I have always found it difficult to make money using this type of general/long term technical analysis. This is especially true for trading bear markets on the short side. In the long-term, short traders face a losing battle against the compounding of dividends yields that work against them.
Shorting equities is mostly a tactical type of investment especially when Treasuries yields are so low.
The tactical situation is that last Friday, the expected bounce failed. We indeed closed below the 5MA, while I was expecting that a bounce would push us toward the upper part of the price envelope. Therefore, tactically, we should open down on Monday and then see of the previous market lows break.
Furthermore, the S&P500 lost 1.3% in one hour. This is pretty heavy selling and indicates that investors are nervous (Or that algos are fast to pull liquidity at the first negative news.)
The 20 days Figure of the 20DMF trend shows that money is now weaker than it was before, to the point that the 20DMF is about to issue a short signal.
On the other hand, money is pulled out of Treasuries... This money has to go somewhere.
We are also close to the end of the Month window dressing, with the Fed offering liquidity through its reverse repo operations. In other terms, liquidity should be moving back into the markets.
However, there are real risks showing up:
1. The Biotech sector broke down. The selling pressure could spread to other overextended "growth" stocks (AMZN, FB, NFLX.)
2. The oil price weakness has been prolonged, which means that US oil producers could soon reach the limit of the hedges that they bought when prices where around $90. This probably will have two consequences: earnings could be much worst than expected for oil producers (XOP will not recover soon,) but also that without proper hedges, production will have to be cut in earnest and oil prices will recover (we can see below that oil prices are not under pressure.)
The VIX Futures start to show a positive divergence, which could be an early sign of fear.
A better measure of inherent risk is maybe the Ted Spread. if you Google it, Wikipedia says that "The TED spread is an indicator of perceived credit risk in the general economy, since T-bills are considered risk-free while LIBOR reflects the credit risk of lending to commercial banks. An increase in the TED spread is a sign that lenders believe the risk of default on interbank loans (also known as counterparty risk) is increasing. Interbank lenders, therefore, demand a higher rate of interest, or accept lower returns on safe investments such as T-bills. When the risk of bank defaults is considered to be decreasing, the TED spread decreases."
We can see that the TED Spread greatly increased in 2011 and reversed only when the Fed decided at the end of 2011 to double the QE3 amount.
On the right side of the Figure, we can see that the TED spread has been slowly increasing. The last Month spike does not seem overly extended though. At least, we do not see the pattern of 2011.
We could also look at the SWAP spread. Garry pointed to the blog below, which has made a good use of this indicator.
http://scottgrannis.blogspot.be/2009...explained.html
The last data of the Figure below is of Friday. This does not look like a market that is under heavy stress. The flash crash of 2010 and the QE2-QE3 transition of 2011 pushed that spread higher. The bump of last month seems to have had zero effect on the 2T SWAP spread. Data is directly coming from the Fed's web site.
The pattern difference between the TED spread and the SWAP spread might indicate that some foreign banks are more at risk than US banks. This might point again to China's opaque banking system. (And the 20 years move might indicate that China continues selling Treasuries in order to patch holes in its banks)
Conclusions:
The bearish case is far from being overwhelming.
The positive side: (more longer term)
- We are on a ZIRP talked down to NIRP rate environment.
- We are reaching a window dressing period
- Central banks want to continue to provide the necessary liquidity
The negative side: (more shorter term)
- Biotech selling could spread
- Energy producers earnings could be worst than most have previewed
- China is a real "?"
The next opportunity could be gold if QE4 is whispered around, but I think that it will be oil as oil shale producers and oil sand producers will have to cut as their hedges are expiring.
