A Good Offense Is Not Always A Good Defense

Oct. 7, 2018

Emotional, angry, obtuse, petulant, and partisan with an underlying sense of entitlement are not characteristics that describe Supreme Court Justices.  Yet, Judge Kavanaugh displayed every single one of these traits during his job interview. 

Regardless of whether the serious accusations of drunken sexual crimes are true or not (they should be investigated by the police, and if found to be false, the people making these accusations should be criminally charged), the fact that Kavanaugh's 'offensive-defense' revealed his inability to stay calm, cerebral, measured, non-partisan, and respectful of the process during his own, personally stressful situation demonstrates that he lacks the even-keeled demeanor required for the job of Supreme Court Judge.

The world is watching.  Let us hope that they are not about to witness the death of the Republican Party.

However, political theater, no matter how disturbing, is not what drives markets.




The bull-minus-bear differential stands at +5% which means a market top is extremely unlikely (chart below).

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The National Association of Active Investment Managers (NAAIM) exposure index 50-week MA leads market down-turns and lags behind market up-turns. The average continues to bottom (chart below).

The put-to-call ratio has a strong negative-correlation with the SPX; down-spikes in the 8-week MA indicate local market tops, while up-spikes indicate local bottoms. The average has made two short-term up-spikes and could be in the process of making a third which implies a short-term bottom and a continuing rally (chart below).

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The price/earnings ratio of the S&P 500, in ratio to the volatility index (PE:VIX), has a strong direct-correlation to the S&P 500; 85% of up-spikes in the ratio correspond with local market tops, while nearly 100% of down-spikes correspond with market lows.

Last week, we wrote:

...the decreased slope of the ratio makes an up-spike (and a local top in the SPX) more likely, this coming week.

An up-spike did form, along with a local top in the SPX.  At this point, there are several paths possible: the ratio could bounce off the pink-colored trend-line, or it could drop as far as the green-colored trend-line: the SPX could rally right away, or first drop to 2900, or 2870 (previous high and lower trend-line) before rallying.


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The chart below consolidates several sentiment indicators; the Rydex bear:bull asset ratio, the Rydex bull assets (on its own), AAII bull sentiment , and AAII bear sentiment. Last week, the latter three indicators were forming short-term bearish patterns, but this week,  all three have turned bullish once again.  This indicates that a correction is unlikely to be major (chart below).

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The long-term (monthly) technical situation continues to be positive:


The 8-month MA remains above the 12-month MA.

The RSI has stabilized.

The S&P 500 continues above its 8-month MA.

The MACD continues to diverge away from a bear cross-over.

The ADX +DI is increasing, and the -DI is decreasing.

The stochastic continues to move higher .

This pattern is similar to what happened during the 1998-2000 trading period (shaded areas on the chart below). The only worry we have is that the ADX trend strength (black curve) has moved above the down-sloping trend-line (dashed blue-line) which has acted as a turning point for the trend strength in the past. This indicator can, however, continue to rise above the blue dashed-line like it did in 1998 (chart below).



Last week, we wrote:

Before we see new highs, however, it is likely that the SPX will fall back to close the gap at 2910-2920, with a possibility of reaching further back to the previous gap in the 2880 zone

This week, the SPX closed the 2910 -2920 gap as we had predicted. Described in the sentiment section above, are several paths that the SPX could take in the near-term ( blue dashed-arrows in the chart below).

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Two years ago, almost to the day, we started writing about the similarity of today's bull market with that of the tech rally of the late 90's (see here). Since then, the similar patterns have continued to replicate, providing confirmation of our thesis that human emotion drives markets and leaves behind "footprints" in the form of repetitive pricing patterns.

These patterns, while having similar shapes, often do not have the same time-frame; the 2018 pattern has a longer time-frame than the 2000 pattern does. This makes them more fractal-like but does not change their repetitive nature.

The latest rally (labelled R4), has surpassed the previous high (horizontal black dotted-line) and is likely to continue producing higher-highs. When the yield on the S&P 500 is overlaid, we see that it also is replicating the pattern from the tech rally (two charts below).



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Despite the consensus that stocks are overvalued, when we look at the dividend yield minus the 6-month Treasury yield, we see that stocks are less overvalued now than at any time during the tech rally, and during most of the housing bubble. Until the differential flattens or starts to rise, stocks will be in a bull market (chart below).

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The Yuan/gold pattern from 2017 which we are following is only partially replicating. The Yuan has managed to stay at support, and the RSI, MACD, and ADX are replicating the pattern, while the gold price, stochastic, and the correlation have not. The situation with the Yuan is neutral when it concerns gold (chart below).

Unlike the Yuan, the Euro is reinforcing the downward pressure on gold. It failed to overcome the 38% Fibonacci retrace, and has fallen below the descending trend-line as gold fell (chart below).

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The correlation of gold and rates have returned to the normal negative relationship (chart below).

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The short-term technical picture looks weak: the MADC has made a bear cross-over, the stochastic is falling, the -DI is increasing, the +DI is decreasing, and the RSI is neutral (chart below).

The USD/JPY FOREX pair is in a bullish uptrend which means gold will be under pressure (chart below).

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The commitments of gold futures traders remain at historic levels where the large speculators are net short like never before.  Although extremes in the net positioning of the large speculators has corresponded in the past to pivot points in the price of gold, that fact remains that these money managers are momentum players who keep their positions as long as they are making money, so until the price of gold starts to lose them money, they will stay in the trade.  There is no way of knowing when that will occur.  This indicator has not worked over the last several months.  We regard it as neutral at this point (chart below).