Trader’s Narrative

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Tuesday’s rocket ride was attributed to a news trifecta:

Rep. Barney Frank, made public that the SEC is considering the reinstatement of the uptick rule. Bernanke’s mused on more flexible accounting for banks to allow them to replenish their capital base and to prevent them from limiting their lending in a downturn (as they are now). Finally, Pandit made wildly optimistic statements about the profitability of Citigroup (C), based on the first two months of the year.

Whatever the actual rationale, Tuesday, March 10th, was yet another Lowry 90%-90% days. Of course, if you’ve been paying attention, this is nothing new. In fact, if we just count the times that we’ve fallen to a 52 week high, only to zoom higher on a Lowry 90-90 up day, it would be the fourth time:

The last time was just a few weeks ago (February 25th) when I asked cynically, Does Yesterday’s 90-90 Lowry Up Day Change Anthing? If you’re unfamiliar with what a 90%-90% Lowry up day is, follow the previous link for an explanation.

Of course, this bear market has been remarkable for its lack of significant counter rallies. So it isn’t surprising that although there is a lot of chatter about a bear market rally, not a lot of people actually think it will materialize.

Believe it or not, we’d gone 288 days without a rally (that lasted 80 days or more). That is among the longest stretches ever. It is only topped 3 times in market history since the 1920’s:
Continue reading ‘A Close Look At Yet Another Lowry 90-90 Up Day’

We went from lukewarm, boring sentiment overviews to white hot. As the saying goes, “May you live in interesting times”.

Volatility Indices
I complained in last week’s sentiment overview and the VIX responded giving us a real spike to 42.16 (VXN to 40.44).

These are levels at which we can comfortably say there is true fear in the market. And although there is nothing to stop us from actually seeing higher volatility numbers, there is no doubt now that we have crossed into the serious.

CBOE Put Call Ratio
It was a little dissapointing to not see this measure of fear spike higher. The spike only took the equity only put call ratio to 1.18 - a respectable level of fear but not even close to previous records. For example, consider that going back just a few months to March 2008, we saw 1.35 - as well, the ratio collapsed to 0.51 by the close of Friday’s trading.

ISEE Sentiment
The ISEE sentiment index measures the level of interest from the retail options trader in calls and puts with the resulting number representing a fear index of sorts. Not surprisingly, Friday’s level of 66 is one of the lowest we’ve seen.

The record was set on March 10th, 2008 with a paltry reading of 56, meaning that almost half the amount of calls were traded to puts.

Previous ISEE ratios below Friday’s are:

March 8th, 2007 — 58
October 11th, 2002 — 60
August 22nd, 2006 — 63

And on March 7th, 2007 and July 3rd, 2007 the ratio was tied with (September 19th, 2008) Friday’s at 66.

What is remarkable is not the low number we saw on Friday because after all, that is to be expected when the market is in shambles, but that there is a total disconnect between the two. Let me explain. While the market was careening lower on Monday and Wednesday, the retail options traders as measured by the ISEE were yawning their way to actually trading more calls than puts, putting the ratio slightly above 100.

Then on Thursday and Friday as the stock market screamed higher, the ISEE ratio fell precipitously as the retail traders furiously bought puts over calls.

So can this possibly mean?

Assuming that the data is correct, one way to interpret it is that what we saw in the final days of the week was simply the mother of all short squeezes (courtesy of the US government).

It would be premature to interpret the seemingly bullish market action to mean that buyers have reasserted themselves and buried the sellers in an orgy borne of relief. As I mentioned when I railed against the government’s temporary ban on short selling, each share sold short represents a future buy order. What we saw in effect was all those future buy orders which would have naturally have been traded over months and weeks, jammed through in a matter of days.

So it seems that not only is the retail options trader not buying this rally at all, they are finally getting seriously worried.

Lowry’s 90% Up Day?
I got a lot of people asking me if what we saw was the endangered 90/90 up day as defined by Lowry’s Research. Intuitively it felt like one and the numbers bear it out - almost.

To be precise, we saw 89.5% and 87.8% upside volume on the NYSE which is 90% if you squint. I don’t want to go around second guessing valued indicators but I can’t help but get a nagging feeling that a rally caused by the government interfering with the normal working order of the market just isn’t genuine.

Sentiment Surveys
The Investor’s Intelligence survey results are as of September 16th, which was before Thursday’s harrowing down day. Still, there was a significant uptick in bearish sentiment with 43.7% of newsletter editors pessimistic and 37.9% optimistic. Next week’s survey will be much more meaningful as it will demonstrate whether the recovery by the end of the week is perceived to be the real deal or not.

The AAII sentiment survey came in for the second week in a row with more than half the respondents bearish: bulls 27.21% neutral 18.37% bears 54.42%. Within a strong bull market this would be enough to get any contrarian excited but we’ve seen +50% AAII bearishness this before and it has disappointing at times. But the historical pattern is still on our side with the market bouncing back impressively on average after similar situations.

Finally, the Hulbert newsletter sentiment index which measures a subset of the stock newsletters which time the market did fall to -36.6% at the beginning of the week but recovered to -35.9% on Thursday. This is meaningfully low but unfortunately it is not even as pessimistic as what we saw in July when the market was trading higher than now.

Conclusion
Undoubtedly we are seeing major fear in the market and trusted indicators are almost unanimously pointing to the same conclusion. What muddies the water is not only the severity of the financial crisis which dwarfs the others we have weathered previously, making comparisons moot, but also the internationally coordinated government interventions which interfere with the normal course of the markets.

Wednesday’s market performance took us down to a seldom seen place: only 10% of S&P 500 Index components closed above their 10 day moving average.

Chart from indexindicators.com

That is oversold but according to Lowry’s research, when the market reaches below 10% for this indicator, we have a setup for a powerful snap back rally that most of the time transforms into a full blown bull market rally.

The good news is that the S&P 500 Index (SPX) is approximately 60 points above its March levels here while it has pushed the percentage of stocks above their short term average to these low numbers. The bad news is that technically, we didn’t go below 10% but actually reached 10.2% and recovered.

We’ve recovered around 10% from the darkest days of the market slide in January. Tragically for the bears, the world didn’t end. At least not yet.

While it all looked gloomy and depressing, it is important to remember that this is the stuff that stock market bottoms are made of: panic and fear, predominant bearish sentiment and major technical indicators hitting extremes… all accompanied by bad news.

But the market doesn’t go up (or down) in a straight line. Now we are overbought in the short term. The percentage of S&P 500 components trading above their short term 10 day moving average is slightly above 90%.

Just as an extreme low reading indicates a great buying opportunity, a high reading is an indication of caution. For more information read Lowry’s research.

Here’s a recent chart with the red line indicating the +1 standard deviation and the red line the -1 standard deviation:

Having said that, this matters in the short term. We could easily work off this level of overbought by treading sideways for a week or so. Or we could move down slightly.

A high reading from this indicator doesn’t mean it is automatically time to sell or sell short. Especially if you have a long term time horizon.

A good example of that is what happened in mid September 2007 when the percentage of S&P 500 stocks trading above their 10 day moving average peeked above 90%. The S&P 500 itself meandered for a few days and then went higher (and reached its swing top in October 2007).

The good news is that while this short term breadth indicator is overbought, the percentage of stocks above their 50 day moving average is only 40% and those above their long term 200 day moving average only 25%.

The really scary thing would be if any of these were 75% or higher. But we are still too close to the precipice ( the fall apparently avoided) for that.