You’d think a guy like me who’s been outlining danger signs in these markets would take pleasure in seeing the market carnage yesterday. But I’m not. Far from it. I hate crashes. Corrections I’m fine with, but crashes are dangerous for everybody, bulls and bears alike. Often bears get blamed for crashes, but there haven’t been any bears as of late. Crashes happen every time when folks get too exuberant and feel invincible and price gets too disconnected from technicals and then ultimately most get hurt in some form or another if they are not careful.

And for sure many people got hurt yesterday as 4 months of incessant buying was wiped out in a mere 6 days. Retail bought the hype hook, line and sinker:

If you’re thinking this is a ‘see I told you so post’ you are mistaken. In fact, I’m using the occasion to make an announcement: I’m retiring the bear altogether. Consider me neither bullish nor bearish, but simply practical. That’s my mantra and orientation forthwith. Oh don’t get me wrong, I’ll still analyze and point things out what I see from a macro and technical perspective (and there is plenty to be concerned about), but I’ll comment from a merely practical perch rooted in the desire to identify technical SetUps.

And in this spirit I’ll use the recent few months and yesterday’s action to give you some context.

Here’s the reality: Even if you see macro signs that point to big turns you have to adapt to market conditions. I discussed some of this in 2017 Market Lessons and in my 2018 Market Outlook.

Frankly the last few months have been challenging to mentally adjust to changing market conditions. It really started in September and October when all the usual seasonality simply failed to appear and markets went into this ultra volatility compression mode, a steady ascent up in price on no dips and then price action proceeded into overdrive in January.

Back in June 2017 I was already pointing out that the volatility compression pattern always suggested a breakout was eventually coming:

But the pattern extended through the entire year and every trend line ping was sold creating shallower and shallower dips in the process. We knew this was ultimately nonsense and unhealthy, but opinions don’t matter, you have to trade what is, not what can be. Nobody has a crystal ball and technicals dominate.

That was part of the adjustment I went through as Mella kept shouting at me about the 15 min chart we have discussed so many times. So while it seemed idiotic to buy every 15 min oversold reading in an expensive & uncorrected market nevertheless it worked and we feasted on it as a matter of practicality. Cover & flip long for a hedge, rinse & repeat until it stopped working and so the dance went on as volatility compressed despite all the warning signs.

Still in October I pointed out this structural pattern on the $VIX that suggested a move to either 24 or 37 was coming:

$VIX quarterly chart. Higher lows/falling wedge structure.
The history of these structures implies the current period of low volatility will come to an end into 2018.
Previous breakout spikes included moves toward 23/24 & 37. pic.twitter.com/RaFvgjaMjY

— Sven Henrich (@NorthmanTrader) October 26, 2017

And along the way we kept pointing out the rising volatility aspect of the market this year as a rising danger sign (Volatility Rising)

And boy did we get that yesterday as $VIX indeed hit 37:

And $VIX broke out of its pattern:

Did I expect 34 on the $VIX yesterday? Hell no and I suspect many bears had covered before the final selling climax last night. Which is fine, but you got to adapt to the conditions. So while the overall downside was no surprise the speed with which it unfolded certainly was.

I’m not going to go through the entire history here, but I just want to highlight some examples of the signs that were there all along and I’ve done my best to document them and point them out along the way.

I pointed to historic technical disconnects that were not sustainable. I outlined these disconnects in Yearly Charts and many times on twitter:

$DJIA quarterly chart
Price entirely outside the Bollinger band.
Historic sample size of this remaining the entire quarter like this: Zero. pic.twitter.com/x50rN3pkDh

— Sven Henrich (@NorthmanTrader) January 16, 2018

And during the last few days we saw the reversion:

The $DJIA in particular defied all sense and reason as people were celebrating ever higher prices. I urged caution in Gap Land and on twitter:

Even if you are bullish this chart should start making you nervous.$DIA Dow ETF: open gaps and slope since July pic.twitter.com/d1kiuvW9Rf

— Sven Henrich (@NorthmanTrader) January 15, 2018

And yesterday the consequences played out:

One of the key issues I highlighted was how far markets disconnected from their 200MAs, a history concern I highlighted in Stretched.

At the end of January we saw the same historic disconnect that has spelled trouble in the past:

$ES = 13.6% above its 200MA pic.twitter.com/kHUv5c1JdW

— Sven Henrich (@NorthmanTrader) January 28, 2018

And now history has asserted itself again as we just witnessed the fast reconnect:

I won’t go through all this stuff as many of you know the issues I highlighted, from sentiment in Check the Rhyme to all the structural, macro and technical issues I pointed out in the past few weeks (see Market Analysis, Macro Corner, NT Blog)

The bottomline: The downside was not a surprise that it happened. The signals were all there, but momentum goes until it stops and then the rug gets pulled and in this sense this market repeated all the previous patterns I outlined in When Bulls Go Wild.

What’s next for markets? I’ll share some charts on this topic in the near future, but consider this: This volatility explosion came at a very unique moment in time, coinciding precisely as $SPX was breaking above its rising 30 year trend line while the 10 Year was breaking above its own 30 year descending trend line:

A coincidence? Not from my perch. Whether this recent flush will ultimately be a larger buying opportunity or a sign of serious trouble brewing underneath I’ll let the price action dictate and the charts to give us a heads-up. While the macro gears are turning all we can do is find favorable risk/reward technical SetUps (see also the recent Weekend Charts examples) and execute on them.

So if anyone calls me a bear, tell them instead I’m practical, neither bear nor bull and point them to this post 🙂

Happy trading and investing trails.

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