Investors Already Knew The Verdict

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The stock market’s reversal on August 28th in reaction to Fed Chair Powell’s comments from Jackson Hole gave a clear warning that was supported by the technical evidence. I referred to this last week as a new verdict for the stock market and commented that “It would take a powerful rally early in the week to keep the daily A/D lines from moving into the corrective mode.”

Given the extreme selling the prior week, with two days when over 90% of the S&P and Nasdaq 100 stocks declined, the odds favored a bounce but the odds were wrong. From the open Monday to Thursday’s low the S&P 500 declined 3.2%. Even though the S&P rebounded 0.3% on Thursday it did not stem the bleeding.

Even though stocks had an impressive rally from the summer’s lows the investors surveyed by the American Association of Individual Investors (AAII) had not been convinced. Historically this has been a quite reliable contrary indicator as when the bullish % is near 20% or lower stocks have generally rallied and sometimes have formed a significant bottom.

After a low bullish % on April 13th of 15.8% (a thirty-year low) the bullish % only got as high as 33.3% on August 17th which was below the long-term average of 38%. As AAII commented, “bullish sentiment below its historical average of 38.0% for the 41st consecutive week”. Last week the bullish % dropped to 21.9%.

This weekly chart of the S&P 500 covers the period from June 2007 to August 2008. Below the chart is the bullish % from AAII which peaked with prices in October 2007, point a, at 54.6%. By January 3, 2008, it had dropped to 25.7%, point 2. As the S&P made new correction lows in March, point 3, the bullish % reached 20.4%. By May 1st, the bullish % had rebounded to 53.3% (point 4), and the rally peaked three weeks later. By July 2008, the bullish % had dropped to 22.2%.

In many ways, the recent rally was much stronger than what occurred in 2008. The S&P 500 and Spyder Trust (SPYPY
SPY
) moved above the 50% retracement level in August. It was more important from my perspective that the S&P 500 Advance/Decline line was able to surpass the five-month resistance, line c, at the end of July. There have been several instances, including 2016, 2018, 2019 and 2020 when similar breakouts identified the start of new uptrends for the stock market.

Last week’s NYSE advance/decline numbers were even weaker than the prior week with just 598 issues advancing and 2871 declining. Therefore it was not surprising to see that the S&P 500 Advance/Decline line has dropped back below its WMA. It would take a very strong rally this week to reverse this deterioration as a drop below the last low will create a new downtrend.

The Invesco QQQQQQ
Trust (QQQ) dropped more than SPY last week as it has declined for the past three weeks. The low last week was $295.17 with the weekly starc- band at $279.25 which also correlates to the early July lows. There is weekly resistance at $312.47 and the 20 week EMA which is starting to turn lower.

The weekly Nasdaq 100 Advance/Decline moved through its near-term downtrend, line c, which confirmed the positive divergence at line d. The longer-term resistance at line b, was not overcome. The A/D line has dropped sharply below its WMA and is getting closer to the bullish divergence support at line d. A drop below this support would be an indication that the June lows may not hold.

All of the daily A/D lines are below their MAs and negative but all are still above the summer lows. The wide gap between the A/D lines and their MAs indicates the markets are getting oversold. Also the key market tracking ETFs, like SPY and QQQ, have been testing their daily starc- bands for most of last week. These two factors are consistent with either some stabilization in the averages over the near term or a rebound.

Last week the S&P Growth Index (IGX) was down 3.9% while the S&P Value Index (IVX) was down just 2,7%. The weekly chart of the ratio has been declining for several weeks and has dropped below its 20 period EMA.

This confirms that the rebound in growth was over and that value is again leading. The long-term analysis indicated that while growth had led since 2009 but this started to change in the fall of 2021.

Even with the weekly and daily A/D lines both negative I still would favor having an allocation to stocks especially with bonds declining. Once the market decline is over I think the high-yielding value ETFs will be a good investment. Traders should consider taking light short positions but only on a rebound back to the 20 period EMAs and the monthly pivots where the risk can be better managed.



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