foxex: HIGH ALERT

Chart Advisor | Focus on the Price

Wednesday, February 05, 2020

1. Markets close on high with VIX on high alert

2. Basic materials sector's rapid rebound

3. Beware the fake moves

Market Moves

The major U.S. stock market indexes pushed against all time highs in rapid rebounding action. The S&P 500 index (SPX) and the Dow Jones Industrial Average (DJX) both closed more than one percent higher on the day while the Nasdaq 100 (NDX) uncharacteristically under-performed those two.

But the real story is hidden behind the way the Volatility Index (VIX) closed today. The chart below shows the most divergent example yet of VIX values remaining elevated at a time when the markets are hitting new highs. Historically, such divergences have occurred before every major market top, although the timing varies from days to weeks in advance of such moves.

Perhaps institutions still have more rebalancing to do after stocks made such strong advances from October through January. Whatever reasons there might be for option-selling market makers to maintain an elevated risk premium in their pricing, they are continuing to do so. The current levels of option prices imply continued pullbacks for the near future.

Basic Materials Sector's Rapid Rebound

Since the end of January, stocks have rebounded from interim lows. If this amounted to nothing more than short-term profit taking, then the resulting rebound would make sense. But the most recent moves in State Street's sector index ETFs don't seem to follow the typical pattern. Technology (XLK) is on the rise, and Utilities are in a slight decline (XLU). This is perfectly expected. But two sectors have outperformed technology so far, namely, Healthcare (XLV) and Basic Materials (XLB).

Institutions appear to be rebalancing their funds to move some profits from technology stocks over into other opportunities. It may be that stocks in the Healthcare sector and the Basic Materials sector will indeed thrive over the quarter to come as these stocks rebound from higher lows or set new highs. But with elevated price levels on the VIX, that may be slightly more risky than expected.

Chip Stocks May Have Topped Out After Historic Advance

Big Money Index Shows Markets Are Ready for Pullback

SPONSORED BY INVESCO
The Complete Guide to ETFs
ETFs are becoming increasingly popular and soaring to new heights among investors. Invesco's insights can help you determine if these investment vehicles are right for you.
Learn More »

Beware the Fake Moves

One stock among the largest holdings in State Street's Basic Materials sector ETF (XLB) that shows a particularly interesting chart setup is Air Products and Chemicals Inc. (APD) shown in the chart below. This stock is breaking out to a new high, but it is doing so even as the Money Flow indicator (shown as the purple line below the chart) is failing to make a simultaneous new high. In the past, these two events went hand in hand.

This particular setup may imply weakness in the price action. If the price finds its way back under $245 per share, that would suggest the breakout won't hold. This could ultimately lead to the upward trend deteriorating and the stock not performing well over time. This phenomenon is known among technical traders as a fakeout.

The Bottom Line

Stocks rose again strongly on the day as investors decided to challenge old highs. The Volatility Index remained significantly elevated however, implying that market makers still see significant risk ahead. Basic Materials sector stocks are performing well, but investors should beware that the breakouts some of these stocks are showing may not last.