Charting A Course: Forest or Trees?

The short-term technical outlook has certainly improved.
 

• Sentiment measures hit extremes on the January re-test.
• A couple 90% up volume days.
• A few +3% moves.
• A spike in the Volatility Index (VIX).
• The Put / Calls ratio consistent with a tradable bounce.

Digging into individual names, many stocks are breaking down trends and trying to put in bottoming type patterns. The question is whether or not we just saw a re-test consistent with a meaningful bottom. We don’t want to miss the forest for the trees. Three or four months worth of technical improvement doesn’t negate the damage incurred from breaking a four or five year trend line.


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Source: WONDA

Looking at the longer term, the jury is still out but the weight of evidence still suggests some caution until proven otherwise. The markets are still in a downtrend technically. We're approaching formidable resistance overhead and we're overbought shorter term.

Technical breakdowns violating multi-year trends (as we saw in January) get resolved in two ways, either via time or via lower prices. In our humble view, given the level of risk out there currently it's better to be a bit late (and avoid a portfolio land mine in the process).  We look at the chart above and wonder if the S&P 500 will need to trace out another shoulder. Maybe that’s too easy, but it's worth watching.

History Repeats Itself

Using Tuttle Asset Management's 100 year Dow Chart, the market experienced its largest uptrend from 1982-2000 and saw the price to earnings ratio on the Dow Jones Industrial Average explode to 44. Looking back over a 100 years of data, after every secular bull market "a macro consolidation period or excessive sell-off has immediately followed and correlated in length of time." History also tells us that before every subsequent bull market, the P/E ratio dips to an "undervalued" 10 reading. With the P/E ratio currently sitting at roughly 13-14x’s, current price levels simply have not yet reached a point relative to earnings that would suggest the bottom is in just yet.


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Source: Tuttle Asset Management

Reality Check

Does any of this big picture stuff matter? That depends on your strategy, risk profile and time horizon. Markets are going to do what markets do. At the end of the day, it's probably a much more fruitful exercise to spend your time identifying set-ups or doing your homework than trying to distinguish between a bottom and the bottom. Take what the market offers and “get while the getting is good.”

If you trade stocks shorter term via technical analysis (like us) you've seen a number of interesting set-ups to trade. That doesn’t mean we should ignore the big picture either. The stock market won’t cease to exist as we know it. But, when the music stops I’d like a chair.