Almost all of the week's losses occurred on Friday following the monthly payroll release. The indices were generally down 1.5% on that day alone. Volume on SPY was 180m shares, the highest since the January 30 low.
Our overall view continues to be that 2015 will not be like 2013 or 2014. This is a year where fundamentals improve while equity prices mark time, allowing sentiment and valuation to fall back inline. This is a common pattern: large parts of 1994, 1996, 1998, 1999, 2004 and 2005 were similar. That November and December were the first back to back down months in 3 years bears out the change in character.
Without dwelling on the point, one reason to suspect limited gains is heady investor sentiment, something we warned about last week (post). To take one example, Investor Intelligence bulls again outnumbered bears by 4.2 times this week. This is an extreme equalled only in late December 2013 (4.2x), early September 2014 (4.3x) and late November 2014 (4.1x). SPX lost 5-10% each time over the following weeks. The risk was clearly to the downside following each extreme reading. This seems quite likely to limit gains in the weeks ahead. For this reason, we said the risk/reward over the next month would skew negative.
Let's turn our focus to the current set up.
SPY's loss erased the last 3 weeks of gains. It also undercut what had been support at $209, the December 29th top. The 50-dma is now just 0.7% lower, at $206. That level is also weekly S1 next week.
Note in the chart above that RSI(5) is under 30. When it becomes oversold, SPY may bounce but it usually has a lower low within a week (yellow lines).
That makes sense, as the down momentum is strong and needs to dissipate before a durable reversal. Another way of seeing that is to look at the first loss of more than 1% on a single day from a high, shown below (blue lines). Each was followed by a lower low.
Similarly, Chad Gassaway looked at all 63 instances since 2011 where SPX lost 1.4% or more in one day. 90% had a lower intraday low and 67% had a lower closing low during the next week.
There is a 1-month Head & Shoulders formation that measures a move to $206 (lower green line).
Finally, the days following NFP are typically weak; that's been especially true the 6 times NFP has closed down since 2013 (yellow shading). It would be common to see further weakness for at least part of the next week (data from Chad Gassaway).
In short, there should be some follow through lower next week, or at least some back and forth chop at the Friday low. On further weakness, $206 seems to be one possible target area.
It's also possible Friday's low was very near the bottom.
The chart below is SPY on an hourly basis. The Friday low near $207 was the lower green line: it filled a gap from February 12 (highlighted in yellow). Importantly, this was also the top of the range that SPY traded in from the start of January to the middle of February. Finally, $207 is the monthly pivot point. Much below here, and SPY will be back in that prior trading range and the "breakout" higher from late February will look like a failure.
Importantly, SPY looks considerably worse than either NDX or RUT.
The decline in NDX has been minor so far. In fact, Friday was just its first close below its rising 13-ema in a month. Its February "breakout" is not threatened.
RUT closed above the top of its 12-month trading range. This "breakout" has also held so far.
With the damage limited to SPY, it could be that Friday's sell off is nearly over.
SPY had risen 3 weeks in a row before falling the last two. There's nothing unusual in that pattern. As we have previously shown, when SPY rises 3 weeks in a row, it continues higher at least one more week before a sizable fall more than 90% of the time. A substantial continued fall now would be unusual.
Moreover, this was the first week SPY closed below its 13-ema since the January 30 bottom. After a long initial thrust off a low, the first touch usually holds and SPY at least attempts a retest of the highs (yellow shading). Sometimes the initial pierce of the 13-ema is deep (orange shading). The current situation falls in that category.
Neither of these analyses precludes a larger correction, but they do suggest upside is likely to come first.
Moreover, according to Cobra, SPX has been down two weeks in a row 104 times since 1996; in 88% of instances, SPY retraced at least 38% of the fall in the following week. This targets the $209 level on SPY. This is also next week's pivot point (refer to the SPY hourly chart above).
Equity put/call ratios are still falling from an elevated level. These normally start to rise, or have at least flattened out, before equities peak (vertical lines). This also suggests at least some attempt to retest the recent highs (chart from McMillan).
Finally, Brett Steenbarger looked at recent breadth in SPX. The chart below looks at the percentage of stocks in SPX that have closed each day above their 3, 5, 10, and 20-day moving averages. This breadth measure is close to levels seen near recent market troughs (his full post is here).
In summary, there are some reasons to suspect a move higher is likely, at least before a larger fall occurs. In the short term, upside (to $209) looks favorable relative to downside ($206) on further weakness early next week. A gap down Monday would make it much more so.
Seasonality has not been particularly useful recently. The first week in March is typically strong but equities instead fell. The next 3 weeks are very mixed but the next 7 days look, on balance, favorable (chart from Sentimentrader).
One final consideration is that Options Expiration is the third week in March. March OpX is one of the three strongest OpX weeks of the year. Further weakness in the days ahead may set up a favorable long position ahead of OpX.
Our weekly summary table follows.
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