foxex: Danger Ahead?

Chart Advisor | Focus on the Price

Friday, November 15, 2019

1. The Volatility Index Does Not Acknowledge any Danger Right Now

2. A Bearish Warning Signal Hangs Over the Nasdaq 100

3. Price Behavior Uncharacteristic of Investor Nervousness

Market Moves

The S&P 500 index (SPX) closed on a dramatic new high as it gapped above all previous prices for the week. It has also completed five consecutive weeks full of smaller-than-average daily trading ranges. Both of these conditions are bullish indications.

The Volatility index (VIX) shows that reduced volatility isn't limited to trading ranges, but it is also evident in the reduced premiums paid for options. Since options primarily act as a hedge against unexpected large price moves, a decrease in the amount charged for options implies a decreased expectation of risk.

The chart below shows that the VIX has been on the decline for the last month or more and is approaching a level that marks a new multi-month low. Some analysts have sounded warning signals about possible risks in the market ahead, but such indications are not evident in this chart. Comparing the two highlighted time frames, it becomes apparent that the former period near year's end in 2017 featured both rising VIX levels and increases in the SPX. Since this is not the case today, chart readers can infer that investors and option sellers are not in fear of price drops at this time.

A Bearish Warning Signal Hangs Over the Nasdaq 100

Recent reports that the Hindenburg Omen warning signal appeared specifically for the Nasdaq 100 index (NDX) may seem overplayed considering the relatively calm state of the markets as of the close today. But that is the nature of this particular indicator that it measures a condition that often appears in what may be overly bullish markets.

This indicator is rather complicated and you rarely see it laid out on a chart because it has a couple components that make it hard to spot in a single data point. The chart below tries to provide a better look an how this indicator touched off this week.

The price action of Invesco's Nasdaq 100-tracking ETF (QQQ) shows how this index has plodded steadily higher over the past three weeks. The next indicator under the price action details the number of stocks making new 52-week highs (green portion of the bars) and those making 52-week lows (red portion of the bars) within the index. About two weeks ago enough of the stocks in the index made new extremes but the proportion of highs to lows was more than double (this is a disqualifying characteristic). Then earlier this week a condition appeared which met the criteria for a valid signal as well as a confirmation from the McClellan Oscillator. This indicator has a reasonable track record. So perhaps it is time to move all investments to cash? Not so fast.

Read more:

Almost Time to Sell Tesla Stock

5 Warning Signs of Market 'Euphoria'

Cisco Systems Stock Could Enter Long-Term Downtrend

Price Behavior Uncharacteristic of Investor Nervousness

Inexperienced technical analysis or chart enthusiasts may get the impression that an indicator like the Hindenburg Omen requires that investors act immediately to diffuse a ticking time bomb in their portfolio. But the reality is that while price action can give worthwhile indications, investor behavior is what drives prices higher or lower in rapid order. If investor behavior shows no corroborating behavior, it is highly likely that the doom forecast is yet distant at best.

Consider the following two charts. The first shows that neither the Relative Strength Index, nor the Stochastic oscillator detail a bearish divergence in the price action. Similarly, a comparison of a hedger's portfolio (made up of equal parts gold, bonds and cash) shows no signs of increased demand as it did right before a brief market selloff in August. The price action seems to indicate that investors, so far, simply aren't panicking.

The Bottom Line

While S&P 500 traded to another record-high close, the Volatility Index brushed against multi-month lows, demonstrating investor complacency. Under such circumstances, it isn't surprising to see the Hindenburg Omen flash a signal. But unlike times past where the market responded dreadfully after such an indication, neither price action nor investor behavior are corroborating the signal this time around.