Most investors only watch the daily charts without digging into the minute by minute price action. After all, trading shorter time frames than a daily chart can be very expensive.
Even if you never plan to trade on those short time frames though, there is a lot to learn about market sentiment by watching how short-term traders push prices between the daily open and close.
In this two-part series, we’ll be exploring recent chart action that shows the effect of these trades. Click here for Part 1.
Europe’s Drag on Prices
Click to EnlargeEuropean bearishness is depressing prices in the first few hours of trading, just as it did this February. Ultimately, economic conditions in Europe deteriorated to the point where stocks in the United States and Europe topped out and declined through June.
Traders don’t seem to be pricing in that kind of decline yet, but there is no doubt that U.S. markets have been struggling at the open until the European markets close (around 11:30 a.m. ET). Then U.S. stock prices bounce higher – at least temporarily. In the chart below, you can see the 11 a.m. bounce happening in eight out of the 11 S&P trading sessions portrayed on this chart.
On average, we would expect this to provide an assist to any bearish trades we are planning to close in the early market hours. However, on a trade-by-trade basis, there will be a lot of variability. The primary concern with this pattern is that it has a tendency to precede surprising declines. That is one of the primary reasons we have continued to take bearish trades while the market flirts with support. The past is not a perfect predictor of the future but there is a very strong correlation with this behavior and short term price shocks.
The Bottom Line
As we mentioned in Part One, it’s important not to get spooked by dramatic patterns like these. The changes they actually represent have a relatively insignificant effect. Also, the present bearishness may be affected by the release of the last few quarterly earnings.
On the positive side, traders aren’t hedging aggressively yet. The VIX is off its highs from Nov. 7, which is contrary to market prices and should be seen as a significant vote of confidence by traders for prices in the short term. The VIX is a pretty good proxy for institutional hedging activity so a low reading indicates that the big money isn’t worried yet. If that situation were to change, it would be a solid bearish signal for the rest of the year.
John Jagerson and S. Wade Hansen 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.