Today I heard two very insightful takes on the direction of the equity markets. Both conclusions had great merit, and I believe that both analysts had useful high probability conclusions (i.e., I believe that they both are right).
Their views on the market direction, however, were completely different. One was completely bearish, believing that market is going down. The other was very bullish, looking for a strong advance in the market.
How can they both be right?
As you may have guessed, they were talking about different time frames. The bearish analyst is looking for a strong pullback in the two-day to two-week time frame. The bullish analyst believes that the market has lots of upside for anywhere from the next two months to the next two quarters.
Let’s take a quick look at a bit of their reasoning to see where we can find useful conclusions for ourselves.
Let’s take a look at the short-term bearish case first.
An acquaintance from the west coast wrote a very well-reasoned piece on the short-term outlook for the market. He considered the number of stocks trading above their 50-day moving average, which has now reached more than 80%. He also noted the downward trend of the VIX and that it has reached the lowest levels since it peaked in mid-May. The VIX, or volatility index, acts as a market fear indicator and shows that right now, there is a very low level of fear in the market. He concludes that stocks are due for a correction. 492-dr-chart1.jpg 38,56К 0 Количество загрузок:
As I look at a current chart, I also can see that we are forming a triple top at the levels the market hit in mid-June and early August. Bouncing off of this strong resistance adds to the argument for a short term correction.
Over dinner last night, I spoke with an analyst who has a long-documented track record of outperforming the market. He has a bullish outlook based on many market sentiment indicators. Interestingly, he also cited VIX, saying that while it may be low relative to recent history, the current levels around 20 is far from the historically overbought level of 15, which it tested in mid-April this year. He also mentioned the still positive leanings of the put/call options ratio, despite our strong two-week up move. Other positives that he notes are the net inflows into Rydex bullish funds (vs. the bearish funds) and a market that has continually advanced despite high closing TICK numbers. High closing NYSE TICKs cause near term reversals in markets that aren’t as strong as the current one. (An NYSE TICK is a measure of the number of stocks on the New York Stock Exchange that are trading on an uptick minus the number trading on a downtick).
Why They Are Probably Both Right
As I mentioned earlier, I think both analysts have interesting and valid points.
It would not surprise me at all to see the market pull back in the short term rather than blast through the triple top resistance area close to 1130 in the coming days or weeks.
What about two months to two quarters out? Well, governmental intervention still runs rampant in the financial markets on a global scale. Case in point, a hedge fund friend sent me a heads-up e-mail today that the European Central Bank is buying more sovereign bonds in Europe. This helps to reduce the bond insurance spreads and gloss over continuing debt problems there. To this continued cash infusion, add the upcoming US midterm elections, which combined help make the most probable scenario a longer term upward continuation for the coming months.
Keep relative time frames in mind for all of your trading and investment decisions. Clarity comes from the simple task of understanding your time horizon!