Weekly S&P 500 #ChartStorm - 27 Sep 2020

Those that follow my personal account on Twitter will be familiar with my weekly S&P 500 #ChartStorm in which I pick out 10 charts on the S&P 500 to tweet. Typically I'll pick a couple of themes to explore with the charts, but sometimes it's just a selection of charts that will add to your perspective and help inform your own view - whether its bearish, bullish, or something else!

The purpose of this note is to add some extra context and color. It's worth noting that the aim of the #ChartStorm isn't necessarily to arrive at a certain view but to highlight charts and themes worth paying attention to. But inevitably if you keep an eye on the charts they tend to help tell the story, as you will see below.

So here's another S&P 500 #ChartStorm write-up!!

1. The 3200 floor is in place, for now... The S&P 500 fell 0.6% last week as large cap growth made a relative comeback. Small caps and foreign stocks underperformed. 3200 held for now, but the bulls want to see 3300 reclaimed before too long. 3200 is key because it was about the high from early June and was then a battle zone during July before August’s massive melt-up in large caps.

Below the 3298 closing level we’ll find the rising 200 day moving average at 3107 which should provide some long-term support. SPX briefly dipped into correction territory intraday last week, but a relief rally on Friday kept it from happening on a weekly closing basis. The weakest links this month have been technology (XLK) and energy shares (XLE) while Utilities (XLU) are near the flat line.

The momentum indicator on the top of the chart, RSI (14), continues to barely hang in the bullish zone between 40 and 90, but things are getting precarious – watch out for a break above 50 for a possible confirmation of an S&P 500 rally.

Bottom line: Stocks have continued to lose ground during what is notoriously a tough month. The peak near 3600 back on September 2 seems like ages ago as volatility runs high. With a VIX near 30, implied daily moves are on the order of 2% up or down, and we have been seeing that. 3200 may be the line in the sand. Last week’s high just above 3300 is likely a resistance level.

chart of S&P500 key support level

2. The $VIX futures curve indicator went slightly oversold and then turned up. Now looks like bullish divergence... After getting beat up so far in September, the bulls have a few indicators to look towards for a possible turning point in stocks. One such indicator is the bullish divergence found between price action on the S&P 500 and the ratio of 3-month VIX futures to the prompt-month.

We looked at this 1-year chart, and found two recent examples of similar divergences – both represented good long entry points into equities. The first instance occurred during the COVID flash bear market bottom when SPX dipped to near 2200 – the ratio of VXV to VIX did not confirm a new low – hence the bullish reversal indicator. The same pattern took place in June. It’s almost hard to recall how volatile June was; June 11 was a 6% distribution day for SPY while small caps fell even further. The VIX soared almost 50% that day alone ... rising from 28 to 41.

This time around, the VIX futures curve may be telling us the selling is overdone for the moment. We have not seen short-term VIX futures shoot higher during this correction; the CBOE VIX has ranged from about 25 to 40 while 3-month volatility (VXV) has a similar range. The VIX settled not far from multi-week lows on Friday – near 26.

Bottom line: While SPX is 8% off its high, the VIX rests not far from the lowest level since August. The VIX futures curve remains suggestive of a little more volatility during October through early November – the November futures contract is near 33%. The key point for traders is that a bullish divergence may be underway with SPX ticking to recent lows while the VIX futures curve indicator has not confirmed another low.

chart of S&P500 vs VIX futures curve indicator

3. The "HY Bond McClellan Oscillator" is also looking very oversold - but as McClellan himself points out, you ideally want to see a bullish divergence establish for a more robust market bottom. Thanks to @McClellanOsc for providing us this chart of the S&P 500 price in black and junk bonds’ ratio-adjusted McClellan A-D Oscillator in red.

Unfortunately for the bulls, there’s no bullish divergence here. Taking you back to technical analysis 101, the McClellan Oscillator analyzes the breadth of a market – comparing advancing to declining issues using smoothing lines to get a gauge of market trends and momentum. During the September S&P 500 swoon, the high yield corporate bond market has seen money continue to exit, leading to the lowest print on the oscillator since April. This is great news for the bears as it shows momentum in the risky part of the bond market is awful. Bulls want to see an upward turn in the red line before jumping back into equities.

Bottom line: While the VIX futures curve shows a divergence to declining stock prices, the high yield bond market offers no such glimmer of hope. Breadth & price action in the junk bond space continues to be poor this month. They say the smart money (less dumb?) is found in the credit world, so perhaps we should monitor the McClellan Oscillator in the high-yield fixed income space for clues on where SPX is headed.

Chart of junk bond oscillator vs US equities

4. Also, as @thedogchart points out, the 50-day moving average breadth indicator for the S&P500 has dropped down to oversold levels... Let’s revisit a chart we have been eyeing this year – the S&P 500 price versus the percent of components above their respective 50-day moving average. The closing low on Thursday last week brought the percent of stocks in near-term uptrends to near 25%, almost 2% standard deviations below the mean of the last 5 years.

While it may be an oversold level, we have seen many instances of similar poor breadth readings since late 2015 – and it could always go lower. From a risk management perspective, a move from 25% of equities above the 50dma to the 10-15% rage would imply a rather substantial move lower in stocks. Nevertheless, with many stocks having been chopped from their August and early September peaks, perhaps some nibbling around 3200-3300 could make sense. Is this the 10% correction many have been looking for? Or is Mr. Market going to slaughter those last remaining stocks moving higher?

Bottom line: The percentage of S&P 500 members above their respective 50dma has dropped to the lowest level since the spring as a multi-week correction persists. Friday’s rally only brought the percentage back to 33%, significantly below the 5-year mean of 57%. The small cap rally earlier this year took the green line above 90% and the August large cap advance featured 80% of index members in uptrends, but September has been a different story.

chart of short term market breadth for US equities - oversold reading