Markets

3 Reasons to Stay Bullish

The signs our Strategic Trader analysts examine suggest investors will be putting more money to work in stocks

Do you want to be a wiser investor?

Not just a wealthier investor, but a wiser one too?

That’s one of our goals for you. Yes, we’re proud to feature some of the most successful, intelligent, experienced analysts in the business. And by following their recommendations, your portfolio would be just fine in the long-term.

That said, we want to do more. We want to give you the tools and skills to find your own great investments. We want to provide you the effective lenses through which to analyze broad market conditions.

Basically, we’d like to free you from an over-reliance on the traditional financial media, which doesn’t always feature impartial market analysis as its true focus (despite that appearance).

So, in this Digest, I’m going to feature work from John Jagerson and Wade Hansen, the editors behind our popular Strategic Trader newsletter. John and Eric are master traders, combining both top-down analysis (think “start by looking at the big-picture, broad market”) and bottom-up analysis (think “looking at the fundamentals of a specific stock”) to provide subscribers with a holistic view of the investment markets.

In last week’s  update, John and Wade walked subscribers through three reasons why investors are still ready to buy U.S stocks — despite the market’s incredible performance year-to-date.

So, let’s piggyback off John and Wade, and use their update as a way to sharpen our own investing skills.

***The first indicator John and Wade identified was the VIX

From John and Wade’s update:

The VIX is an indicator that measures implied volatility levels for the S&P 500.

When investors are nervous that the S&P 500 could make a large move in the near term, they push implied volatility levels higher. Conversely, when they are confident in the short-term stability of the S&P 500, they push implied volatility levels lower.

Today (April 17), the VIX dropped to 11 — the lowest level the indicator has reached since Aug. 9, 2018. In fact, the VIX has only reached 11, or below, four times during the past year (see Fig. 1).

Fig. 1 — Daily Chart of the CBOE Volatility Index (VIX) — Chart Source: TradingView

This plunge lower tells us that investors are not worried about stocks reversing course and moving lower anytime soon.

Now, if you’ve been in the markets a while, you’re familiar with the VIX. And you might have heard some investors suggest it should be used as a “contra” indicator. In this case, that would mean while a low VIX appears to represent calm markets on the surface, in reality, it’s simply setting the stage for a sudden spike of market volatility. After all, if the VIX is at significant lows, in which direction is it most likely to move going forward?

As all good analysts do, John and Wade consider and address the opposing argument:

Of course, it is important to note that many investors look at the VIX as a contrarian indicator. As the saying goes, “When the VIX is high, it’s time to buy. When the VIX is low, it’s time to go.”

Looking at the indicator through that lens, you may be tempted to think it’s time to harvest your profits and brace for the impending collapse of the stock market. However, we think the catchy couplet that many investors blithely repeat has a major flaw. It forgets that the VIX can remain low for an extended period.

Here again, John and Wade don’t just tell their subscribers something, expecting readers to accept the point “just because.” Instead, they illustrate “why?” with an example:

Just as oscillating technical indicators — like the stochastic or the commodity channel index (CCI) — can remain in overbought territory for a long time (see Fig. 2), the VIX can remain low for months (see May-September 2018 in Fig. 1 above).

 

Fig. 2 — Daily Chart of Cisco Systems (CSCO) with Stochastics and CCI Indicators — Chart Source: TradingView

To solve for this problem, we think it is best to modify the VIX couplet to be “When the VIX has been high and breaks through support, it’s time to buy. When the VIX has been low and breaks through resistance, it’s time to go.”

Currently, resistance on the VIX is at 18 (see Fig. 1), and it doesn’t look like the indicator is going to break through anytime soon. Looks like it’s time to stay bullish.

***The second sign John and Wade point toward is the price-action of gold

Now, regular Digest readers know that we’re bullish on gold in the long-term. But that doesn’t mean we expect the precious metal to move upward in a straight line. In recent days, gold’s price has been trending lower.

Why? Well, the price of gold is affected by all sorts of factors — for example, interest rates, U.S. dollar strength, and whether or not stock investors are fearful about what’s going to happen in the stock market.

And on that last note, I’ll turn back to John and Wade:

Gold’s defensive nature is the reason investors often buy the precious metal when they are nervous about the future and sell it when they are confident about the future.

Gold prices are dropping, and gold just completed a “head-and-shoulders” bearish reversal pattern (see Fig. 3). This tells us that investors are currently selling gold, which is increasing supply on the market and pushing down prices.

 

 

Based on the height of the head-and-shoulders pattern, the price of gold could drop below $1,240 per ounce — further confirming that investors are moving their money out of gold and into higher-yielding assets, like stocks.

***The third sign John and Wade have noticed is the steepening of the yield curve

If you recall, a few weeks ago, the financial media went into a tizzy when the 3-month Treasury bill inverted with the 10-year Treasury.

Here are a few of the headlines from late March when this happened …

 

 

Well, here we are a few weeks later, and fortunately, we haven’t all been annihilated by a financial apocalypse.

And in fact, something different is happening now. On that, back to John and Wade:

The Treasury yield curve has been causing concern on Wall Street recently because the yields in the belly of the curve — the yields for the 2-year Treasury through the 10-year Treasury — have been inverting (see the blue line in Fig. 4). This means the longer-term yields have been lower than the shorter-term yields.

 

Fig. 4 — Treasury Yield Curve Steepening

 

This imbalance shows that instead of investors demanding a higher yield for the time-risk they are taking on by purchasing a longer-term asset, they are content with a lower yield so long as they can keep their money in the safety of a U.S. Treasury.

However, since bottoming out on March 28, the inversion in the belly of the curve has been rising. As of April 16, the belly had almost completely reverted to its normal slope.

This is a bullish sign for the stock market because it shows investors are no longer seeking the safety of U.S. Treasuries, even if it means they are forced to accept lower yields for that safety. Instead, they are selling their Treasuries and moving that money back into stocks.

***So, putting it all together, what are these three signs telling us about the markets today?

Let’s go straight to John and Wade:

We aren’t looking for the S&P 500 to break up through its all-time high of 2,940.91 — set on Sept. 21, 2018 — immediately. We are, however, looking for the index to continue climbing higher to retest that level.

We wouldn’t be surprised to see some profit-taking at that point, which could cause a short-term consolidation range to form. But if earnings season continues to go well, we anticipate the S&P 500 will be forming new all-time highs this quarter.

Beyond the conclusion that John and Wade have drawn, I hope you’ve enjoyed the analysis and explanation behind it. Sure, we’ll be happy to provide subscribers great trades and investment ideas, but we’ll be even more pleased if we can help you become a wiser investor so that you can analyze the markets and find great investments on your own. What’s the saying about giving a man a fish versus teaching him to fish?

If you’d like to learn more about John and Wade and their Strategic Trader service, .

Have a good evening,

Jeff Remsburg

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.