Another Bear Trap?

Another Bear Trap?

The global markets were shocked on March 1st, as Trump promised tariffs on steel and aluminum.  The already-declining stock market was hit with more selling on the news, as the S&P 500 dropped 36 points or 1.3%.   The three-day selloff ended the next day, and with the 1.7% gain on Friday, the S&P 500 is just barely below the pre-tariff highs.

(Photo by Sam Greenwood/Getty Images)

The stock market had plenty to cheer about on Friday, as the details of the tariff plan released Thursday did not bear much resemblance to what was originally promised.  The much-anticipated jobs report on Friday had kept many fundamental investors on the sidelines. It was much stronger than anyone expected, and the small increase in wage growth dampened inflation fears.

In the February 2nd jobs report, it was the wage component that spooked the stock market and set the stage for a six-day plunge. Many sold the next week, as the fear of higher rates and higher inflation caused them to get out of their stock positions.

When the market finally closed on February 9th, there were many dire predictions on what might happen next to the stock market. One technical analyst after the close concluded that we were now in a bear market.

In my column from February 10th, “Are The Wall Street Strategists Finally Right?”, I also concluded that the technical damage was not that severe. I pointed out that two ETFs, the Technology Sector Select (XLK) and the Consumer Discretionary Sector Select (XLY), had held up well during the decline.

The fact that the weekly advance/decline analysis had not turned negative after the stock market dropped was a sign that the dominant trend was still positive. The market-leading PowerShares QQQ Trust (QQQ) had traded below its daily and weekly starc- bands during the decline, indicating that it was in a low-risk buy area.

The daily Nasdaq 100 A/D line dropped below its WMA the day before the jobs report, and had reached good support (line c). Just three days after the February 9th low, the A/D line was back above its WMA. This was a positive sign, as it moved the A/D line out of the corrective mode.

The strong close on Friday was well above the January high (line a). The Nasdaq 100 A/D line has also moved to a new high, which confirms the price action. The weekly Nasdaq 100 A/D line (not shown) never dropped below its WMA and also made a new all-time high last week.

Since the January 26th high, investors have had many reasons to think twice about investing in stocks. There have been economic reports (like the CPI report) as well as warnings over a bond bear market that has kept many investors from buying stocks. But was this just a bear trap?

The role of a bear trap is to convince many investors that the stock market is going to go even lower. Investors are scared out of their stock positions on a sharp market drop and some are convinced to go short, only to have the market reverse course and move sharply higher.

As the stock market was making its low in early February, the options market data revealed that 1.3 puts (bearish positions) were purchased for every call (bullish position). This is a contrary indicator, so the high level of negativity was actually bullish for stocks.

This extreme level was again hit at the start of March, but the ratio plunged Friday to 0.81. It is also important to note that in January, as the stock market was accelerating to the upside, the Total Put/Call ratio was 0.64. This indicated that traders were too bullish and by the end of the month I wondered “Is The Stock Market Now On Thin Ice?”.

The high volatility and sharp drops over the past month have also changed investors' sentiment, according to the surveys from the American Association of Individual Investors (AAII). The bullish sentiment peaked on January 4th at 59.75% bullish, and last Thursday it had dropped to 26.4%. I would expect these numbers to change significantly in the next few weeks.

The CNN Fear & Greed Index was well over 80 (Extreme Greed) in late January at the market highs, but had dropped a week ago to 10 (Extreme Fear).  It was at 25 on Thursday, but closed the week at 44 (Fear).

Now that the Nasdaq 100 has made a new all-time high, does that confirm that the recent drop was a bear trap? Before deciding, it is important to look at the other major averages.

The Spyder Trust (SPY) closed just below the prior week’s high, and is still 3% below the all-time high from January at $286.63. The close at $278.87 was well above the 50-day MA, which for many bears was their line in the sand.  The weekly starc+ band is now at $287.50.

The weekly S&P 500 A/D line has now moved above the February high, and shows a bullish zig-zag formation. The A/D line is very close to the January high, which is likely to be overcome this week if SPY does close higher. The early February low is now good support for the A/D line.

The NYSE Composite has been considerably weaker than the QQQ or SPY, as it is still below the late February high at 13,018 (line a), and is still 5.2% below the January high at 13,637. The daily NYSE A/D line dropped below its WMA last week but broke through its downtrend (line b) at the end of the week.  It has short term support now (line c).

The weekly NYSE A/D line (not shown) is above its WMA and close to the January high. The McClellan oscillator formed a bullish divergence at the correction lows, which supported buying at the open on February 12th.

The SPDR Dow Industrials (DIA) has also not been as strong as the SPY or QQQ but is positive, based on both the weekly and daily analysis.  The DIA, like the SPY, dropped to test its 20-week EMA last week before closing strong. There is next resistance at $257.86, but DIA is still 4.4% below the all-time high made in January.

The weekly Dow Industrials A/D line is above its WMA and rising. The daily A/D is still just below the breakout level (line b). The A/D line has good support now (line c).  The daily and weekly relative performance (RS) analysis indicates that the Dow Industrial Average is no longer leading the S&P 500.

One of the more important developments last week was the fact that the small cap iShares Russell 2000 (IWM) has starting to lead the S&P 500. In last week’s article Is It Time To Rotate Into Small Cap Stocks?, I discussed how the small caps outperformed during the last bull market, and pointed out that the IWM generated a bullish signal on Tuesday.

The 4.2% gain last week in the IWM was well above the highs from the past four weeks, with the next resistance at $159.86-$160.62. The weekly starc+ band is at $163.58, with the upper boundary of the trading channel (line a) at $167.66.

The weekly Russell 2000 A/D line has moved back above its WMA and is now close to the all-time high from January.  The strong close last week has moved the weekly RS above its downtrend (line b) which confirms that IWM is a now a market leader.

There is a full economic calendar this week with new inflation data from the CPI and PPI data. Also out this week are Retail Sales, the Empire State Manufacturing Data, then Housing Starts and Consumer Sentiment at the end of the week.  Softer data could negatively impact the yield on the 10-Year T-Note, which rose slightly last week.

The daily chart shows that yields bounced from support at 2.790% (line a). This is now an important support level to watch, as the MACD analysis still points to lower yields. The latest Commitment of Traders (COT) indicates there is still a very large short position in the T-Note futures. It is still my view (Will The Bond Bears Now Run For Cover?) that the large speculators will be forced to cover if yields drop much below 2.780%.

The technical outlook from the major averages do indicate that the correction was a bear trap. Given the large gains last week it is likely that the market will pause or pullback in the next week or so. That should provide another good buying opportunity.

In March, I have found a number of good stock trading opportunities now that the earnings season is mostly over.  All of the six new Viper Hot Stock recommendations in March are performing well, and there were over forty new buy signals from last week’s scan.

If you are interested in specific buy and sell advice I hope you will consider the Viper ETF or Viper Hot Stocks reports.  Each is sent out twice a week and the reports are only $34.95 each per month.

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