S&P 500 Archives | Opportunity Identified

May 30, 2017 | Posted by David Zarling, Head of Investment Research

The Index You Never Heard Of Is Giving Important Insight

For our readers in the United States, we hope this update finds you refreshed after the long weekend and remembering those who gave their life to ensure their fellow countrymen remain free. The U.S. Markets were closed for this important observance, with trading resuming this morning. If you’re a regular reader of our work, you know it’s important to take a look at price, markets, and trends from different angles. Any edge we can gain in identifying opportunities is valuable. In this week’s post, we want to show you an important index you’ve probably never heard of that can provide valuable insights regarding the health of the U.S. stock market: the Value Line Geometric Index (XVG). This index tracks the median move of stocks within the index using the assumption that each stock has an equal amount (for example, $1,000) invested in them. The daily average move of this index is calculated geometrically (rather than arithmetically). I don’t want to bore you with the details, but if you need more info, you can read more about the methodology here, page 4. More simply put, this index eliminates an illusion created by weighted index components. Weighted stocks within an index can pull it higher even as the majority of the stocks within the index are not following along. For example, in a weighted index like the S&P 500, it’s possible for the top 100 weighted stocks to carry the index higher while the remaining 400 stocks lose value. As an investor, it might be helpful to identify when this is happening.

By looking at the Value Line Geometric Index alongside the S&P 500, we gain valuable insight into what is currently taking place in the market. Looking at the chart below, the Value Line Geometric Index is in the upper panel and the S&P 500 in the lower.

Notice the equal-weighted Value Line index is holding steady above the highs of 1998, 2007, and 2015 while the S&P 500 has continued higher (divergence). This condition has been persistent since December 2016. This means the market is thin: money is flowing into large cap stocks and leaving the rest behind. This is a stock picker’s market and can be a hallmark of market tops, but is not a guarantee a price correction is upon us. It should be noted when looking at the chart above that this condition can persist for quite a while before there is an overall resolution to the market (aka a correction in price). In the past, a noticeable divergence developed between the Value Line Geometric Index and the cap-weighted S&P 500 before the S&P 500 corrected in price. This doesn’t mean the S&P will correct in price right now or at all. But, it does mean that it is getting harder to find U.S. stocks that are trending up. If the majority of U.S. stocks are flat or down, what stocks are carrying the market higher? Awesome question. Let’s take a look at the data. Here’s a great visual from Financial Times using data from Bloomberg:

This chart shows while most stocks within the S&P 500 have been flat, it’s Technology pulling this major index higher. Many assume when the S&P 500 records new highs, it means everything under the surface is participating. This couldn’t be further from the truth. In fact, many sectors are currently underperforming the overall index. Because of tech’s large weighting (over 20%) in the S&P 500, it’s been carrying the water for other sectors currently struggling to gain traction for the past few months.

While the condition persists, market participants will need to be diligent in their stock selection. In addition, we’ll want to watch for clues from the leading sector, Technology, on whether this current run can continue. It’s a positive when economic bellwethers like Apple (AAPL), Amazon (AMZN), Facebook (FB), Google (GOOGL), Nvidia (NVDA), Adobe (ADBE), Microsoft (MSFT), and Netflix (NFLX) can lead. At the same time, it would be healthy if more sectors start to participate. If and when laggards like Energy and Financials find demand, it could signal another strong leg higher for the overall market. But if Technology start to sell off and the Value Line Geometric Index fails to hold these recent highs, it likely means a decent correction will be underway. As always, we don’t need to predict to invest. Price is the only fact that matters. And as long as this condition is in place, we’ll be watching the price of the S&P 500 closely. You should be too.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to a time-saving tool we’ve created, The Ultimate ETF Cheat Sheet. Click this link to get your FREE easy-to-use resource guide for all your ETF needs.

Disclaimer: Nothing in this article should be construed as investment advice or a solicitation to buy or sell a security. You invest based on your own decisions. Everything in this post is meant for educational and entertainment purposes only. I or my affiliates may hold positions in securities mentioned in this blog. Please see our Disclosure page for full disclaimer.

May 8, 2017 | Posted by David Zarling, Head of Investment Research

Why The Hindenburg Omen Is More Than Just A Scary Name

Four days ago, on May 4th, a Hindenburg Omen triggered on the same day for both the New York Stock Exchange and Nasdaq Composite. Recording a Hindenburg Omen for both exchanges on the same day is a rare event. This chart, courtesy of SentimentTrader, shows just how rare this event is:

Before we dig into the market implications, let’s put the work in and get a big picture understanding of the Hindenburg Omen, how it came to be, what it is, what it’s not, and how we can use it to identify opportunity and manage risk.

Ironically, two days ago (May 6th) was the 80th anniversary of the tragic explosion of the Hindenburg, a behemoth airship which measured as long as the famous ocean liner, Titanic. Filled with hydrogen, the Hindenburg represented the aspirations of human flight only a decade after Charles Lindbergh became the first to fly solo across the Atlantic. The Hindenburg carried passengers during a time when very few had experienced human flight. It was a futuristic symbol of aviation and an icon of technological progress. However, on May 6, 1937, the Hindenburg exploded in flames, crashing to the ground, taking 36 lives with it. It was a catastrophe not only because of the loss of life, but because just like the Titanic, the Hindenburg had once projected invincibility. It was a tragedy which reverberated across the globe as new technologies of film, tv, and radio, carried the calamitous news far and wide. Are you familiar with the phrase, “oh, the humanity!”? These were Herbert Morrison’s famous words as he emotionally reacted to the disaster live on radio. Watch the 40-second clip below to hear the emotion in his voice and grasp the magnitude of this event:

To the world in 1937, this was a tragedy of immense proportion. And for decades following, the word “Hindenburg” was synonymous with catastrophe. Which brings us to the Hindenburg Omen, a technical indicator named after the aforementioned crash. If using the word “Hindenburg” wasn’t enough, adding the word “Omen” surely solidified the sinister connotation implied when labeling one of the most misunderstood indicators in the market today. If you were to Google “Hindenburg Omen,” you would receive a plethora of results providing the metrics for calculating it, yet none of them are in agreement. We’re not going to pretend this article has the final say on the specifics of the Hindenburg Omen. But, we’re hoping this post provides a tremendous amount of clarity (and sanity) regarding this legitimate approach for identifying market conditions during which there is an increased likelihood of a market correction.

Let’s break down the Hindenburg Omen into bite-size factoids and illustrations for better understanding:

The Hindenburg Omen is meant to operate as a warning signal and was developed by the late James R. Miekka as an improvement to Gerald Appel’s Split Market Signal.
A man named Kennedy Gammage first named the indicator “the Hindenburg Omen” in his market newsletter, the Richland Report. The label stuck. And in our humble opinion, this was a terrible label meant to imply and sensationalize disaster ahead for the market. Case in point, in today’s financial media, when there is a Hindenburg Omen sighting (which may not even be accurate – see below), they sensationalize it (e.g. “This Indicator Just Signaled Market Disaster Ahead”), and then dismiss it as ineffective when the market does not sell off dramatically.
The Hindenburg Omen does not guarantee large market corrections. Rather, it highlights when the market being measured is showing signs of fracturing, which can lead to corrections large AND small.
The Omen can be calculated and tracked on difference indices such as the Nasdaq Composite and New York Stock Exchange.
The Hindenburg Omen’s basic function is to identify when significant bifurcation is taking place within any given market. Basically, think of it this way. Imagine you are driving down a two-lane highway with hundreds of other vehicles, all heading in the same direction. The traffic is flowing in sync at about 75 miles per hour. This is perfectly normal and expected behavior. We’re making great time and life is good. All of a sudden, the traffic in the left lane accelerates to 90 miles per hour and the traffic in the right lane slams on the breaks. What’s going on here? Is it an accident? Is there road construction? Has someone been pulled over by highway patrol? We won’t know until we travel further down the road. It could be nothing, but understandably, we may want to take heed and be on alert for something odd up ahead. It’s the same way with the Hindenburg Omen, which does a great job identifying when stocks are traveling at two different speeds (or more accurately, directions).
Here is the formula for triggering a Hindenburg Omen, as written by Jim Miekka himself:
1. First, the number of issues in a specific exchange hitting 52-week highs (left lane of traffic) and lows (right lane of traffic) must both exceed 2.8 percent of the number of issues in said exchange. (Many articles report a requirement of 2.2 percent, which is incorrect.)
2. Second, the benchmark index for the exchange must be above the value it had 50 trading days, or 10 weeks, ago. (Again, many sources get this incorrect, referencing an exchange must be above its 50-day moving average. This is not accurate.)
3. Once the two aforementioned events have occurred, the signal is valid for 30 trading days. During the 30 days, the signal is activated whenever the McClellan Oscillator (MCO) is negative, but deactivated whenever the MCO is positive. (This is an extremely important distinction that many publications inexplicably omit.)
There are many charts and articles on the internets which indicate the Hindenburg Omen is a “cry wolf” indicator that only “works” 30% of the time. Unfortunately, these articles use incorrect calculation methods (they do not use the parameters above, often omitting the McClellan Oscillator requirement) or use improper success metrics (e.g. since the market didn’t crash 20% – it only corrected 5% – the indicator doesn’t “work”). Garbage in. Garbage out. If the proper calculations are not used or improper means of measuring a successful result are taking place, then it’s no wonder there is so much confusion regarding the Hindenburg Omen.

To show just how important this signal is, here is a chart showing times when Jim Miekka’s Hindenburg Omen has triggered on the Nasdaq Composite:

Greg Morris, a 40-year market technician and acquaintance of Jim Miekka, was kind enough to use the correct methodology to create the signals in the lower pane of the chart above. It’s quite clear the Hindenburg Omen tends to be an important indicator of market fracturing. It’s not perfect. But even at first glance, it becomes obvious this indicator of market health has significance and should be recognized as a warning sign for the overall market. Does it guarantee an impending market correction? Absolutely not. But it does have the capacity to identify when markets are fractured and breadth is narrow, which are characteristics of an unhealthy market.

As always, price knows best. Higher highs in the overall market are still a possibility. Market bulls will want this bifurcation to resolve with increased participation and a reduction in new lows on each index. And whenever the Hindenburg Omen is referenced, make sure it’s Jim Miekka’s formula and not a clickbait garbage pushed by entertainment networks masquerading as financial news outlets. After all, data and facts matter. And when the real Hindenburg Omen triggers, market participants should pay attention to its warning.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to an investing tool we’ve created, The Ultimate ETF Cheat Sheet. It’s an easy-to-use resource guide.

May 1, 2017 | Posted by David Zarling, Head of Investment Research

One Important Divergence Bulls Need To See

Last time we checked, new all-time-highs are not a characteristic of bear markets. While all bear markets start from all-time-highs, not all-time-highs start a bear market. With many U.S. Indices recording new highs last week, we see uptrends still intact. And new all-time-highs have a tendency to make traders and investors nervous. In the end, we don’t need emotions involved in our investment decisions. We need to use hard data and the weight-of-evidence to guide us. And since we’re students of the markets and use intermarket relationships as part of our approach, we can look across sectors, industry groups, regions, and asset classes to get a top-down, big-picture view of market health. As part of that exercise, we want to see what areas are not making all-time-highs. Simply, as all-time-highs in U.S. markets are recorded, are there any important areas not currently joining the uptrend party? This is called divergence. Once such divergence market bulls need to keep an eye on is the Transportation sector. Take a look.

For many logical reasons, the Transportation sector is a bell-weather sector. This means it gives important clues about overall market health. This is due to its economic importance. If there is no demand to transport goods and commodities, it is logical that overall demand for those goods and commodities is to be desired. Many reading this will identify this relationship in regards to Dow Theory. For brevity’s sake, we’re not going to get into the nitty gritty of Dow Theory. We’ll save that for another post as it’s an important tenet of technical analysis. For now, we’ll observe the relationship in the chart above. Right away, we notice the Transportation industry giving important clues to market health in late 2014 through 2015. As U.S. markets were making new highs (using the S&P 500 as our proxy here), the Transportation sector was not. It was diverging. Making lower highs and lower lows. By very definition, this was not an uptrend. Rather, it was a downtrend. A downtrend that signaled caution for the overall market, which ended up selling off hard in July 2015. It came as no surprise when the S&P 500 bottomed exactly when Transports did the same. Together, they recorded higher highs and higher lows, the most significant new high coming in early November 2016. Since then, U.S. equities have been ripping. However, with last week’s new high across many U.S. indices, the Transportation sector recorded a divergence as it did not follow suit with new weekly highs. This is an important divergence bulls will want to see resolved to the upside. A breakdown here (below $160 using IYT, an ETF for the Dow Jones Transportation Average), would be problematic for broad market health. Conversely, if bulls are going to see this market continue to rip higher, we need the Transportation sector to participate. A new closing high above 170.74 would clear this divergence and indicate ongoing health for the overall market. Keep your eye on this one.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to an investing tool we’ve created, The Ultimate ETF Cheat Sheet. It’s an easy-to-use resource guide.

April 24, 2017 | Posted by David Zarling, Head of Investment Research

Use This Simple Technique To Make Better Trade Decisions

One of the most important jobs of a market participant is risk management. If you’re unable to identify when your position is wrong, then you shouldn’t be entering a position to begin with. Would we ever enter a crowded room without identifying where the exits are? I don’t think so. We have the same responsibility when entering a new position. At 360 Investment Research, when we enter a new position, we identify risk (and potential reward) by looking left. By looking left on a price chart, we can identify previous changes in supply and demand, which can give clues on where demand or support could appear. In a previous post, we used this simple technique to identify important levels on the S&P 500, one of the most watched indices and favorite proxy for discussing the U.S. stock market overall. By looking left, we can identify when buying momentum wanes and when selling pressure has entered the market. For example, if over a certain time period, price is making a series of lower highs and lower lows, we know sellers have more urgency than buyers for that time period. There is more supply than demand and price is trying to discover where the buyers live. So by looking left, we are using economic law (not opinion) to guide our investment decisions, entries, and exits. Using price removes mystery (and emotion) from our trade book. Let’s go through this exercise with the S&P 500 on daily and weekly time frames to identify where we are with the current market.

First, here’s the daily chart of the S&P 500:

When we look left, we can see price made of series of higher highs and higher lows from November through March. On March 1st, this important index recorded a new all-time-high. A series of higher highs and higher lows is indicative of a bull market. Since then, however, the characteristics have changed. They S&P 500 has recorded a series of lower lows and lower highs. Until this sequence is broken, the S&P 500 is in a downtrend on a daily timeframe. There’s no sugar coating it. Facts are facts and we’re not entitled to our own facts. Until the S&P 500 records a higher high and higher low, it’s in a downtrend on a daily timeframe. A good start towards this effort would be a close above the downward momentum trendline (in solid green). In addition, a close above 2368 would lock in a higher high with only a lower low needed to confirm an uptrend sequence.

Now for the weekly timeframe:

When looking left at the weekly data, it’s clear the S&P 500 is currently in a series of higher highs and higher lows. Can the market be in a downtrend on the daily timeframe and an uptrend on the weekly timeframe? Absolutely. In fact, that’s exactly what we have here. By looking left on both the daily and weekly timeframes, we can gain a better understanding of market trends. It’s not the only thing we look at, but it’s a big piece of evidence. And the current assessment has the S&P 500 in a daily downtrend within the friendly confines of a weekly uptrend. In essence, we’re in a correction within a larger uptrend. Price is moving downward in search of buyers. This is normal market behavior. Trees don’t grow to the moon and markets don’t go up every single week without periods of correction.

Where could this market potentially find buyers? Simple. Look left. We can quickly identify buyers have shown up near the 2330 level. On both the daily and weekly timeframes, that’s an important level to watch. Below 2330 and the next level of support for the S&P 500 resides somewhere between 2235 and 2265 (note: 2235 is also the value of the 200-day simple moving average, a common area of institutional support). Further correction into this area would still fall within the framework of a normal pullback in an uptrending market. On the other side of the equation, if buyers can provide enough demand here to break the sequence of lower lows on the daily timeframe (pushing the S&P 500 to a daily close above 2369), this makes an attempt at the weekly high of 2383 more likely.

As part of our every-day process as market participants, we need to identify sequences of lows and highs. This exercise provides valuable information to help us remain on the right side of the trade.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to an investing tool we’ve created, The Ultimate ETF Cheat Sheet. It’s an easy-to-use resource guide.

April 10, 2017 | Posted by David Zarling, Head of Investment Research

This Is How The Relationship Between Lumber And Gold Will Impact Your Portfolio

Many investors tend to focus on asset-class specific study to gain an edge. They attempt to obtain outperformance based on factors directly related to the asset class being studied. This is an appropriate practice and can provide valuable insight. But in this post, similar to last week’s article on the relationship between Copper and Latin American equities, we’re going to look at the relationship between Lumber and Gold. Specifically, we’re going to follow-up on previous research showing the relationship between Lumber and Gold contain insights into risk-seeking and risk-averse behavior in stocks. The Lumber/Gold relationship is not a novel idea. This important connection was brought to the fore by Charlie Bilello and Michael Gayed in their 2015 NAAIM Wagner Award Winning Paper, “Lumber: Worth Its Weight In Gold.” Charlie and Michael are extremely smart asset managers with strong thought leadership when it comes to actively managing funds. We can’t hold their intellectual jocks, but we can use their research and look into the current state of Lumber and Gold to find another piece of evidence for managing risk in today’s market. In their research, they find:

As Lumber outperforms Gold, equities tend to exhibit an upward bias and have lower volatility. These are conditions that are conducive towards maintaining higher exposure to risk assets. As Gold outperforms Lumber, the opposite tends to be true, whereby the inclusion of lower beta assets in a portfolio increases overall return and lowers volatility at the time it is needed most. The relationship between Lumber and Gold helps to answer the most critical question for active asset managers: when to take more risk (“play offense”) and when to take less risk (“play defense”) in an investment portfolio – before it’s too late.

The relationship between Gold and Lumber can give us valuable insight into U.S. stock market volatility and risk. As market participants, we can use this relationship to give us an edge. Simply put, their findings highlight when Lumber is outperforming Gold, it is a risk-on (offensive) characteristic for stocks. In this scenario, investors can be more aggressive with their equity exposure. Oppositely, when Gold is outperforming Lumber, this is risk-off (defensive) behavior and investors should take a more protective stance. Accordingly, it makes sense for us to dig into how Lumber and Gold are performing and conclude with a review of their relative strength to each other.

Here’s the weekly chart of Gold:

Gold remains in a downtrend from weekly perspective. Since 2011, everyone’s favorite precious metal has been making lower highs and lower lows, the very definition of a downtrend. That is, until recently. In early 2017, Gold locked in a higher lower. This was a productive step towards trend change. If it can break through the upper green trend line, we’ll have a break in trend momentum. A close above $1,375 would establish a higher high and a potential new uptrend underway. For now, it remains within compression (two converging trendlines). Out of this compression will come a move that most likely will determine Gold’s future in the weeks and months ahead.

As for Lumber, here’s its respective weekly chart:

Lumber broke out of a downtrend in early 2016. In fact, Lumber’s higher low in February 2016 coincided with a bottom in U.S. stocks. Never discount coincidence. Since then, Lumber has continued to establish higher highs and higher lows in price. Just last week, it broke from a month’s long consolidation to make an attempt at the early 2013 highs. A break above the $400 level would be extremely productive for Lumber overall.

Now, here’s what you’ve been waiting for. The weekly chart of Lumber : Gold. As a friendly reminder, when Lumber is outperforming Gold, the ratio rises. When Gold is outperforming Lumber, the ratio falls.

Even going back to 2011, we can see the ratio bottom in August of that same year. Do you know what also bottomed at the very same time? The S&P 500. The ratio broke out of a long-term downtrend in late 2012, which preceded the S&P 500 breaking to fresh all-time-highs in August 2013. Similarly, this important ratio broke down in late 2014, which preceded an S&P 500 breakdown in July 2015. More recently, we’ve seen Lumber outperform Gold and establish a higher low in February 2016 and breakout of an intermediate downtrend in November 2016. Since then, the ratio has been continuing its movement upwards signaling risk-on behavior in stocks and diminishing volatility overall. We’ve definitely seen stocks take off since then and volatility crushed with one of the calmest markets in history during this time frame. Just last week, as Lumber broke towards its 2013 highs, this ratio also broke out to a level not seen in eight years.

The next few weeks will be crucial for this relationship and the significance it carries for equities overall. Lumber needs to break through the $400 level in order to ratio to hold onto its recent breakout. If Lumber : Gold can hold onto these recent highs, it will likely mean further upside for equities (especially high beta equities) and suppression of volatility. On the flip side, if Lumber falters here while Gold continues to move upward, the ratio will roll over, signaling a need to take a defensive stance in your portfolio.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to an investing tool we’ve created, The Ultimate ETF Cheat Sheet. It’s an easy-to-use resource guide.