Technical Nuggets: Is this Market Really “Un-shortable?”
Why does a stock market bear show up to work anymore? After all, thanks to central bank policies in the U.S., Japan, and Europe and the prevalence of low to negative interest rates, we live in a different world. In particular, and very bad for bearish analysts and short sellers, stocks just don’t seem to fall for any extended period of time anymore, which is why I thought it would be worthwhile to explore what it could mean when two bearish analysts changed their minds about the future of the stock market last week. One of them called the current market “un-shortable.”
Back in the old days
In the days when there were bull and bear markets and the Federal Reserve was a different entity than today’s incarnation replete with its own Facebook page, Twitter account and its post-interest rate decision press conferences, you could bet that when prominent people on Wall Street, especially late in a bull market, said that this time is different – meaning that the old rules no longer applied – it was a good time to start selling. The bear markets that followed the Internet and housing bubbles (2000 and 2007) are perfect examples of this reliable indicator, euphemistically known as ‘capitulation’, even when self-proclaimed brokerage house “experts” and hedge fund managers loudly claimed that stocks could rise forever because this time was different; right before the markets crashed.
This and other reliable indicators seem to have lost their touch of late. Let’s review the current situation: 1) the global economy is in sad shape despite zero and in some cases below negative interest rates; 2) corporate management has changed its focus, more focused on boosting earnings per share by buying back their own stock (often with borrowed money) than on building plants and gaining more customers; 3) banks are back to running Ponzi schemes (see any news about Wells Fargo lately); 4) geopolitically speaking, the world is a mess; and, 5) the U.S. presidential election is an unprecedented event. Now, consider that at any time in the past when there were events that even remotely resembled these, there might have been a bear market in stocks. But today, stocks just keep on climbing.
The same scenario, where a bear would indicate that the worst was still to come after a multi-month rout in the stock market would often occur at the bottom, just before a new bull market would be born. Which is why when two prominent bears may have just thrown in the towel, I want to see what happens next.
Two Bears Say: Buy Stocks
Something unusual happened last week. Marco Kolanovic and Bill Fleckenstein, two well-known and respected bearish analysts, called for higher stock prices. Let me just say that these two guys are not lightweights. Fleckenstein is a professional short seller with a good record. Kolanovic works for J.P. Morgan as a quantitative analyst who specializes in calling short to intermediate-term market turning points with uncanny accuracy.
So here’s what caught my attention: Kolanovic told his clients to buy stocks last week, and said that the worst is over in the short term and that the only thing that can stop prices from moving higher until the U.S. presidential election – which he calls a “coin flip” – would be a rate hike by the Fed, which we now know isn’t going to happen until after the election, if at all.
Fleckenstein’s call was a little different as he had a very public spat on CNBC, after he was taken to task by CNBC “Fast Money” trader Tim Seymour for missing the bull market. It’s not certain if Fleckenstein has lost money over the last seven years or not, but he usually does not buy stocks to any significant event. Still, he has remained bearish for seven years of bullish stock action, no matter what the reason. Seymour heckled Fleckenstein after the latter called the current stock market “un-shortable.”
These remarks are important, because both these guys are good analysts with solid records and they just flipped big time. Most important, their shared central thesis is that stocks will continue to rise indefinitely due to global central bank policies of zero and negative interest rates and asset buying.
S&P 500 is struggling
Despite the observations of Kolanovic and Fleckenstein, the S&P 500 (SPX) is still struggling to make it to a new high, although other indexes and the NYSE advance-decline line both made marginal new highs when the Fed left interest rates unchanged on September 21st. But the two-day rally following the Fed’s latest interest rate fake out ran into trouble on Friday. And an examination of the indicator panels that accompany the SPX index chart (below) shows that the market benchmark index is less stout than a casual glance may suggest.
For the bulls, the most encouraging part of the chart is the MACD indicator panel (bottom of chart) where the MACD histogram (blue bars) have crossed above the zero line and the MACD has delivered a positive cross-over (black line crosses over red line). These events suggest that momentum to the downside has been arrested and may have reversed. But what worries me is that a look at the MACD histogram since August 1st shows that each new low in this indicator, after a market decline, is a less than the previous low. That suggests that each time the market takes a blow, it has a higher wall to climb before it gets fully exhausted. Think of it as a prizefighter who gets up too soon after a knockdown. He may land a lucky punch now and then, but if the other guy hits him again, it’s likely to do some serious damage. I noticed the same situation in June after the Brexit bottom. In that case the bounce-back rally after the crash was dramatic, but didn’t last very long and was followed by a protracted trading range and the subsequent choppy trading that we’ve seen over the last two months. This is an unusual occurrence in this indicator, as traditionally, meaningful rallies follow a shallower second trough in the MACD indicator.
For the bears, there are other troubling findings on this chart. First, the index failed to close above its 50-day moving average on Friday, after rallying for two days when the Fed left interest rates unchanged. Next, “on balance volume” (OBV, upper panel) is still falling, which means that there is more volume when traders are selling than when they are buying. OBV is a little dicey right now because, like the MACD panel, it is off of its worst levels. Finally, the Accumulation Distribution indicator (ADI, upper indicator, bottom panel) is starting to slump. What’s most interesting is that OBV and ADI are supposed to confirm each other, but lately they have diverged with OBV falling while ADI has been rising. This suggests that investors have been buying stocks, but are buying smaller lots than in the past, a sign of doubt in the long term. This is most evident in the raw volume bars seen at the bottom of the price panel. Since August 1st, there have been 22 pink bars (down days) and 17 grey bars (up days), a 56% down to up day ratio. Compare those numbers to the 17 up and 7 down days after the Brexit bottom (June 27 to August 1), which had 71% up days 29% down days.
It is possible – perhaps even likely – that Kolanovic and Fleckenstein are onto something, and the market will go straight up from here. But it is equally plausible that their change of heart is a sign that a meaningful correction is on its way because markets and events usually return to their mean, or historically normal, behavior. I am not making a market call per se. Stocks may still go up for a long time from today, but they won’t go up forever; period. Based on my review of the MACD, On Balance Volume, Accumulation Distribution indicators and the analysis of recent volume bars, the market seems to be on wobbly legs. We’ll know soon enough whether this time is different or not, but it does appear that investors may be getting a bit doubtful about this market.
If I was writing this column in 1999, I might be thinking about triple mortgaging my house and using the proceeds to short the market. But this isn’t 1999, and no one knows what’s in that interesting looking truffle when they bite into it any more. Indeed, with central banks in command of the market starship and with a “yuuuuge” audience expected to watch the first presidential debate to start the week, I’m not sure that the word different is descriptive enough at this point. I’m thinking that the current moment is one that offers a ridiculous and unprecedented unpredictability with an astronomically high uncertainty of outcome.