Thursday, January 26, 2017

More Signs That a Sell Off Is Looming in SPY - 1-26-17 Stock Market Update

With the break to new highs in SPY, there are now some intermediate term bearish divergences which are prominent.  My perspective here is that stocks have more downside risk over the next couple months in comparison to upside potential.  With that said, the most comparable environments that are showing up in my scans are environments where stocks may spend more TIME in a general uptrend, but there may be a rapid sell off which more than wipes out the lazy gains which occurred preceding it.

Click on Table to Enlarge

The table here shows the results of a scan with the following filters:

  • New 52 week high
  • Close > upper bollinger band
  • VIX high is < 12
  • VIX close is < 11
Then subsequent readings (3 of them) which occurred in clusters after the first reading were removed.  This left us with basically 2 past market periods.  
  1. Very late 2006 into early 2007 - which resulted in the very sharp sell off right at the end of February and into mid March.
  2. Mid 2014 from late June to July - which was followed by a somewhat similar brief, but sharp drop into August 2014.
Looking at the table shows a strong downside skew over the near term, however, with volatility being so low, that does not really portend a big move.  Even looking out to 2-3 months the skew is negative, and still relatively strong at 2 months.

Another notable part of the info in the table, is the very large skew in the MAX gain/loss of the VIX.  There just has not been much history of the VIX staying at 10 or 11.  So if you trade volatility, there may be an indication for action here.

In fact the expected swell in the VIX may be the most significant aspect of this set up.  There is a profitable option play on my model based on this scan.  Buying an ATM put with 2 months until expiration and using a 50% limit order gain after entry worked well on average.  But there are only a couple similar instances.  The point is more that, even a moderate 1-2% decline, in combination with a possible larger % increase in the VIX at the same time, could give the put options a boost to those levels of paper profit.

Part of the question is then WHEN a decline would be anticipated since these lazy markets can go for weeks without much downside.  I am not an independent expert on cycles, but some of the information which I have followed for long enough to feel there is some pragmatic use in, suggests that the upward current could crest somewhere around next week.  Then there may be more downward current (or at least less upward current) into early March.

So my general take here is that there will not likely be much further % gain in SPY over the next couple weeks, and then there may be a sharp but brief sell off in the Feb-March time frame.  Given the low volatility and the couple past comparable time periods, if a decline occurs, it may be expected to be mild, like 2-5%.

I am choosing to make an option play here, but certainly a paired limit/stop order on a SPY leveraged ETF, or even on a VIX tracking ETF could be very sensible given the skews in the data over the next couple months.  

If there are further specifics on trade orders for the ETFs, comment or reply, and I could get something up here.



  1. I am continuing to run some varying scans, and basically everything I am looking at here has significant negative skews with more downside risk than upside potential in the past similar instances.
    Given a wider range of scans still looking at similar past markets, there has been a pretty high probability of greater than 2% losses over the next couple months.
    Also for an ATM put option with March expiration the premium is basically 1.6%, but based on the scans I'm looking at, the average MAX loss in SPY over 2 months has been closer to 3% or more. So there seems to be as a quick estimation to be about a 2/3 chance that the ATM put option could increase by 80+% over the next 2 months. Understand that would be a MAX gain NOT an expiration value gain for the option.

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