VIX hits record low

The CBOE Volatility Index (VIX) made a new low of 9.30 indicating record low levels of stock volatility. High levels of stock buybacks and large ETF fund inflows may both have contributed, but this is only the third time in its 27-year history that index has broken below 10%. The first was in late 1993. The second, in late 2006, was followed a year later by a massive market snap-back. This time is no different. Volatility is unlikely to remain at such low levels and eventually we will see a market down-turn, accompanied by high volatility, but there is no crystal ball that can tell us whether this will be in one year or five.

CBOE Volatility Index (VIX)

Corporate bond spreads are also falling, with the spread between lowest investment grade Baa (10-year) and equivalent Treasury yields at their lowest point since 2008.

Corporate Bond Spreads

Source: St Louis Fed & Moody’s

The yield curve is flattening but remains comfortably above a flat or negative yield curve when
the yield differential (10-year minus 3-month yields) falls below zero. A negative yield curve is a reliable warning of recession within 12 months.

Yield Differential

Source: St Louis Fed

The Freight Transportation Services Index displays a steady increase in economic activity.

Freight Transportation Services Index

Source: St Louis Fed & US Bureau of the Census

And the S&P 500 continues its advance towards 2500.

S&P 500

Target 2400 + ( 2400 – 2300 )

US Retail & Light Vehicle Sales slow

Retail sales growth (excluding motor vehicles and parts) slowed to 2.4% over the 12 months to June 2017.

Retail Sales ex Motor Vehicles & Parts

Source: St Louis Fed & US Bureau of the Census

Seasonally adjusted light vehicle sales are also slowing.

Light Vehicle Sales

Source: St Louis Fed & BEA

Seasonally adjusted private housing starts and new building permits are starting to lose momentum.

Housing Starts & Permits

Source: St Louis Fed & US Bureau of the Census

The good news is that Manufacturer’s Durable Goods Orders (seasonally adjusted and ex Defense & Aircraft) are recovering.

Manufacturing Durable Goods Orders ex Defense & Aircraft

Source: St Louis Fed & US Bureau of the Census

Cement and concrete production continues to trend upwards.

Cement & Concrete Production

Source: US Fed

And estimated weekly hours worked (total nonfarm payroll * average weekly hours) is growing steadily.

Estimated Weekly Hours Worked

Source: St Louis Fed & BLS

All of which suggest that business confidence is growing and consumer confidence is likely to follow. Bellwether transport stock Fedex advanced to 220, signaling rising economic activity in the broader economy.

Fedex

Target: 180 + ( 180 – 120 ) = 240

The S&P 500 broke resistance at 2450, making a new high. Narrow consolidations and shallow corrections all signal investor confidence typical of the latter stages of a bull market. The immediate target is 2500* but further gains are likely.

S&P 500

Target: 2400 + ( 2400 – 2300 ) = 2500

The stock market remains an exceptionally efficient mechanism for the transfer of wealth from the impatient to the patient.

~ Warren Buffett

S&P 500 selling pressure

The S&P 500 is experiencing warns of medium-term selling pressure, signaled by bearish divergence on Twiggs Money Flow. The last correction was shallow, typical of stage III in a bull market, and this one is likely to be too. Respect of support at 2400 would signal another primary advance. A correction to test primary support at 2300 is unlikely, but would warn that investors are jumpy and taking profits. This would signal stage III is closer to a top.

S&P 500

S&P 500 hesitates at 2450

The S&P 500 hesitated at 2450, short of its target of 2500*. Bearish divergence on Twiggs Money Flow warns of medium-term selling pressure. Expect stronger resistance at 2500.

S&P 500

Tech stocks are advancing at a rapid pace, with the Nasdaq 100 approaching 6000 after only breaking 5000 in January. Rising troughs on Twiggs Money Flow signal strong buying pressure. No signs of a ‘blow-off’ yet.

Nasdaq 100

Stage III of a bull market can last several years.

S&P 500 stays on course

The S&P 500 continues to advance, with a short-term target of 2500*. Bearish divergence on Twiggs Money Flow warns of rising selling pressure. While secondary (medium-term) in nature we should expect stronger resistance at 2500.

S&P 500

Bellwether transport stock Fedex is advancing strongly after breaking out above $200, signaling rising economic activity in the economy.

Fedex

Stage III of a bull market can last for several years.

S&P 500, Nasdaq, Fedex bull signal

Bellwether transport stock Fedex [FDX] broke resistance at $200, signaling an increase in economic activity.

Fedex

The S&P 500 followed through above 2400, offering an immediate target of 2500. Recovering Twiggs Money Flow signals medium-term buying pressure.

S&P 500

The Nasdaq 100 has gained more than 20% in the last 3 months, since breaking resistance at its Dotcom high of 4800. With Amazon breaking through $1000, I am concerned that tech stocks are over-heating.

Nasdaq 100

S&P 500: Tall shadows warn of selling pressure

The S&P 500 is recovering after Wednesday’s sharp fall but tall shadows on the last two candles indicate selling pressure. This is supported by a bearish divergence on 21-day Twiggs Money Flow, signaling medium-term selling pressure. Respect of resistance at 2400 is likely and would warn of another test of primary support at 2330.

S&P 500

Bellwether transport stock Fedex [FDX] has consolidated in a broad rectangle over the last six months. Bearish divergence on 13-week Twiggs Money Flow indicates long-term selling pressure. Breach of support at 185 would signal a primary down-trend, warning that economic activity is slowing.

Fedex

Trump Turmoil

Discussion of a possible impeachment action against President Donald Trump is rife in the media and seems to have spooked financial markets.

The Dollar Index fell through support at 98.50, signaling another decline. The long-term target is 93.00.

Dollar Index

Gold rallied, breaking through resistance at $1250/ounce. Follow-through above $1300 would signal another advance, with a target of the 2016 high at $1375.

Spot Gold

Dow Jones Industrial Average retreated from resistance at 21000. Expect a test of medium-term support at 20400. Reversal below 20000 would be cause for concern.

Dow Jones Industrial Average

The S&P 500 is headed for a test of medium-term support at 2320. Breach would likewise signal a strong correction.

S&P 500

We are likely to get a secondary correction but I expect the bull market to continue. Impeachment of Trump would be a temporary setback and would make me more bullish on the long-term outlook.

It’s probably better to have him inside the tent pissing out,
than outside the tent pissing in.

~ President Lyndon Johnson on FBI Director J. Edgar Hoover whom he mistrusted

S&P 500 Price-Earnings Ratio rises

With 84.4% of S&P 500 index constituents having reported first-quarter earnings, 302 (73.84%) beat their earnings estimates while 77 (18.83%) missed. Forward estimates for 2017 contracted by an average of 4.6% over the last 12 months but not sufficient to raise the forward Price-Earnings Ratio above 20. That is the threshold level above which we consider the market to be over-priced.

Forward Price Earnings Ratio for S&P 500

Comparing the forward estimates for 2017 to actual earnings for 1989, we see that the market is expected to deliver a compound average growth rate of 6.0% over almost three decades.

With a dividend yield of 2.16%, that delivers a total return to investors of just over 8 percent.

Price-Earnings ratios fluctuate over time, so any improvement in the ratio should be considered temporary.

Buybacks have averaged just over 3 percent since 2011. The motivation for buybacks is that they should accelerate earnings growth but there is little evidence as yet to support this. As Reported Earnings grew at an average rate of 3.2% between December 2011 and 2016, below the long-term average.

A spike in earnings is projected for 2017 and 2018. Hopefully this continues. Else there will be a strong case for restoring dividends and reducing stock buybacks.

S&P 500 Bollinger Band Squeeze

John Bollinger says that a Band Width squeeze has preceded many spectacular moves on the S&P 500. A Bollinger Band squeeze highlights when the bands contract into a narrow “neck” indicating low volatility. The squeeze is normally signaled by a fall in the Band Width indicator to below 2.0%.

S&P 500

Upward breakout from a narrow “squeeze” in late January flagged a strong advance, from 2280 to 2400.

Now we have the opposite, with breakout below 2360 warning of a correction. But Bollinger warns that the market often starts with a fake move, in the wrong direction, before the real move commences. So we need to be cautious.

Forward P/E turns back up

Dow Jones Industrials

Dow Jones Industrial Average continues to climb, heading for a target of 21000. Rising troughs on Twiggs Money Flow signal strong buying pressure.

Dow Jones Industrial Average

The S&P 500 follows a similar path.

S&P 500

With the CBOE Volatility Index (VIX) close to historic lows around 10 percent.

VIX

However, at least one investment manager, Bob Doll, is growing more cautious:

“…we think the easy gains for equities are in the rearview mirror and we are growing less positive toward the stock market. We do not believe the current bull market has ended, but the pace and magnitude of the gains we have seen over the past year are unlikely to persist.”

Forward P/E Ratio

Bob Doll’s view is reinforced by recent developments with the S&P 500 Forward Price-Earnings Ratio. I remarked at the beginning of February that the Forward P/E had dropped below 20, signaling a time to invest.

Actual earnings results, however, have come in below earlier estimates — shown by the difference between the first of the purple (latest estimate) and orange bars (04Feb2017) on the chart below.

S&P 500 Forward Price-Earnings Ratio

In the mean time the S&P 500 index has continued to climb, driving the Forward P/E up towards 20.

This is not yet cause for alarm. We are only one month away from the end of the quarter, when Forward P/E is again expected to dip as the next quarter’s earnings (Q1 2018) are taken into account.

S&P 500 Forward Price-Earnings Ratio

But there are two events that would be cause for concern:

  1. If the index continues to grow at a faster pace than earnings; and/or
  2. If forward earnings estimates continue to be revised downward, revealing over-optimistic expectations.

Either of the above could cause Forward P/E to rise above 20, reflecting over-priced stocks.

Be fearful when others are greedy and greedy only when others are fearful.

~ Warren Buffett

S&P 500 Price-Earnings suggest time to buy

The forward Price-Earnings (PE) Ratio for the S&P 500, depicted by the blue line on the chart below, recently dipped below 20. In 2014 to 2105, PEs above 20 warned that stocks were overpriced.

We can see from the green and orange bars on the chart that the primary reason for the dip in forward PE is more optimistic earnings forecasts for 2017.

S&P500 Earnings Per Share and Forward PE Ratio

We can also see, from an examination of the past history, that each time forward PE dipped below 20 it was an opportune time to buy.

History also shows that each time the forward PE crossed to above 20 it was an opportune time to stop buying. Not necessarily a sell signal but a warning to investors to tighten their stops.

Sector Performance

Quarterly sales figures are only available to June 2016 but there are two stand-out sectors that achieved quarterly year-on-year sales growth in excess of 10 percent: Consumer Discretionary and Health Care.

S&P500 Quarterly Sales Growth

Interestingly, apart from Energy where there has been a sharp drop in earnings, sectors with the highest forward PE (based on estimated operating earnings) are the defensive sectors: Consumer Staples and Utilities. While Consumer Discretionary and Health Care are more middle-of-the-pack at 16.7 and 15.4 respectively.

S&P500 Forward PE Ratio by Sector

Nasdaq breaks its Dotcom high

Tech-heavy Nasdaq 100 broke through its all-time high at 4900, first reached in the Dotcom bubble of 1999/2000. Follow-through above 5000 would signal another primary advance. Bearish divergence on 13-week Twiggs Money Flow warns of medium-term selling pressure, possibly profit-taking at the long-term high.

Nasdaq 100

The daily chart of the S&P 500 also shows bearish divergence, but on 21-day Twiggs Money Flow, indicating only short-term selling pressure; reversal below zero would warn of a correction. Target for the advance is 2300*.

S&P 500 Index

* Target medium-term: 2100 + ( 2200 – 2000 ) = 2300

The chart below plots Forward PE (price-earnings ratio) against S&P 500 quarterly earnings. Apologies for the spaghetti chart but each line is important:

  • green bars = quarterly earnings
  • orange bars = forecast earnings (Dec 2016 to Dec 2017)
  • purple line = S&P 500 index
  • blue line = forward PE Ratio (Price/Earnings for the next 4 quarters)

S&P 500 Forward PE and Earnings

The recent peak in Forward PE was due to falling earnings. Price retreated at a slower rate than earnings as the setback was not expected to last. Forward PE has since declined as earnings recovered at a faster rate than the index. But now PE seems to be bottoming as the index accelerates. Reversal of the Forward PE to above 20 would be cause for concern, indicating stocks are highly priced and growing even more expensive, as the index is advancing at a faster pace than earnings.

Remember that the last five bars are only forecasts and actual results may vary. The only time that the market has seen a sustained period with a forward PE greater than 20 was during the Dotcom bubble. Not an experience worth repeating.

Fedex surges

Bellwether transport stock Fedex surged to a new high this week, signaling an expected rise in economic activity in the US. A Twiggs Money Flow trough above zero also indicates strong buying pressure.

Fedex

Dow Jones Industrial Average is testing resistance at 19000. The doji star indicates indecision rather than a reversal. Declining Twiggs Money Flow indicates long-term selling pressure but completion of a trough above zero would negate this. A fall below 18500 would warn of a correction. Follow-through above 19000 is less likely but would indicate a fresh advance.

Dow Jones Industrial Average

* Target medium-term: 18000 + ( 18500 – 17000 ) = 19500

The S&P 500 is testing resistance at 2200. The evening star pattern again indicates indecision rather than reversal. Breakout would complete a bullish inverted scallop pattern, which commenced in early July, signaling an advance to 2300. Declining Twiggs Money Flow remains bearish, favoring another retracement.

S&P 500 Index

* Target medium-term: 2100 + ( 2200 – 2000 ) = 2300

Dow selling pressure

The S&P 500 is retracing for a test of short-term support at 2150. Respect of the rising trendline would signal a test of 2200. Breakout above 2200 would complete an inverted scallop (or fish hook) with a target of 2400*. Declining Twiggs Money Flow, however, warns of selling pressure. Breach of 2050 would test medium-term support at 2100.

S&P 500 Index

* Target calculation: 2100 + ( 2100 – 1800 ) = 2400

The Dow Jones Industrial Average also displays a potential inverted scallop on the weekly chart. Follow-through above 18600 would confirm but bearish divergence on Twiggs Money Flow again warns of selling pressure. Tall shadows on the last two candles also suggest short-term selling pressure. Breach of support at 18000 would warn of a test of primary support at 17000.

Dow Jones Industrial Average

* Target medium-term: 18500 + ( 18500 – 18000 ) = 19000

S&P 500 looks promising

The inverted fish hook on the S&P 500 looks promising, with a strong blue candle reversing most of Friday’s losses. Completion of an inverted fish hook (normally called an inverted scallop but I find the former more descriptive) requires a breakout above 2190/2200. Completion of the pattern would offer a strong bull signal with a target of 2400, calculated from the base of the pattern at 2000*.

S&P 500 Index

* Target calculation: 2200 + ( 2200 – 2000 ) = 2400

S&P 500: Expect strong resistance

The S&P 500 is testing resistance at 2100, while declining 13-week Twiggs Money Flow warns of medium-term selling pressure. Expect strong resistance between 2100 and 2130 but reversal below 2000 is now unlikely.

S&P 500 Index

CBOE Volatility Index (VIX) at 15 indicates calm is restored after the last two turbulent weeks.

S&P 500 VIX

Plenty of bottom signals

Global

Dow Jones Global Index is headed for a test of resistance at 320 after penetrating its descending trendline. Respect of 320 is likely but a bottom is forming and a higher trough would suggest an inverted head-and-shoulders formation. 13-Week Twiggs Momentum recovery above zero is bullish but another low peak would indicate that bears still dominate.

Dow Jones Global Index

North America

The S&P 500 continues to test the band of resistance at 2100 to 2130. Money Flow remains bullish but I expect stubborn resistance at this level, further strengthened by poor quarterly results, so far, in the earnings season.

S&P 500 Index

A CBOE Volatility Index (VIX) at a low 14 indicates that (short-term) market risk is low. Long-term measures are also starting to ease but we maintain high cash levels in our portfolios.

S&P 500 VIX

Canada’s TSX 60 is headed for a test of resistance at 825. Penetration of the descending trendline suggests that a bottom is forming. Resistance is likely to hold but an ensuing higher trough would be a bullish sign. Rising 13-week Twiggs Momentum is encouraging but a low peak above zero would indicate that bears still dominate.

TSX 60 Index

Europe

Germany’s DAX broke resistance at 10000 and is headed for a test of the descending trendline. Rising Money Flow indicates medium-term buying pressure. Retreat below 10000 would warn of another decline.

DAX

* Target calculation: 9500 – ( 11000 – 9500 ) = 8000

The Footsie is headed for a test of 6500. Rising Money Flow suggests decent buying pressure. Respect of resistance is likely but a bottom is forming and an ensuing higher trough would suggest a primary up-trend.

FTSE 100

* Target calculation: 6000 – ( 6500 – 6000 ) = 5500

Asia

The Shanghai Composite Index retreated below 3000. Breach of medium-term support at 2900 would warn of another test of primary support at 2700. Rising Money Flow suggests that breach of primary support is unlikely.

Shanghai Composite Index

* Target calculation: 3000 – ( 3600 – 3000 ) = 2400

Japan’s Nikkei 225 Index broke resistance at 17000, a higher trough signaling a primary up-trend. Expect retracement to test the new support level at 17000. Rising Money Flow confirms buying pressure.

Nikkei 225 Index

* Target calculation: 17000 – ( 20000 – 17500 ) = 15000

India’s Sensex is testing its upper trend channel at 26000. Penetration of the descending trendline would suggest that a bottom is forming. Respect, indicated by reversal below 25000, would warn of another test of primary support.

SENSEX

* Target calculation: 23000 – ( 25000 – 23000 ) = 21000

Australia

A sharp fall in the Australian Dollar as result of record low inflation numbers may precipitate some selling by international buyers. Further weakness in iron ore would impact both the ASX and the Aussie Dollar.

The ASX 200 has also penetrated its descending trendline, suggesting that a bottom is forming. But bearish divergence on 13-week Money Flow warns of selling pressure. Retreat below 5000 would warn of another test of primary support at 4700.

ASX 200

* Target calculation: 4700 – ( 5200 – 4700 ) = 4200