The 785 point reversal in the Dow Jones 30 today suggests that the market has built a durable double-bottom over the past week. Naturally, more work needs to be done, to breakout above recent resistance and above the down-trend line. But, with today's rebound overcoming massive headline risk, with resistance holding to the expansion in the $VIX index, with economic data being firm, and earnings promising to be up double-digits all year long, the market can perhaps start focusing on actual data, instead of reacting to headlines.
Chart 1: Today's rebound was an encouraging sign that the recent test of the double-bottom will be successful. The drop at the open was due to head-line risk.
The Double-Bottom Holds (for now)
The Dow 30 Industrials show that the market came down to test the early February lows, and now, despite seven days to break below those levels, chose not to do so. The chart of the NY Composite average, which I had used in my previous post, even shows a small positive divergence for all those who love those things. Perhaps more crucially, the $VIX index did not expand above its recent highs around 27.5 during the re-test of the lows. Lastly, the $SPX closed above its two recent prior highs, a pattern indicating a short-term reversal.
Chart 2: The market had at least seven days to break decisively below the early February lows, but chose not to do so.
Chart 3: The NYSE Composite, a very broad index, shows a small positive divergence against the 200-bar stochastic RSI. The NYA must rise above the gap at 12,600 to confirm the bottom and move above the down-trend line.
Chart 4: Crucially during the re-test of the lows, the resistance between 25-27.5 to the $VIX index held, and today the $VIX closed below the two prior lows, usually a sign of reversals in the past.
Chart 5: The S&P 500 closed above the prior two highs, often a sign of short-term reversal in the market.
Economic Data Are Firm
Even as the markets have swung around in drunken gyrations, employment data have come in very strong from ADP. The Chicago Fed reports that economic growth picked up in February via its CFNAI Index. The sensitive new auto sales were up strongly in March testifying to the strength of the consumer. Lastly, FactSet reports a record-high increase in S&P 500 EPS estimates for Q1 and for the entire calendar year 2018. Factset suggests that valuations using year-ahead earnings are now back down to average levels. These data suggest a strong economy, and support higher equity prices. Perhaps traders can start focusing on improving US economic data.
Market Internals Are a Mess
The re-test of the lows has pushed market internals into worse shape. The short-term models are the most negative, and have reached oversold conditions rarely seen since 2008. As the figure below shows, the percentage of stocks in the S&P 500 index that were bullish on my short-term models fell below 10 percent. This tends to occur in clusters, as the market sells off in waves. However, except for the 2008 period, most recent occurrences of such oversold conditions have usually led to positive returns in the subsequent 50, 100 and 250 day periods.
Chart 6: The steep sell-off and re-test of the lows means that percentage of stocks that were bullish in the S&P 500 using my short-term trend-following model fell below 10-percent. This measures extreme bearishness, and is generally bullish in the long-term (see table below).
Chart 7: Except for the 2008-2009 weakness, the most recent occurrence of oversold conditions on the short-term model has led to positive returns, on average, after 50-, 100- and 250-days.
There is plenty of overhead resistance that must be overcome before we can be sure that the double-bottom will hold. However, I am optimistic that the recent re-test will hold, for all the reasons discussed above. As usual, headline risks remain, and only time will tell if this is a proper double-bottom.
Chart 8: There is considerable over-head resistance that must be overcome to confirm the double-bottom.
I hope you have enjoyed my many posts following the path to the double-bottom (starting here) and hope you will subscribe to the blog using the quick link below.