There are mixed signals developing in this market. On the one hand, there is the daily and highly chaotic price action, while, on the other hand, the market's breadth and liquidity may be improving.
If you're thinking that sometimes you just can't win, join the club of investors who bet the farm on the Fed's so-called "pivot" and got mauled after Chairman Powell, during his press conference, noted that the central bank is not "thinking about" pausing. In fact, Powell's comments might be interpreted as saying that even if the Fed slows down the pace of tightening—such as dropping the next rate increase to 50 basis points—the central bank is likely to raise interest for a long time still.
Trade What You See
Last week in this space, I noted: "The stock market is probably pricing in a 'pivot' of some sort from the Fed. This is a risky bet, especially in a poor liquidity environment."
Moreover, I added: "If you're having a déjà vu flash, it's because this rally looks a lot like the summer rally. On the other hand, we are entering the strong seasonal November to January period for stocks, which could favor an extension of what may turn out to be just another bear market rally."
So, the Fed did a soft "pivot," on paper, and the market got its hopes up and rallied. Powell, as usual, crushed stocks at his presser, which I reported wouldn't happen since I could not find it as being scheduled on the Fed's calendar. Still, it happened and Jay Boy did his usual "beat the market down" routine.
Yet, over the next couple of days, others from the Fed noted they may opt to vote for a reduction in the number of upcoming rate hikes while adding that they may keep rates higher for a longer time than the recently-noted 2023 time frame.
So, in order to avoid confusion, it's best to trade what we see. That means there is only one way to operate in this market: If an open position works, stick with it. Moreover, with persistent trial balloons out of China about a possible easing of their Covid-19 zero policy, stay tuned.
The Fed is likely to raise interest rates again in December, and perhaps in early 2023. If the economy starts showing signs of a precipitous slowing, which it may do over the next few weeks, we may still see an early reversal of the current rate hike cycle.
A lot remains up in the air. But interestingly, the stock market is once again betting that the Fed is almost done.
Welcome to the Edge of Chaos:
"The edge of chaos is a transition space between order and disorder that is hypothesized to exist within a wide variety of systems. This transition zone is a region of bounded instability that engenders a constant dynamic interplay between order and disorder." – Complexity Labs
Trading What We See: Biotech Starts to Flex Its Muscle
As investors fret about the Fed's next move, there are some areas of the market which are starting to show a bit more strength than others these days. One of them is the Biotech sector, as we can see in the price chart of the iShares Nasdaq Biotechnology ETF (IBB).
Specifically, IBB has recently and quietly crossed above its 200-day moving average while the Accumulation Distribution Line (ADI) suggests that short sellers are not particularly active. Moreover, the on balance volume indicator (OBV) is building a nice head of steam to the upside.
The key, as usual lies in the Volume-by-Price bars (VBP), which offers resistance at the $127–$131 area. A move above that key resistance level could launch IBB toward $135–$140.
Advance-Decline Shows Staying Power: Liquidity Remains Surprisingly Decent
The market's breadth continues to show signs that we may be in the early stages of a meaningful bottom. When you add that liquidity isn't getting worse, you can make a case for at least a base forming in this market.
The NYSE Advance Decline line ($NYAD) (ADI) has bullishly remained above its 20-day moving average and seems to have a date with its 50-day moving average, as the Cboe Volatility Index ($VIX) is now in a downtrend. So, despite the intraday trend changes, money is moving into stocks, and the number of put options being bought has been reduced. When $VIX falls, stocks tend to rally.
The Eurodollar Index ($XED) reversed last week's mini-swoon and has remained above 95. It's not all that exciting for sure, but it beats a new low. This is hopeful and maybe a sign that the lack of liquidity in the market is stabilizing.
The S&P 500 Index (SPX) continues to flirt with its 50-day moving average, remaining rangebound between 3700–3800 with the 3900–4000 area becoming the new resistance band to watch if the current narrow range can be taken out. ADI and OBV are still not encouraging.
The Nasdaq 100 index ($NDX) is still a weak area of the market, with the 11,000–12,000 still proving to be very credible resistance. ADI and OBV here are worse than in $SPX, where the energy stocks are exerting some upward pressure.
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Good news! I've made my NYAD-Complexity - Chaos chart (featured on my YD5 videos) and a few other favorites public. You can find them here.
In The Money Options
Joe Duarte is a former money manager, an active trader and a widely recognized independent stock market analyst since 1987. He is author of eight investment books, including the best selling Trading Options for Dummies, rated a TOP Options Book for 2018 by Benzinga.com and now in its third edition, plus The Everything Investing in Your 20s and 30s Book and six other trading books.
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