So far this earnings season, the data have been strong enough to prevent any serious selling. The inverse is also true for buying, however. That could send prices above resistance.
So the question at this point is whether the consensus is for a flat market or if traders are evenly split (more or less) between bullish and bearish outlooks. The first scenario reduces the risk of price shocks, while the latter increases that risk.
In the option market, we aren’t seeing expectations build for a breakout, which is usually where the first early signs would emerge. That is both good and bad because it means volatility is low, but options are also cheaper when volatility is lower. A calm option market is evidence that traders are neutral about their outlook rather than split.
The outlook is also relatively calm, although not entirely bullish, in stock prices as well. For example, the percentage of stocks in the S&P 500 Index that are forming new highs versus those that are forming new lows is less than 50% (see chart below). That indicates a lack of momentum, but not necessarily bearishness.
The current situation isn’t ideal, but it isn’t nearly as bad as it was before the August 2015 or January 2016 declines. The new highs/new lows index is worth watching as it could give us an early warning of weakness.
S&P 500 New Highs versus New Lows Percent: Chart Source — StockCharts.com
From a technical perspective, the number of stocks priced under their 200-day moving average is also a good indicator of waning momentum.
As you can see in the next chart, 65% of the stocks in the S&P 500 are still above their 200 day moving average, which isn’t great, but it is much better than it was before the August 2015 or January 2016 declines.
S&P 500 Percent Above 200-Day Moving Average: Chart Source — StockCharts.com
The bottom line is that there seems to be an acceptable level of agreement that stocks are “fully valued” on average and that investor consensus is in favor of a neutral market in the near term.
That picture could change quickly if earnings sour, but the early reports aren’t revealing any unexpected cracks in the foundation just yet.
For now, we recommend continuing to take balanced bullish and bearish trades with short time-horizons. Because of earnings, there should still be plenty of opportunities to profit from big moves that are uncorrelated with the rest of the market.
InvestorPlace advisors John Jagerson and S. Wade Hansen, both Chartered Market Technician (CMT) designees, are co-founders of LearningMarkets.com, as well as the co-editors of SlingShot Trader, a trading service designed to help you make options profits by trading the news. Get in on the next trade and get 1 free month today by clicking here.
