has exploded upward on strong stock and option volume over the past couple of days. Part of that move is due to a new contract that was signed with the U.S. Navy. We will use a limit here, because these options are volatile and expensive.
All stops are mental closing stops unless otherwise noted.
We are using a standard rolling procedure for our SPY spreads: In any vertical bull or bear spread, if the underlying hits the short strike, then roll the entire spread. That would be roll up in the case of a call bull spread or roll down in the case of a bear put spread. Stay in the same expiration and keep the distance between the strikes the same unless otherwise instructed. Also, for outright long options, roll up if they become eight points in-the-money.
Long 0 SPY (Dec. 27) 607 call: This position was based on the new highs vs. new lows buy signal. It was stopped out on Dec. 16 when NYSE new lows had outnumbered new highs for two consecutive days.
Long 1 SPY (Dec. 27) 607 call: This is our core bullish position. Stop out of the position if SPX closes below 5,870 for two consecutive days.
Long 4 WBA (Dec. 27) 9 calls: This is the alternative Dogs of the Dow position. Hold without a stop at this time. A takeover rumor is in effect, following a Wall Street Journal report that WBA (WBA) is in talks to sell itself to private-equity firm Sycamore Partners.
Long 3 expiring MSTY (Dec. 20) 31 calls: Roll to the MSTY (Jan. 17) 30 calls. Stop out on a close below 30 by MSTY MSTY.
Long 2 IWM (Jan. 17) 241 calls and short 2 IWM (Jan. 17) 254: This is the post-Thanksgiving seasonal trade. We will plan to hold this trade through the second trading day of 2025, so the entire amount of the money in this trade is at risk. If IWM IWM trades at 254, then sell the spread and replace it by buying the IWM (Jan. 17) call at that higher strike, holding it as an outright long.
Long 4 IEF IEF (Jan. 17) 94 calls: Sell these calls now, since the weighted put-call ratio for U.S. Treasury notes has rolled over to a sell signal.
Long 10 POET (Jan. 17) 5 calls: Sell the calls if POET (POET) closes below $4.25.
Long 1 SPY (Jan. 17) 607 call and short 1 SPY (Jan. 17) 622 call: Stop out if VIX closes above its 200-day moving average for two consecutive days. It has closed above for one day, so if VIX closes above 16.0 on Dec. 19, then exit this spread.
Long 3 ACGL (ACGL) (Jan. 17) 100 calls: Sell these calls now, since the weighted put-call ratio for U.S. Treasury notes has rolled over to a sell signal.
Long 1 SPY (Jan. 3) 605 put: Roll down to the SPY (Jan. 3) at-the-money put. We will hold this put as long as the oscillator sell signal is in effect. Both breadth oscillators are deeply oversold, but still on sell signals. It is probably going to take at least three days of positive market breadth to pull them out of these sell signals.
Long 4 DKNG (DKNG) (Jan. 17) 42 puts: We will hold these puts as long as the weighted put-call ratio for DKNG remains on a sell signal.
We are cancelling the conditional call buy in LKQ Corp. (LKQ) that was recommended the past few weeks.
All stops are mental closing stops unless otherwise noted.
Send questions to: [email protected].
Lawrence G. McMillan is president of McMillan Analysis, a registered investment and commodity trading advisor. McMillan may hold positions in securities recommended in this report, both personally and in client accounts. He is an experienced trader and money manager and is the author of "Options As A Strategic Investment." www.optionstrategist.com
(c)McMillan Analysis Corporation is registered with the SEC as an investment advisor and with the CFTC as a commodity trading advisor. The information in this newsletter has been carefully compiled from sources believed to be reliable, but accuracy and completeness are not guaranteed. The officers or directors of McMillan Analysis Corporation, or accounts managed by such persons may have positions in the securities recommended in the advisory.
-Lawrence G. McMillan
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