As highlighted in the Market Indicator Summary in last week’s post, various indicators reached overbought levels that have marked short-term tops in the past and suggested we cool off this week. Post the initial rally after the FOMC meeting on the 18th, the stock market sold off this week amid uncertainty regarding the outcome of a possible government shutdown and an uncertain upcoming earnings season. While the overall long-term trend and momentum of the market suggest a strong bull market, negative divergences in the weekly and monthly MACD numbers for the S&P 500 despite new highs suggests the market is losing bullish momentum. The weakening internal momentum of the market could mean either a consolidation period before another leg higher, or it could be foreshadowing a coming correction that may be deeper than the two summer pullbacks we saw in June and August.
S&P 500 Member Trend Strength
As shown below, the long-term outlook for the S&P 500 is clearly bullish as 87.2% of the 500 stocks in the index have bullish long-term trends, up from a reading of 84.4% five weeks ago, but down from last week’s reading of 90%. The market's intermediate-term has also weakened, slipping from 71.6% last week to 55.4%. The market’s short-term outlook softened slightly from last week’s 82.8% reading to this week’s 79% level. Last week all three time outlooks were in bullish territory, but the weakness in the intermediate outlook caused it to slip into neutral-bullish territory. What is most important, of course, is the market's long term outlook, which is still deep into bullish territory and does not suggest a major market top is forming.
* Note: Numbers reflect the percentage of members with rising moving averages: 200-day moving average (or 200d MA) is used for long-term outlook, 50d MA is used for intermediate outlook, and 20d MA is used for short-term outlook.
The most important section of the table below is the 200d SMA column, which sheds light on the market’s long-term health. As seen in the far right columns, you have 87% of stocks in the S&P 500 with rising 200d SMAs and 82.0% of stocks above their 200d SMA. Also, nine out of ten sectors are in long-term bullish territory with more than 60% of their members having rising 200d SMAs, with the weakest sector being telecommunications at 50%.
Source: Bloomberg
S&P 500 Market Momentum
The Moving Average Convergence/Divergence (MACD) technical indicator is used to gauge the S&P 500’s momentum on a daily, weekly, and monthly basis. The big change recently is that the S&P 500 saw a daily MACD sell signal this week, the first signal since July 30th which preceded the August correction.
Source: Bloomberg
Digging into the details for the 500 stocks within the S&P 500 we can see that the daily momentum for the market ticked down sharply from last week’s 87% reading to this week’s 51%, which pushed the market’s short-term momentum from bullish to neutral-bullish territory.
The intermediate momentum of the market improved modestly to 42% from last week’s 40% reading. The slight increase in the percent on weekly MACD buy signals came predominantly from the financial sector who saw a 11% jump in weekly buy signals.
The market’s long-term momentum remains solid at a strong 76% this week, though it has softened a little from the 86% reading seen on July 12th.
Source: Bloomberg
While it is encouraging to see the market’s long-term momentum is still bullish, it is a concern that the market’s weekly momentum remains at only a 42% reading even with last week’s new high in the market, as well as a declining monthly reading. The negative divergence we are seeing with the market and its monthly and weekly numbers could indicate a potential consolidation ahead as the market’s bullish strength begins to fade. The market has had a strong 29% rally off the November 2012 lows and nothing goes straight up forever, indicating the market may need to catch its breath before assuming another leg higher. There is also the possibility that the loss in the market’s momentum is warning of a deeper correction looming on the horizon than the two we saw this summer.
Source: Bloomberg
With that said, what is encouraging in the underlining details (that has me leaning more towards a consolidation than a big correction) is the source of the weakness in the weekly and monthly numbers. As seen in the table below, the telecommunication and utility sectors are pulling the numbers down in each time frame while the more economically-sensitive sectors have the strongest numbers, not something you would not see at a major market top. What perhaps is the most concerning is the weakness in the financial sectors weekly numbers, which stands at a low 19% reading. While the financial sector has clearly weakened over the intermediate-term, they still have very strong monthly numbers (81%), which suggests the sector may just be taking a pause in terms of market leadership.
Source: Bloomberg
52-Week Highs and Lows Data
The insightful Lowry Research Corporation conducted a study on market tops recently (click for link) in which they looked at all major market tops since the Great Depression and found selectivity is a hallmark of all market tops. That is, participation in a bull market fades as individual stocks enter their own private bear markets well before the market peaks. To give you some numbers, they found that, on average, 17.26% of stocks were at or within 2% of their 52-week highs on the day the market peaked while 22.26% were off by 20% or more from their highs. This indicates that tops are largely driven by a small number of highly overvalued stocks, which mask a much larger number that have already corrected. For this reason, a look at 52-week breadth of the markets is helpful in detecting an approaching bull market top.
The market continues to display impressive internals that do not suggest a market in danger of rolling over into a bear market. For example, there are 16% of stocks within the S&P 500 that are within 2% of their 52-week highs while only 6% are experiencing bear markets, a comfortable margin relative to the average found by Lowry Research. The S&P 600 (small Caps) shows the weakest margin between those near new highs (15%) and those in bear markets (14%).
Source: Bloomberg
The current market leaders are industrials, consumer discretionary, and technology, as these sectors have the highest percentage of members within their group that are within 2% of a new 52-week high and very few members who are currently experiencing a bear market (20% + decline), if any new 52-week lows. This is bullish as all three sectors are cyclical stocks that tend to peak ahead of the market, and the fact that these are the strongest sectors is encouraging. Of note is that the telecommunication, utilities, and consumer staples sectors have the fewest percentage of members near 52-week highs. This is significant as these defensive sectors tend to act as market leaders near major market peaks.
Source: Bloomberg
Market Indicator Summary
Below is a multi-indicator chart of the S&P 500 that measures breadth and momentum. Last week I had readers focus on the second, third, and bottom panels. These showed that the S&P 500 had reached short-term overbought conditions (see red circles) which have marked either short-term tops or pauses in an advance and suggested the market may cool off a little heading into this week. Since we are currently only at neutral readings, a short-term bottom is not yet likely.
Source: Bloomberg
Not only do the indicators above suggest a short-term bottom is still not here, the weakness in the corporate junk bond market suggests we might get a fast drop early next week. The junk bond market tends to lead the S&P 500 as it did before the May and August peaks and the recent slide in the junk bond market suggests the stock market loses its footing heading into next week.
Summary
While the S&P 500’s long-term trend and momentum are clearly in bullish territory, negative divergence in the market's weekly and long-term MACD signals suggest a consolidation period lies before us. Additionally, recent weakness in the junk bond market, which tends to lead the stock market, suggests the market declines even further from its recent highs heading into next week. Our multi-indicator chart of the S&P 500 suggests we are only at neutral levels and if we do get a further selloff into next week it is likely our indicator panel will see oversold levels associated with short-term bottoms. An update will be provided next week.
