Last Friday went to the bulls again, while the bears (of which I know many) had to suffer once more.
It’s not fun constantly having to fight the tape, which is why I often ask the perma-bears what the appeal is to all their negativity. Mind you, I too see plenty of things to be bearish about at any given point; however, the chasm between perception and reality (the broader trend) is where profitability sits.
In other words, while it is necessary to read the news and plenty of different views, it is even more important not to lose sight of the overall trend in the market and the structural environment.
To wit, the current cyclical bull market, to which I also spoke on Wednesday, remains intact, though in my opinion, it’s currently playing in its late innings. As such, those that last week had any outsized bets on a market decline following the ECB and the May jobs report simply fought against the broader trend.
Last Thursday following the ECB interest rate policy announcement, the S&P 500 rose about 0.65%, then another 0.45% on Friday after a good May jobs report, both times reaching fresh all-time highs.
Looking at the daily chart of the S&P 500, note how strong the breakout past the previously pesky resistance area around 1900 was. The index so far has risen in 10 of the past 12 trading days and in five of the past eight weeks — not something I want to chase on the long side in the immediate term.
From a psychological point of view, my thought process coming into this week is that since last week’s good news was bought with both hands, in the immediate term, what other news bits can investors buy?
The answer is: Not a ton.
The immediate-term price action of a few days ahead then stands a good chance of either trotting sideways (consolidating in time), or retracing lower (consolidating in price) and potentially re-testing as low as the 1,900 area.
My multiweek/month upside target for the S&P 500 for now remains 1970, although I have no problem raising that target to 2000 if and when that call becomes appropriate in timing.
The flip side of the recent breakout in the S&P 500 of course is the near record lows in implied volatility. Last Friday the VIX closed the week at 10.73, a level not seen since 2007. While this does speak to investor complacency to some extent, it is worth noting that the S&P 500 hasn’t had a 1% up move in about 34 days, which is a lengthy period of time, historically speaking.
In other words, the actual realized volatility, or the average true range of the index is low, thus implied volatility of the options will also be low, although currently still higher than realized volatility.
The financial sector of the S&P 500 — as represented by the Financial SPDR (XLF) — broke past its March highs last Thursday and has now moved higher almost every day over the past three weeks. As I always tell my clients, a healthy stock market tends to see good participation by the financial sector, which as the biggest industry plays an important role not only in the real economy but also in the stock market. The XLF may also be immediate term over-extended, but through a multi-week view still has room higher, thus supporting this rally in the broader stock market.
Last but certainly not least the small capitalization stocks as represented by the Russell 2000 last Thursday also made an important move by breaking past its 50- and 100-day simple moving averages (yellow and blue lines, respectively). Small caps are still significantly underperforming large caps, and I suspect this will remain so, but it doesn’t mean that the Russell 2000 can’t move back toward the 1,200 area in coming weeks.
All in all, last week stocks once more got the better of the bears, and both traders and investors would be wise to keep the broader stock market direction and structure well in mind. This cyclical bull market won’t last forever, but it doesn’t end until it ends.
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Download Serge’s trading plan in the Essence of Swing Trading e-book here. As of this writing, he did not hold a position in any of the aforementioned securities.