foxex: Too Early

Chart Advisor | Focus on the Price

Tuesday, March 24, 2020

1. Stocks move higher, but so does the VIX

2. Head and shoulders above the euro

3. When failing is a good thing

Market Moves

Chart watchers rarely see a day when the price of stocks, bonds, gold, oil and the CBOE Volatility Index (VIX), all close the session with a positive candle. Compared to yesterday's close, all assets were higher. The lone exception was bonds, even though they closed higher than their opening price today. However, these days chart watchers are seeing a lot of things they have never seen before.

Consider the fact that the Dow Jones Industrial Average (DJI) closed over 11% higher, besting both the Nasdaq index (NDX) and the S&P 500 index (SPX). This has a lot to do with oil prices and energy stocks moving significantly higher today, based on news that things might not be so bad in the near future--after all, Wuhan is preparing to re-open for travelers.

The first chart below gives investors fair warning, that it might be a bit too early to jump back in to the investment pool just yet. The chart features an overlap of State Street's S&P 500 index ETF (SPY), shown in darker candles, with the VIX shown in lighter candles. The VIX closed higher today on very big fluctuation, displaying that market makers feel the need to still protect from risk.

The second chart revisits a look at the VIX options pricing. Eight days ago the VIX options were pricing in a 50% probability that the VIX would remain above 40 for 40 days from that time (about April 24). Today the pricing has eased up a bit and there is now a 50% chance that the VIX will drop below 40 by April 23. In the worst of the 2008 financial crisis, the VIX stayed above 40 for nearly 100 days, but once it closed below that level, the markets hit bottom and rebounded strongly.

Head and Shoulders Above the Euro

Both the Fed and the European Central Bank have announced dramatic measures over the past several days. These measures are intended to calm investors into keeping their money in the markets. As a result, the forex markets that trade the exchange rate between the U.S. Dollar and the Euro (EUR/USD) have experienced some unusual fluctuations, and created lots of opportunity for intraday traders.

The two charts below show a head-and-shoulders pattern. The first of which went according to plan, and reversed the trend (red square), and the other one (green square) which failed its pattern and created a big opportunity for investors looking to buy the euro.

When this pattern plays out as expected, the price breaks below the pattern's low points (as noted by the dashed red line). It is true that the pattern will often return back above this line, but it should not go higher than the most recent high (the right shoulder). If it does not, then the drop that follows should continue significantly lower from where the price broke out of the pattern.

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When Failing is a Good Thing

The most important aspect of chart patterns, is not what they predict will happen next (since past price rarely predicts future price moves), but how they help an investor or trader prepare their trade setups. In the case of this pattern, a trader knows they can't profit from the downside move unless the break of the support line occurs.

What most traders do not know is that a failed head-and-shoulders pattern is actually a more reliable trading signal than a regular pattern. The chart below shows how this occurred on the 1-hour chart of the EUR/USD currency pair a few weeks ago. Not all trades play out so well, but the few that do tend to make up for the ones that don't.

The Bottom Line

Everything seemed to trade higher after the opening of the stock market today, including volatility measures. It is as if the market makers seemed to say, "I don't like it, it's too bullish," and began pricing in more risk of falling prices to come.