The stock market started what appeared to be another leg up in the past week, as the benchmark S&P 500 broke out over resistance at 3900 points.
In fact, the index rose to 4020 but then ran into trouble. There is support at 3900, but if that level is violated, the recent jump would be, in reality, a false breakout. So there is a struggle between the bulls and bears for control, right at current levels.
The SPX is still in a downtrend, as denoted by the heavy blue lines on the accompanying chart of the index, below. The horizontal red lines indicate support: 3900, then the early November lows at 3700, and finally, the yearly lows near 3500.
The recent rally did not quite reach either the 200-day moving average (currently at 4070 and declining) or the bear market downtrend line (near 4100). If support holds at 3900, there is still a chance that those upside levels could be challenged, but, frankly, it seems that the bulls had their opportunity and didn’t seize it.
The McMillan Volatility Band (MVB) buy signal remains in effect, and its target is the +4σ “modified Bollinger Band,” which is currently above 4100 and rising.
Many of our internal indicators have been positive since the October bottom and throughout this rally. They have not begun to roll over to sell signals yet, for the most part, but some are beginning to weaken.
Equity-only put-call ratios remain on buy signals, as they are continuing to decline. The CBOE equity-only put-call ratio also remains on a buy signal, although it registered a very large number yesterday (indicating extreme bearishness), which seems a bit out of line with other data points for that indicator.
Breadth hasn’t been the greatest in this rally, and the breadth oscillators have flipped back and forth from buy to sell signals. They are about to be on sell signals, if today’s negative overnight action persists through the day. This is the first of our indicators to generate a new, confirmed sell signal.
The number of new 52-week highs on the NYSE continues to remain subdued, so this indicator (new highs vs. new lows) never did generate a buy signal. In fact, it has been on a sell signal since last April.
The CBOE Volatility Index
VIX,
has bounced up by a small amount in recent days, but it remains in a state that is generally bullish for stocks.
First, the “spike peak” buy signal that was generated about a month ago has “expired.” That is, the trading system that we built around “spike peaks” calls for exiting the trade after 22 trading days, and that has been reached. So there is no “spike peak” buy signal in effect at this time.
Second, there is a new trend of $VIX buy signal, since the 20-day moving average of VIX has crossed below the 200-day MA. That will remain in effect unless $VIX itself crosses back above the 200-day MA, which is currently at 26.70 and beginning to decline. Since VIX is near 25, the new buy signal is still in a somewhat tenuous state but is safe for now.
The construct of volatility derivatives is a solidly bullish indicator (for stocks) at this time. That is, both the term structures of the VIX futures and of the CBOE Volatility Indices slope upwards. Moreover, the VIX futures are trading at a premium to VIX. The November VIX futures expired yesterday, so December is now the front month.
We will now be monitoring the price of December vs. January VIX futures. If December should rise above January, that would be a new bearish development. Currently January is trading a healthy 1.85 points higher than December, so there is no imminent danger of a sell signal on that front.
In summary, we continue to maintain a “core” bearish position, because of the downtrend on the SPX chart. Until a rally can break through that upper blue line, this is still a bear market, and the “core” position is warranted. However, we have also traded other confirmed signals around that “core” position (mostly successful), and we will continue to do so.
New recommendation: Thanksgiving seasonal buy
There are several seasonal factors that come together late in the year. In short, they are 1. the post-Thanksgiving rally, 2. the “January effect,” and 3. the “Santa Claus rally.”
These encompass the entire period between the day before Thanksgiving through the second trading day of the new year. Moreover, small-cap stocks (as measured by the Russell 2000 Index
RUT,
) outperform large-cap stocks over that time frame.
The Russell 2000 is tracked by the iShares Russell 2000 ETF
IWM,
We buy IWM calls at the close of trading on the day before Thanksgiving and exit the position at the close of the second trading day of the new year.
Since Thanksgiving is next week (before our next newsletter), we are making the recommendation today.
At the close of trading on Wednesday, November 23rd,
Buy 2 IWM Jan (20th) at-the-money calls
And Sell 2 IWM Jan (20th) calls with a striking price 20 points higher.
We will adjust this position if IWM rallies during the holding period, but initially there is no stop for the position, so the entire debit is at risk.
New recommendation: Phillips 66
A new put-call ratio sell signal has been generated by the weighted ratio in Phillips 66
PSX,
Buy 2 PSX Jan (20th) 105 puts
At a price of 6.00 or less.
PSX: 106.79 Jan (20th) 105 puts: 5.60 bid, offered at 6.00 We will hold this as long as the weighted put-call ratio remains on a sell signal. That is, as long as the put-call ratio is rising.
Follow-up action:
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.
Long 1 expiring SPY Nov (18th) 352 put and Short 1 SPY Nov (18th) 325 put: this is our “core” bearish position. As long as SPX remains in a downtrend, we want to maintain a position here, so let these options expire and Buy 2 Dec (16th) 375 puts and Sell 2 Dec (16th) 355 puts.
Long 1 expiring SPY Nov (18th) 396 call and Short 1 SPY Nov (18th) 416 call: this trade based on is the MVB buy signal, which was established on the morning of October 4th. Since SPY traded at 396 this past week, the spread was rolled up 20 points on each side. Now sell the expiring November spread and replace it with the following: Buy 1 SPY Dec (23rd) at-the-money call and Sell 1 SPY Dec (23rd) call with a striking price 16 points higher. This trade’s target is for SPX to trade at the upper, +4σ Band. The stop for this position would be if SPX were to close back below the -4σ Band.
Long 1 expiring SPY Nov (18th) 387 call and Short 1 SPY Nov (18th) 407 call: this spread was bought in line with the latest VIX “spike peak” buy signal, which was confirmed on Monday, October 17th. The spread was rolled up when SPY traded at 387 this past week. We are going to exit this spread now (and not replace it), since the trading system that we built around “spike peak” calls for exiting after 22 trading days, and that deadline has passed.
Long 300 KLXE: raise the stop to 13.80.
Long 2 WRK Jan (20th) 32.5 calls: we will hold as long as the weighted put-call ratio remains on a buy signal.
Long 1 SPY Dec (2nd) 371 put and Short 1 SPY Dec (2nd) 351 put: when breadth was negative on the NYSE on November 3rd, we established this position. The breadth are on sell signals at this time. We will update this position weekly.
Long 1 SPY Dec (9th) 390 call and short 1 SPY Dec (9th) 410 call: the spread based on the rare CBOE Equity-only put-call ratio buy signal. As a stop, we will close it out if SPX closes below 3700.
Long 1 SPY Nov (18th) 399 call: this trade was based on the fact that VIX9D closed below VIX on November 11th. Roll the call up if it becomes 10 points in-the-money, and close out the entire position at the close on November 18th. Long 2 KMB Jan (20th) 125 calls: we will hold these calls as long as the weighted put-call ratio of KMB remains on its buy signal.
Send questions to: lmcmillan@optionstrategist.com.
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 the best-selling book, Options as a Strategic Investment. www.optionstrategist.com
Disclaimer:
©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.
