Correction, but Still Positive

Download PDF Version – Market Watch Correction, But Still Positive – Sept 27, 2020


“All knowledge resolves itself into probability.” – David Hume


Bottom Line: The S&P500 is down roughly -5% from its February high, the equal-weighted S&P500 is down roughly -11%, the TSX Index down roughly -12% and the Value Line Geometric Index, a basket of 1700 North American Stocks, an excellent representation of what’s going on in NA stocks, was down -22% since February.

Our portfolios will likely be down a bit in September, and it will have been a few months since we’ve made any gains, much like the market itself.

Also, we have had a lot more portfolio turnover in September than we’d normally like to. When the market enters a correction phase, we will tighten our stop losses significantly and sell when the signals are hit, even at the risk of buying the stock back should we get a subsequent reversal buy signal.

This is in an effort to be positioned correctly, and nearly fully invested once the next up leg begins.

The trend in the S&P500 has been down 4 weeks in a row. Since Jan 2009, this has happened 8 times. Seven of those eight occurrences closed up the next week with 2011 the sole exception. Over the last 20 years, most of the further declines happened when the S&P500 was under its 200 Day Moving Average, which it is not currently.

Now that the end of the worst week of the year is over, we are entering the “turn of the month”. The last four days, and the first four days of every month, historically a significant bullish bias in the market.  Given the statistic mentioned in the preceding paragraph, I think odds are high that next week is a positive week.

Still my base case is that the market bounces next week but ends up retesting this week’s lows into October, or maybe even November before the next significant up leg can begin.


Primary S&P500 Trend Indicator (PTI)
The chart below shows most of our S&P500 PTI. In the top pane is the S&P500, and the percent of stocks above their 200 day average and then % stocks above their 150 day average. At 56 and 69.94% respectively the strength of the market trend remains supportive.

In the third pane we see the percent of advancing stocks. Simply, you can see the percent of stocks moving up has been in decline since June. Not at critical levels yet but something to watch.

Then, we see the percent of stocks that have been able to hit new 52 week highs. This represents the power of the buyers in the market. We want to see that over 10% to support an uptrend and you can see that this number has been weak since the bottom. Now turning negative, it remains well above negative signal levels we saw in late February.

The bottom pane simply shows the difference between the short term (5 day) average trend and the 200 day trend. Once the 5 day crosses below, the trend is negative. Just an observation, but taken directionally, in context of all the other signals it is a helpful observation.

For the moment, none of these indicators are near levels reached at the start of the February decline. We continue to view this correction in stocks as a correction in a primary up trend.



Sector Primary Trend Indicators
This table shows the main stock market sectors with the same basic indicators as the PTI shows above. A new negative signal showed up this week in the financial sector (XLF, NYSE) but the balance of sector evidence remains positive at 64% positive.

There is still quite a smattering of red in this model, but most of the red is in the lower half (smaller sectors). The four largest sectors remain fully bullish because all three indicators are on active bullish signals. Technology, Communication Services and Healthcare have been net bullish since April-May. The trouble does not start for the S&P 500 until we start to see bearish signals triggering in these big sectors.


Supporting Evidence

Another reason that we are likely to see a bounce in the short term, and why it seems unlikely that this is a market top that lasts for very long or declines a whole lot further, is simple fear. While at the recent top, measures of complacency were obvious. Now however speculators hit a brick wall and reversed as stocks fell in September. US equity funds and Exchange Traded Funds (ETFs) reported $26.87 Billion of outflows, the largest weekly outflow since December 2018 and the third largest outflow ever!

Also, in an unprecedented reversal, small investors who were shorting (making bets that would profit from a decline in the market) the Nasdaq hit the second highest level ever. It took only a modest 13% correction in the Nasdaq to send sentiment to the second most bearish level on record. As the saying goes, the market likes to climb a wall of worry.



S&P500 Base Case
S&P500 and the Nasdaq 100 are really the only game in town. The breadth models and indicators are holding up the best in these areas. In fact, some short-term breadth indicators in the Nasdaq 100 are looking oversold (stretched to the downside) and this supports the odds for a bounce to the upside. Also consider that we have the turn of the month coming up. This period covers the last four days of one month and the first four days of the next month historically shows a significant positive bias.  Currently, this runs from 26-Sept to 6-Oct.

My base-case is still for a correction that extends into October/November. Corrections can take many paths but below I make a departure by guessing at future price movements in the S&P500.

Classical support levels, the 200 Day Moving Average, the typical wedge pattern, the “turn of the month” and the large increase in negative sentiment (mentioned above), all have me more or less expecting a bounce here in the coming days.



For now, one step at a time: we need some sort of short-term upside catalyst to signal that the September pullback is ending and a short-term uptrend is starting.


More Short-Term Evidence
The chart below depicts the % of stocks above their 20 day moving average. This is a short-term indicator but when it drops to recent levels around 10%, all else being equal, the market is stretched to the downside in the short term.



Medium-term Indicators Turn Mixed
The medium-term indicators deteriorated again this week with mid-caps and small-caps leading the way lower.

As an example of our Medium Term Indicators we look at the Bullish Percent Index. It is a classic index which measures how many (%) stocks are on a “buy signal” according to the classic Point & Figure chart method. Looking at the S&P500, the Nasdaq 100 and large cap S&P100, only one of the three BPIs remain bullish. In context of our other indicators, it’s possible these have just undercut as the market is bottoming short term. Day by day.



Schenk Group Indicator Summary

Breadth Models Unchanged
There are no new signals from the breadth models this week. Four of the five long-term breadth models are net bullish. The S&P SmallCap 600 is the only model still bearish (since late February).

Long-term Breadth Models

  • – S&P 500: bullish since 23-Jul
  • – Nasdaq 100: bullish since 18-May
  • – S&P 100: bullish since 2-Jul
  • – S&P MidCap 400: bullish since 10-Aug
  • – S&P SmallCap 600: bearish since 25-Feb


Short-term Breadth Models

  • – S&P 500: bullish since 23-Jul
  • – Nasdaq 100: bullish since 29-Apr
  • – S&P 100: bullish since 26-May
  • – S&P MidCap 400: bullish since 9-Apr
  • – S&P SmallCap 600: bullish since 9-Apr


As noted before, we did see deterioration in the long-term breadth indicators recently. Also, the percentage of S&P 500 stocks getting above their 200-day SMAs did not surpass 65% in August-September. In contrast, this indicator was above 70% many times from September 2019 to February 2020. This shows less upside participation than before.

The number of stocks above their 200 Day Moving Average for the S&P500, Mid caps, Small Caps, Nasdaq 100 and S&P100 are shown below.



Fed Still Supportive
The Fed balance sheet continues to inch higher. As the grey shading shows, the balance sheet began expanding again in mid-July and continues to expand at a modest rate.



Optimism In the Balance. Stan Weinstein’s Momentum Index
I’m a fan of some of the older technician’s indicators. In the 1960s, Stan Weinstein built this rather reliable measure of market momentum. I take the signals seriously and a turn up from here could mean very good things for stocks.



 Growth vs. Value
Some stocks are regarded as “Growth” stocks because they are growing at above average rates. Shopify and Amazon are examples. Other stocks are regarded as “Value” stocks because they are cheap. While we absolutely screen for value when selecting our growth stocks, I find that most “value” stocks are cheap for a reason. No one wants them. Oil stocks and bank stocks in the US today are a good examples of “value” names.

However, money flows back and forth and when the environment is generally favorable for stocks growth stocks do better than the value crowd. One of our favorite ratios, the IWF (Russell Growth Index) Vs. IWD (Rusell Value Index) is climbing again as money rotates in very bullish fashion.

The green-shaded area marks “pre-earnings” run ups in growth stocks vs. value stocks in each of the prior 3 quarters and we’re beginning to see it again now. This chart alone will tell us where Wall Street is placing its bets as a huge earnings season approaches. I like what I’m seeing so far.



Another reason I do not believe we are in bear market territory is the performance of junk bonds.

A junk bond is a corporate bond issued by a company that does not have an investment-grade credit rating. These are also known as high-yield bonds. Companies that issue junk bonds pay higher interest rates to entice investors to take on the higher risk of lending them money.

Historically, in the chart below, you can see that when the 21 Day Moving Average of the Junk Bond Index (JNK) is above the 200 Day Moving Average, it seems like a good environment for stocks. When it falls below, there appears to be less appetite for risk and stocks struggle.



The index had a data adjustment of some sort in April of 2019, so the chart is cut off. Below is a resumption of that chart and you can see the 21 DMA is above the red 200 DMA, indicating an environment when Mr. Market still has a favorable view of risky assets. Again, a bigger picture positive for stocks.




These are amazing times, and I’m confident we will have another up leg this year where our portfolios see meaningful growth.

We remain completely open to any eventuality that the markets bring. Our strategies, tactics and tools will help us to successfully navigate whatever happens as we focus on monitoring supply and demand signals that the market provides us.


Peter Schenk

CMT, CIM | Portfolio Manager



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