It’s been a couple of months since we last looked at the Market Timing AI Expert System. Since that time the 400 rules that make up this AI system have generated a cluster of 3 down signals, followed by a buy signal and then most recently another down signal.
In this 7 minute video Steve Hill, CEO of AIQ Systems explores the signals and the confirmation techniques used to verfiy the ratings, together with the primary rules that fired.
The Expert System in TradingExpert Pro gave a 1 – 99 down signal on the Dow Jones on 8-27-20. The market internals based on the advancing vs declining issue in the New York market continue to diverge from the market price action.
The phase indicator used to confirm Expert Ratings turned down on 8-31-20. We usually look for a phase confirmation of an Expert Rating to occur within 3 days of the rating.
The changes made in the constituents of the Dow 30 effective 8-31-20
The old adage is that we should “buy when there is blood in the streets.” It basically means to buy when things look their worst. Well, for the record I am not actually a fan of this intonation. While it is probably a fair statement, I for one prefer to see some sign of hope – some sign of a trend reversal at the very least – before taking the plunge.
One historically useful indicator suggests we may be nearing that point.
I refer to this indicator as JKHiLo. I included my initials in the acronym because I “developed” it. OK, all I really did was take one guy’s useful indicator and multiply it by another guy’s useful indicator and voila.
In a nutshell JKHilo multiplies Norman Fosback’s HiLo Logic Index by Gerald Appel’s High/Low Indicator.
The Fosback HiLo Logic Index (FHLLI)
I wrote two articles here and here about this indicator. In short, a very low number of stocks making new lows is bullish for the stock market – it indicates that stocks overall are going up and is bullish. At the same time, a very low number of stocks making new highs is also (typically) ultimately bullish going forward, as it tends to signal a “washed out” market.
So this indicator:
*takes the lower of new highs and new lows each day
*divides that number by the total number of issues trades
*takes a 10-day moving average of daily readings
Specifically, the Fosback HiLo Logic Index (HLLI) is calculated as follows:
A=Daily Nasdaq New Highs
B=Daily Nasdaq New Lows
C=The lower of A and B
D=The total number of Nasdaq issues traded
E = (C / D) * 100
FHLLI = 10-day average of E
Readings above 2.15% are considered a sign of “churning”, i.e., a lot of new highs AND new lows. Reading below 0.40% are considered “bullish” because either new highs OR new lows is very low.
The Fosback HiLo Logic Index finally dropped below 0.40% on 3/23/20. Figure 1 displays the OTC Composite Index with this indicator through 12/31/2019.
Figure 1 – Fosback HiLo Logic Index
The Appel High/Low Indicator
This indicator (heretofore AHLI) is more of a trend-following indicator. It simply divides the number of new highs each day by the total of new highs AND new lows, then takes a 10-day average.
The AHLI is calculated as follows:
A=Daily Nasdaq New Highs
B=Daily Nasdaq New Lows
C = A / (A+B)
AHLI = 10-day average of C
Figure 2 displays this indicator versus the OTC Composite from 12/29/17 through 3/23/20.
Figure 2 – Appel High/Low Indicator (x100; blue line) with OTC Composite (/100; red line); Dec17 through 3/23/20
Extremely low readings tend to highlight oversold market conditions. For the record, an actual “buy signal” for this indicator occurs when it drops below 0.20 (or 20 in Figure 3 since the blue line is the indicator x 100) and then rises back above that level.
The JK Hilo Index (JKHiLo)
So then one day some young punk comes along and multiplies the Fosback indicator by the Appel indicator and has the audacity to add his own initials. Some people. Anyway:
JKHiLo = (FHLLI x AHLI) x 500
A “12-month Buy Signal” occurs when this indicator:
*drops below 5.00
*then turns higher for one day
The first part of this signal has happened. As of the close on 3/23/20 JKHL has plunged to 1.8.
Let’s look at previous instances when JKHL fell below 5.00 and then ticked higher for one day.
IMPORTANT: This upside reversal technically constitutes a “12-month buy signal”. What does that mean? It means:
*We expect the market to be higher 12-months later
*HOWEVER, it is NOT an “All Clear, Everything is Great, You Can’t Lose” signal
The bottom line is that it typically does NOT mark the actually bottom. In most cases, another new low or at least a retest of the low follows within a few months. But not always.
Figure 3 displays the 7 buy signals that have occurred since 1990.
A = Date of signal – i.e., date the JKHL indicator ticked up one day after dropping below 5
B = SPX closing price on date of signal
C = Subsequent low closing price for SPX
D = SPX closing price 12 months after signal date
E = # of trading days between date of signal and ultimate low
F = % decline by SPX from date of signal to ultimate low
G = % change in SPX closing price 1 year after date of signal
Figure 3 – JKHL 12-month buy signals
It is important to note that each previous “buy signal” was followed by further downside price movement prior to the ultimate low. It ranged from 2 trading days in 2018 to 101 trading days in 2008. 6 of the 7 signals saw a further decline of no more than -6.3%. But the 2008 signal saw the market continue to plunge another -31% of the following 3+ months.
So, like I said earlier, even when this indicator does turn up and generate a new signal, that DOES NOT mean “All Clear”. Still, to get an idea of what we might expect, each of the previous signals are displayed in the Figures below.
Figure 4 – 1990 signal (-3.4% to low, +25.6% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 5 – 1998 signal (-6.3% to low, +31.3% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 6 – 2002 signal (-4.1% to low, +24.3% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 7 – 2008 signal (-31.3% to low, +10.7% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 8 – 2011 signal (-0.5% to low, +25.4% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 9 – 2016 signal (-4.1% to low, +19.1% 12 months later)
(Courtesy WinWayCharts TradingExpert)
Figure 10 – 2018 signal (-2.4% to low, +28.9% 12 months later)
(Courtesy WinWayCharts TradingExpert)
We DO NOT have a new signal yet, but JKHiLo is below 5, so it is just a matter of waiting for the daily value to tick higher for one day (and then – if history is a guide – waiting for the ultimate low to be put in before a subsequent rally).
Figure 11 – As of 3/23/20(Courtesy WinWayCharts TradingExpert)
Summary
Are we on the cusp of a new opportunity? Or on the edge of a cliff? In this time of unprecedented uncertainty, I can’t pretend to know the answer. So, I rely on objective indicators to guide me.
At this moment in time the “trend-following” indicators are bearish and so caution is undoubtedly in order. But other indicators such as the one discussed here remind us to remain alert to new opportunities.
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented does not represent the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
To put this piece in context please refer to Part I here.
Part I detailed the Good News (the stock market is still very much in a bullish trend and may very well continue to be for some time) and touched on one piece of Bad News (the market is overvalued on a long-term valuation basis).
The Next Piece of Bad News: The “Early Lull”
In my book, Seasonal Stock Market Trends, I wrote about something called the Decennial Pattern, that highlights the action of the stock market in a “typical” decade.
The Four Parts of the “Typical Decade” are:
The Early Lull: Market often struggles in first 2.5 years of a decade
The Mid-Decade Rally: Market typically rallies in the middle of a decade – particularly between Oct 1 Year “4” and Mar 31 Year “6”
The 7-8 Decline: Market often experiences a sharp decline somewhere in the Year “7” to Year “8” period
The Late Rally: Market often rallies strongly into the end of the decade.
Figure 1 – 1980-1989 (Courtesy WinWayCharts TradingExpert)
Figure 2 – 1990-1999 (Courtesy WinWayCharts TradingExpert)
Figure 3 – 2000-2009 (Courtesy WinWayCharts TradingExpert)
Figure 4 – 2010-2019 (Courtesy WinWayCharts TradingExpert)
We are now in the “Early Lull” period. This in no way “guarantees” trouble in the stock market in the next two years. But it does offer a strong “suggestion”, particularly when we focus only on decades since 1900 that started with an Election Year (which is where we are now) – 1900, 1920, 1940, 1960, 1980, 2000.
(See this article for a more detailed discussion)
As you can see in Figures 5 and 6, each of these 6 2.5-year decade opening periods witnessed a market decline – -14% on average and -63% cumulative. Once again, no guarantee that 2020 into mid 2022 will show weakness, but….. the warning sign is there
Figure 5 – Dow price performance first 2.5 years of decades that open with a Presidential Election Year (1900-present)
Figure 6 – Cumulative Dow price performance first 2.5 years of decades that open with a Presidential Election Year (1900-present)
Summary
Repeating now: the trend of the stock market is presently “Up”.
Therefore:
*The most prudent thing to do today is to avoid all of the “news generated” worry and angst and enjoy the trend.
*The second most prudent thing to do is to acknowledge that this up trend will NOT last forever, and to prepare – at least mentally – for what you will do when that eventuality transpires, i.e., take a moment to locate the nearest exit.
Stay tuned for Part III
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented does not represent the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
I haven’t written a lot lately. Mostly I guess because there doesn’t seem to be a lot new to say. As you can see in Figure 1, the major market indexes are in an uptrend. All 4 (Dow, S&P 500, Russell 2000 and Nasdaq 100) are above their respective 200-day MA’s and all but Russell 2000 have made new all-time highs.
Figure 1 – 4 Major Market Indexes (Courtesy WinWayCharts)
As you can see in Figure 2, my market “bellwethers” are still slightly mixed. Semiconductors are above their 200-day MA and have broken out to a new high, Transports and the Value Line Index (a broad measure of the stock market) are holding above their 200-day MA’s but are well off all-time highs, and the inverse VIX ETF ticker ZIV is in a downtrend (ideally it should trend higher with the overall stock market).
Figure 2 – Jay’s 4 Market “Bellwethers” (Courtesy WinWayCharts)
As you can see in Figure 3, Gold, Bonds and the U.S. Dollar are still holding in uptrends above their respective 200-day MA’s (although all have backed off of recent highs) and crude oil is sort of “nowhere”.
Figure 3 – Gold, Bonds, U.S. Dollar and Crude Oil (Courtesy WinWayCharts)
Like I said, nothing has really changed. So, at this point the real battle is that age-old conundrum of “Patience versus Complacency”. When the overall trend is clearly “Up” typically the best thing to do is essentially “nothing” (assuming you are already invested in the market). At the same time, the danger of extrapolating the current “good times” ad infinitum into the future always lurks nearby.
What we don’t want to see is:
*The major market averages breaking back down below their 200-day MA’s.
What we would like to see is:
*The Transports and the Value Line Index break out to new highs (this would be bullish confirmation rather the current potentially bearish divergence)
The Importance of New Highs in the Value Line Index
One development that would provide bullish confirmation for the stock market would be if the Value Line Geometric Index were to rally to a new 12-month high. It tends to be a bullish sign when this index reaches a new 12-month high after not having done so for at least 12-months.
Figure 4 displays the cumulative growth for the index for all trading days within 18 months of the first 12-month new high after at least 12-months without one.
Figure 4 – Cumulative growth for Value Line Geometric Index within 18-months of a new 12-month high
Figure 5 displays the cumulative growth for the index for all other trading days.
Figure 5 – Cumulative growth for Value Line Geometric Index during all other trading days
In Figure 4 we see that a bullish development (the first 12-month new high in at least 12 months) is typically followed by more bullish developments. In Figure 5 we see that all other trading days essentially amount to nothing.
Figure 6 displays the Value Line Geometric Index with the relevant new highs highlighted.
Figure 6 – Value Line Geometric Index (Courtesy WinWayCharts)
Summary
The trend at this very moment is “Up.” So sit back, relax and enjoy the ride. Just don’t ever forget that the ride WILL NOT last forever. If the Value Line Geometric Index (and also the Russell 2000 and the Dow Transports) joins the party then history suggests the party will be extended. If they don’t, the party may end sooner than expected.
So pay attention.
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented does not represent the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
First the reality. Nobody knows what the market is going to do. Yes, I am aware that there are roughly a bazillion people out there “prognosticating” (myself included) about the stock market. And yes, if one makes enough “predictions”, the law of averages dictates that one will be correct a certain percentage of the time.
Still, the market does offer clues. Sometimes those clues turn out to be false leads. But sometimes they do offer important information. For example, Figure 1 displays four major market indexes. As you can see, in the Aug-Sep-Oct time frame all four of these averages “broke out” to new all-time highs (i.e., The Good News) and then broke back down below the previous resistance line drawn on each chart (i.e., The Bad News).
False breakouts happen all the time. And the reality here is that sometimes they mean something and sometimes they don’t. But when all four major average do the same thing, a warning sign has been issued to those who are interested in seeing it. That’s why it can be useful to seek “confirmation”. For my purposes I look to what I refer to as my 4 “bellwethers”, which are:
SMH – Semiconductors
TRAN – Dow Transportation Average
ZIV – Velocity Shares Inverse VIX Index
BID – Sotheby Holdings
These tickers appear in Figure 2 (click to enlarge).
While the major indexes were testing new highs in Aug/Sep and then breaking down in October:
SMH – Never really came close to breaking out above its March high
TRAN – Followed the major indexes by hitting new highs in Aug/SP and then breaking down in October
ZIV – Never came anywhere close to its Jan-2018 high
BID – Broke to a new high in Jun/Jul, then failed badly.
In a nutshell, the failed major index breakouts were accompanied by absolutely no positive signs from the 4 bellwethers. So, the warning signs were there if one wished to see them.
So where are the bellwethers now? Another close look at Figure 2 reveals that:
SMH – the key support level at 80.92
TRAN – the key level for the Dow Transports is 8744.36
ZIV – the key support level is 60.60
BID – a potential support level is 32.95 (the Apr 2013 low)
Summary
*Given the washed-out/oversold level that many indicators and sentiment surveys have reached…
*…Combined with the fact that we are in the seasonally favorable pre-election year (no down pre-election years since the 1930’s)
*There is a chance that 2019 could be surprisingly bullish, and shell-shocked investors should not stick their heads in the sand to the possibility.
At the same time:
*Based solely on trend-following indicators ALL of the major market indexes are technically in confirmed bear markets. As a result, there is absolutely nothing wrong with having some portion of one’s capital in defensive positions at the moment (30% cash or short-term bonds?).
*Keep a close eye on January performance. A bullish January would be a positive sign just as a negative January could – in this case – signal a continued market decline.
*Keep a close eye on the 4 Bellwethers relative to their respective support levels.
In a nutshell:
*Up January + Bellwethers holding above support = GOOD
*Down January + Bellwether breaking down below support = BAD
Those are all the “clues” I can offer at the moment.
Jay Kaeppel
Disclaimer: The data presented herein were obtained from various third-party sources. While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.
English