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NorthmanTrader

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Signs

SignsWell they got it done. $SPX 2000.02 on the close. Magic. It took only the lowest trading volume of the year, lower than half day on Christmas Eve 2013. Of course none of this you will find discussed on bullish CNBC. Yes I know many continue to say volume does not matter. I disagree strongly. In my view there are very good odds we are finding ourselves in a drawn out topping process and I’ll outline the case below. Topping processes are difficult to trade and to set up for, but this environment in particular is more difficult than others as volatility is completely lacking. Whenever volatility drops to nothing you find yourself sitting on your hands eager to pull the trigger or do something as the market does nothing but repeat a seemingly preprogrammed structure of an extremely tight range. I mean really?

SPY program

This is precisely the type of situation where a lot of traders overtrade, or panic, or get frustrated and end up making the wrong decisions. It is human nature.

So what’s the market doing here? Let me walk you through some interesting signs I’m finding. First off, this latest ramp is one of a string we have observed over the past few months:

SPY

Several things to note here: 1. All of these ramps eventually gave back close to 50% or all of their gains back either immediately or after a few weeks. 2. During each ramp there was a reconnect with the 8MA 3. Every ramp is occurring on ever shrinking volume. 4. Yet these ramps may move even higher after an 8MA test before eventually giving back the before mentioned gains.

In short, we may see a move to the 8MA before making new high yet again. That is the base scenario these ramp structures signal us here. Does the successive shrinkage in volume tell us something else? Possibly. It may simply be a sign that nobody finds value here. Think of an art auction, price gets bid up on a particular item and the number of bidders drop as price goes higher until finally there is only one bidder left. This is what this feels like to me.

If this is a major topping processes we have two major examples to look at. Firstly the year 2000 top turns out to be a completely inadequate comparison as volatility was wild then even during the move toward absolute highs:

SPY 2000

It was a great trading environment back then. Rips, dips, very much different than what we have now.

However it is the topping process in 2007 that is actually pretty insightful for several reasons:

2007

1. The topping process took many months

2. RSIs started to show negative divergences

3. We had a corrective move in Jan/Feb leading to a major rally into July followed by a correction in August and then a ramp into new highs into September. As it turns out that final ramp into new highs was the best time to sell markets.

Does this all sound familiar? Well it should. Check out the structure comparison to this year:

Analog

Now I always view analogs with caution, but I find them also interesting as they can tell a story. Note the analog is not perfectly aligned from a time perspective, but the structure is exactly what we have been experiencing. This also does not mean we drop into oblivion today. Per the ramps I pointed out earlier we can still move higher, but it tells me we could see some wild and fantastic market action ahead this fall. It surely all lines up nicely with QE ending in October.

Here’s what’s immediately in front of us: The $NDX has had 10 up days in a row with 7 days of disconnect from the 5EMA. It’s as extreme as I’ve seen it in a long time. The risk/reward is simply not there for any long play but the sell side has been completely MIA. Frustrating, but so it is. To add we have two black candles in a row:

NDX

All precedence says we should see 2-3 days of selling and maybe, just maybe, there will be some profit taking ahead of the weekend. The $VXX certainly is sending the message that some sort of move is close:

VXX

The $DJIA weekly chart also signals we are close to the end here and that this ramp has been the technically weakest of them all:

DJIA

The recent $NYMO ramp spike is the type that is usually followed by several days of weakness:

NYMO

In summary: There are abundant signs that this rally is weak and would see some downside in the days ahead. The larger question is what happens then. Per the ramp structure we may simply see 8MA tests and move higher into September. Could well be but the larger message is that I want to be an aggressive seller of any moves higher here.

Nobody knows where this thing tops out. It could have been yesterday, or we may crank a bit higher from here. The monthly $NDX chart gives some guidance as to what may be the next level test:

NDX monthly

All this is conjecture, but it seems an upside proposition of 1-3% versus a downside of 10-15% (i.e. the weekly 50/100 $SPX MAs). The one chart that keeps my mind really open about a bit more upside is the monthly $OEX:

OEX

The previous major tops came after a pierce through the upper monthly Bollinger band. As stretched as we are, we haven’t touched the upper Bollinger band in months. Now there is no rule set in stone that says a top only happens when we pierce the upper monthly Bollinger band, but that’s our sample size here. Take it for what it’s worth.

So yes, markets are super tricky right now, but the signs are aligning for some major volatility heading to a market near you, and maybe all those $VIX call buyers over the past few days are not only hedging, maybe they read the charts too 😉

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Categories: Daily Market Brief, Market Analysis

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10 replies

  1. Northman…you are an excellent writer and I assume an excellent trader. I find you articles well thought out and extremely thought provoking and informative. Just wanted to say thanks for posting. I always look with anticipation for any new posts you have on twitter.

  2. Excelente análise! Parabéns

  3. Thank you what the 1st Anonymous guy said. 🙂

  4. Super analysis and since l am new to T/A, l appreciate your posts , and yes i too always look for any new posts you have on twitter.

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