Get Out of Stocks At This Morning's Open - Oct 1 2020

Currently everything I am looking at, taken together, suggests that after this morning's apparent gap up, the risk is much higher than reward over the coming couple weeks.

I don't have time to put much info or charts here but I will quickly verbally summarize.

• Today there is about a 1% gap up indicated.  There was also a 1% gap up on Monday (which has not been filled).
• Back tests show about a 2:1 or greater risk after the open than reward.
• Back tests show about 66% chance of the close being below the open today.
• Back tests show about 66% chance of prices closing lower than today's close at the 5-6 day forward point (Oct 9th in this case)
• Back tests show about 90% chance of a lower close than today's close within the next 5 days.
• I would estimate the chances of a big decline (like 5%+ in the next 5-6 days at about 33% or higher)
• Short term cycles that I follow are peaking this morning in the context of intermediate term cycles being in a strong downward portion of the cycle.  This info is extracted independently of the other data above, but is clearly giving a confirming downside bias to the historical back tests.

The strongest portion of the coming down cycle appears to be between today and October 13th.

This recent decline has been "weird" in that it never registered any significant fear type readings in the most reliable and consistent measures that I follow (put/call ratios, VIX and VIX/VXV ratio).

The big money is apparently basically unhedged and long both stocks and the stock futures. CoT data shows that the hedgers and small speculator/gamblers were the buyers since March.  Large funds which usually buy rallies, were not buyers since March.

So if prices decline, I don't see any other option than for the big money hedgers to quickly sell out.  It could be a stampede to the downside at some point.  Add to this, the potential for the large hedge funds to begin entering new short positions on a technical break, and the recipe seems strong for a big decline if the September lows are broken.

Lastly from a price pattern standpoint, I had looked at the 9/21/20 decline and attempted reversal day.  It was pretty unique, but in 25 years of data there were 4 previous very similar days.  

• 1 marked a significant bottom
• 3 lead to 10-20% declines over the next 2-4 weeks
• So if there is a close below the 9/21 LOW, I would estimate the odds at 66% or higher of a wipeout type of decline shortly to follow.

Pete

Back to Back 1% Gap Ups In SPY

Currently the market is in an interesting and somewhat unique position as it has gapped up 1% or more 2 days in a row.

My studies of gaps have shown back to back gap DOWNS to be a bullish short term indicator.  So I wondered whether back to back gap ups was a bearish indicator.

On average after the close of the second day, returns were mildly negative over the coming 1-2 weeks.  So the summary would suggest that we may not expect much more upside reward than downside risk after today, when considering the next 2 weeks of action.

Now, I went a bit further with this scan, and out of a total of 20 back to back 1% gap ups since Sept 1995, I used the trade so far today to look at the future returns of the instances were today was strong after the open.

So I filtered out only the instances where SPY did not trade down more than 1% from the opening priced during the day.  The results left 9 instances which are reflected in the table below.

Click on Table to Enlarge

So these are all unique instances and shows a strong negative skew to forward returns for the next 2-4 weeks. 

I would suggest this implies that our correction is probably not "over" yet, or at least we could experience another retest of the recent lows before a possible uptrend.

The instance in 1999 was occurring at a 52 week high which is not our scenario.  The other instances are more similar to our market, with the year 2000 December instance being the most similar to ours.

I would say this study suggests that we expect/plan for lower lows to come into late January or sooner.

Gap Up Today Could Still Lead to a Morning Sell-Off Followed by a Rebound

I have scanned current market conditions with past similar scenarios, and in this case am looking at time where a really strong sell off like yesterday was followed by a gap UP.

From the ways I have looked at it, the past similar instances suggest a greater than 50% chance that even with this morning's gap up, prices could come down and make a lower low today. 

However, that would be a time to anticipate a possible rebound.

One of the scan's I looked at was:

• Yesterday SPY was down more than 3%
• Yesterday SPY closed below the lower Bollinger Band
• Today gapped up more than 1%

This was a pretty elite class of past market sell offs, and most of them demonstrated lower lows over coming weeks, though on average there was a slightly greater 3-5 day MAX gain versus MAX loss.

From all the tools I have available and the current market perspective, what I see fits the template that a rebound into next week is probable, but if it occurs, we would likely see a "re-test" of this week's lows, and possibly lower lows of significance.

Pete