Rebound in the VIX gives bears bad breadth
08/18/17

Is the VIX flashing a warning sign? Some traders think it may be.

After all, the market’s been so calm all year that some investors may have forgotten that volatility can even happen. But now technicians can’t be blamed for wanting to bring the CBOE’s once-closely watched “fear index” back on center stage.

They might start by pointing to last week, when the benchmark shot to its highest level since November, apparently breaking its drift to the downside in place all year. Eagle-eyed chart denizens may even notice that the VIX’s 10-day moving average is now above its 100-day moving average for only the second time in 2017. Other cases of that happening were followed by a few weeks of struggles in the S&P 500. For example: 

  • April 1, 2017: The S&P 500 chopped downward through April 21.
  • October 14, 2016: The S&P 500 proceeded to nosedive into Nov. 4, shortly before the presidential election.
  • June 16, 2016: Stocks swung wildly, but mostly lower, into the U.K.’s Brexit vote.
Volatility Index (VIX) 8/23/16 - 8/17/17.

Source: OptionsHouse by E*TRADE. Circles show 10-day MA rising above 100-day MA.

So what about the breadth part? It’s true–you may not have learned it on Animal Planet, but bears have bad breadth.

And no, that’s not a typo. We’re talking about “market breadth,” or the relationship between strong and weak stocks. Chart watchers monitor it closely, and some are starting to feel an inner grizzle.1

The main concern is leadership is narrowing to a few high-fliers like Apple (NASDAQ: AAPL) and Boeing (NYSE: BA). This isn’t a surprise because the mainstream S&P 500 Index gives much heftier weighting to the biggest and best-known companies. Technical analysts sometimes compensate for this by using the S&P Equal Weight Index, which gives all companies an identical slice of the pie. When it outperforms the S&P 500, buying is broader based. 

That was true between late last year and about April, but then a gap opened and has continued to widen even as the overall market made new highs. In fact, the equal-weighted index has only registered two positive weeks so far this quarter, while the mainstream S&P 500 has risen four times. 

There’s also been plenty of buzz in the media about the Dow Jones Industrial Average soaring as small caps lagged. Pretty much another side of the same coin, with a handful of giants doing the heavy lifting while legions of smaller names hit the skids.2

Strategists have also been humming ursine tunes. In the last week, for instance, Citi warned that higher rates will hurt richly valued stocks.3 Goldman Sachs said second-quarter results were good – but not good enough to keep the bulls running.4 J.P. Morgan also mused that investors are losing hope of major tax cuts this year.5 Some institutional investors seem to agree, based on a survey as well.6

Bottom line: The dog days of summer are setting in, but some traders wonder if the bears won’t give the canines a run for their money.

 

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1. Business Insider: A bunch of indicators are warning of 'a break in the stock market'. 8/6/17.

2. CNBC: Market correction coming very soon despite Dow's new record, Strategist Dwyer says. 8/3/17. Marketwatch: Breakdown between Dow, S&P 500 and GE sends an ominous stock-market signal. 8/17/17.

3. CNBC: The bull market is still healthy, but the risks for a crash are increasing, Citi says. 8/9/17.

4. Marketwatch: Stock rally is occurring against a backdrop of falling profit forecasts. 8/14/17.

5. Marketwatch: Trump’s failure to enact policy is having a ‘chilling effect’ on earnings. 8/16/17.

6. Bloomberg: Bank of America Warns of an ‘Ominous’ Sign for Stocks. 8/15/17.