Saturday , March 23 2019
Home / Bull Markets / A big divergence within the stock market

A big divergence within the stock market

by
Troy
My articles My books
Follow on:
Summary:
The S&P is bumping up against 2810. Meanwhile, volatility remains subdued and growth stocks have significantly outperformed value stocks since the start of 2018. Go here to understand our fundamentals-driven long term outlook. Let’s determine the stock market’s most probable medium term direction by objectively quantifying technical analysis. For reference, here’s the random probability of the U.S. stock market going up on any given day. *Probability ≠ certainty. Past performance ≠ future performance. But if you don’t use the past as a guide, you are blindly “guessing” the future. Subdued volatility VIX has fallen to a new low. Here’s what happens next to the S&P when VIX closes below 13.5 As you can see, this is quite bullish for stocks. Prior bear markets began when VIX

Topics:
Troy considers the following as important:

This could be interesting, too:

Troy writes Similarities between the stock market today and previous bull market tops

Troy writes March 21, 2019: fundamental outlook for stocks

Troy writes The Fed acknowledges “recession risks”. Run for the hills!

Troy writes Is there complacency in the stock market right now?

The S&P is bumping up against 2810. Meanwhile, volatility remains subdued and growth stocks have significantly outperformed value stocks since the start of 2018.

A big divergence within the stock market

Go here to understand our fundamentals-driven long term outlook.

Let’s determine the stock market’s most probable medium term direction by objectively quantifying technical analysis. For reference, here’s the random probability of the U.S. stock market going up on any given day.

A big divergence within the stock market

*Probability ≠ certainty. Past performance ≠ future performance. But if you don’t use the past as a guide, you are blindly “guessing” the future.

Subdued volatility

VIX has fallen to a new low.

A big divergence within the stock market

Here’s what happens next to the S&P when VIX closes below 13.5

As you can see, this is quite bullish for stocks. Prior bear markets began when VIX was trending higher.

A big divergence within the stock market

SKEW vs SPX

Abigail Doolittle, a host at Bloomberg, illustrated an interesting chart on Bloomberg TV today.

The following chart illustrates how SKEW has diverged from the S&P recently. (SKEW is a measure of the potential risk in financial markets. It typically moves inline with the stock market itself. I.e. when stocks go up, risk goes up. When stocks go down, risk goes down).

A big divergence within the stock market

From mid-January to present, the stock market has gone up while SKEW remains flat. Is this bearish for stocks? Will the S&P “reconnect” with SKEW?

Here’s what happens next to the S&P when SKEW falls while the S&P goes up more than 6.5% over the past 36 days.

A big divergence within the stock market

As you can see, not consistently bullish on any time frame, but forward returns are slightly less bullish than usual over the next 2 months.

SKEW is worth watching as an indicator, but we don’t incorporate it into any of our models.

Total Construction Spending

The latest reading for Total Construction Spending bounced out of negative territory.

The year-over-year growth in Construction Spending turned negative around the previous 2 bear markets.

A big divergence within the stock market

Construction Spending is mostly broken down into 3 components:

  1. Public
  2. Non-residential (e.g. business-related)
  3. Residential

The recent downturn in Construction Spending is due to the weakness in residential housing (as we’ve illustrated over the past few weeks with Housing Starts).

A big divergence within the stock market
  1. Construction Spending turned negative in 2006 because the 2007-2009 recession was led by a massive deterioration in the housing market. (Housing activity peaked in 2005 and crashed from 2006-2007).
  2. Construction Spending turned negative very late in 2002 because real estate and construction did well in the 2001 recession. The 2001 recession was mild, and unlike most recessions, it was led by a fallout in business spending instead of a fallout in residential investment.

This is why negative readings in Construction Spending aren’t consistently bearish for stocks. Sometimes this happens very late in the recession/bear market, and sometimes this happens quite early before a recession/bear market.

A big divergence within the stock market

Growth vs Value

On a long term basis (many decades), value stocks tend to outperform growth stocks (hence the “value” factor in investing). But this doesn’t occur all the time, and from time-to-time growth stocks will massively outperform value stocks. (For those who remember, growth stocks soared from 1998-2000 while value stocks fell).

Here is the S&P 500 Value Index vs. the S&P 500 Growth Index

A big divergence within the stock market

Here’s a longer term chart.

A big divergence within the stock market

You can see that while Value is still significantly below its January 2018 peak (lower highs), Growth is now back above its January 2018 peak. This is a divergence of more than 10%.

Here’s what happens next to the S&P 500 when Value falls more than -1% over the past 300 days while Growth rises more than 10%.

A big divergence within the stock market

There is a short term bearish bias for the S&P, but nothing more.

Here’s what happens next to Value

A big divergence within the stock market

Here’s what happens next to Growth

A big divergence within the stock market

As you can see, forward returns for Value are more bullish than forward returns for Growth. Everyone has their day in the sun.

Golden Crosses

And lastly, here are some “golden crosses” I’m noting. (A golden cross occurs when the 50 day moving average crosses above the 200 day moving average).

The NASDAQ McClellan Summation Index made a golden cross.

A big divergence within the stock market

Not consistently bullish or bearish for the S&P

A big divergence within the stock market

The Shanghai Index (Chinese stock market) will soon make a golden cross.

A big divergence within the stock market

A big divergence within the stock market

Interestingly enough, this is more bullish for the U.S. stock market than the Chinese stock market. (Is this actionable? No. There is no fundamental reason for why this should be more bullish for U.S. stocks than Chinese stocks. Be wary of correlations).

A big divergence within the stock market

A big divergence within the stock market

Emerging markets (EEM) have also made a golden cross.

A big divergence within the stock market

Also more bullish for the U.S. than emerging markets, although emerging markets’ forward returns 9-12 months later are solid.

A big divergence within the stock market

A big divergence within the stock market

Click here for yesterday’s market analysis

Conclusion

Here is our discretionary market outlook:

  1. The U.S. stock market’s long term risk:reward is no longer bullish. In a most optimistic scenario, the bull market probably has 1 year left. Long term risk:reward is more important than trying to predict exact tops and bottoms.
  2. The medium term direction (e.g. next 6-9 months) is more bullish than bearish.
  3. The stock market’s short term has a bearish lean due to the large probability of a pullback/retestFocus on the medium-long term (and especially the long term) because the short term is extremely hard to predict.

Goldman Sachs’ Bull/Bear Indicator demonstrates that while the bull market’s top isn’t necessarily in, risk:reward does favor long term bears.

A big divergence within the stock market

Our discretionary outlook does not reflect how we trade the markets right now. We trade based on our quantitative trading models. When our discretionary outlook conflicts with our models, we always follow our models.

Members can see exactly how we’re trading the U.S. stock market right now based on our trading models.

Click here for more market analysis

About Troy

Leave a Reply

Your email address will not be published. Required fields are marked *