Elevated VIX/VXV Ratio "Retest" 12-7-18 -- Another Test Suggesting Short to Intermediate Term Rebound of 1 Week or More

I create a condition scan today looking at times of persistent elevated VIX/VXV ratios, followed by a "retest" of the ratio to a lower high.

Scan Criteria
10 day avg.VIX:VXV ratio peaked at >1.0 over the last 2 months
Today VIX:VXV single day ratio is >1.0
Today the 10 day avg. ratio is LESS THAN 1.0

The VXV only goes back 11 years, but includes almost all of the last bear market and several major corrections since then.

There was a notable forward positive skew especially at 4-5 days ahead.

Adding the condition of a large down day in SPY or a large 3 day maximum decline, made the skew stronger.  Those conditions fit our current environment.

This scan condition has been excellent as an opportunity to sell puts/premium or write an
ATM or OTM bull put credit spread with 1 week until expiration.

Several Conditions Suggesting A Probable Rebound Coming In Stocks Over 1-2 Weeks or More

I spent considerable time testing current market conditions against past data, and while it does not appear to be a screaming bottom, there are several factors which I rate to be significant that produce some very strong short skew results to the upside.

Some of the condition combinations below produced significant upside skews over the coming 1-2 weeks.

VIX up 20%+
Equity P/C ratio 21/84 avg. >= 1.05

VIX up 20%+
VIX/VXV >= 0.95
VIX/VXV 10 avg. >0.95

Total P/C 5avg. < -1 st. dev
SPY down >= -1%

Based on the large increase in the VIX yesterday as well as an extended period of VIX/VXV elevation one of the more highly probable plays here would be writing an OTM bull put credit spread with 1 to 2 weeks until expiration.

I am looking at spreads that are ATM or about 1% OTM.

Yesterday's Action in Stocks Suggests Gains are Ahead 10-24-18

Click on Stats to Enlarge

The above scan looks at times in my data where the VIX/VXV ratio was above 1.0 and there was a bullish divergence on my "panic indicator" which combines data from put/call ratios, volume, volatility.

The VXV data only goes back to December 2007.  So it misses the very early part of the 2007-2009 bear market, which may be analagous to our market.  In order to attempt to remedy that, I looked at the year 2007 and filtered for the panic indicator bullish divergence, along with a VIX increase of 5% or more to just gauge some probable similar circumstances. 

The results of the 2007 sample were similar to what we are seeing in the data where we do have the VXV which is posted above.

There was a very strong positive skew looking forward on all time frames noted.  The 1 month time frame was very strong in the skew and the closing returns.

So while we could just see a short term rebound, or no rebound at all, it appears that yesterday's action could be a short or intermediate term bottom with a week or more ahead of gains.

As is the case in volatile environments, if the decline is not over, it could increase in intensity on further breaks to lower lows.  So stop losses are recommended!

VIX/VXV Ratio Study Suggesting a Rebound Into Next Week 10-18-18

The VXV (3 month volatility index) does not have a real long history, but has data going back about 8 years or so.

Today the VIX/VXV ratio closed a bit above 1.0 which is a theoretical imbalance in the ratio as the VIX is shorter duration and typically has lower volatility.

I ran a scan to look at the following:

• VIX/VXV > 1.0
• SPY closes down 1% or more
• Price is NOT at a 10 day low

So the idea here is that the volatility remains elevated with a sizable sell off, but price is NOT breaking to lower lows.  I wondered whether price being above recent lows had any difference in the past compared to price falling to new lows.

The data suggests a significant positive skew in the next week price action for the scan noted above.  

Compared to price making a new 10 day low on the day, our current conditions had both higher closing price action moving forward as well as a larger positive skew in MAX GAIN to MAX LOSS over coming days.

There was no positive skew in MAX GAIN to MAX LOSS over the next week when price was declining to a 10 day low with the other conditions listed above.

So in the scan above, 23 instances were returned, and in 20 of them, my option price model shows that the ATM put lost over 90% of its value by expiration 5 days forward.

This data suggests that currently there is an opportunity to sell premium or write a bull put spread with expiries either next Wednesday or next Friday as the data on both would be about the same.

I did write a credit spread near the close today with expiry of next Friday.

Pete

Initial Rebound Probably Near Complete - 2-14-18

I have looked at the market action of the last couple days a few different ways with the idea of what has happened in the past after sizable sell-offs and then the subsequent rebounds.

Today marks 4 days up in a row, and yet price is still below the mid line of the bollinger bands.  So we a have strong rebound after a sharp sell off with wide standard deviation bands.  I have looked at some slight variations of this theme, looking at VIX bollinger bands, and also at multiple up days with the daily MACD still in a down position, and the results are mild to moderately bearish for 1-2 weeks.

One of the scans that was more bearish was 4 days up in a row with today being up 1% or more.  That had a notable bearish skew in forward returns for a couple weeks based on past similar instances.

I also took some time yesterday to compare the most similar past sell offs which then resulted in a failed rally and lower lows for the move.  And the retracement levels were 50-75% of the preceding sell off.  Today hit 50% on the retracement, so we are already in the lower end of the range where past rallies have peaked. 

In follow up to yesterday's post, the VIX/VXV ratio fell back just below 1.0 today.  The past few comparisons of periods of the ratio spiking above 1.0 with a waterfall decline, show that the ratio dropped back to below 1.0 for a few days here and there near the top of short term rallies as prices worked into a retest of the waterfall lows.  So that is still my best idea here, we are near the short term peak of a rebound which is expected to challenge the recent lows.

The VIX also fell 22% today.  I scanned for times when the VIX fell over 20% in a day, and 9 out of 13 had notably greater MAX losses over the next 5 days than MAX gains.  The few instances that did not have greater declines than gains, basically just kept on going up in the context of the recent bull market.  So this suggest we are very near to a point of recognition - either we have had a spike low and price is likely to march higher, or the rally will quickly fail and the next several sessions (1-2 weeks) will have a markedly bearish skew as stocks retest the lows.

As a side note, but somewhat relevant.  I have stated this before on the blog, but price bars with very long tails, like that from last Friday 2-9-18, have a tendency to have retests of the "tail".  I have observed this personally that very wide range bars with long tails are likely to have price come down and tests the lows.

I have heard Steve Nison of candlestick fame, state that on their studies of candlesticks, a successful  "hammer" candlestick bottom reversal has ~60% chance of having price come back to, or below, the mid point of the tail.  So even if a lower low does NOT occur relative to the reversal bar, there may be ~60% chance of price coming back to the mid point of the tail.  That would be ~258 on SPY.

Now the 2-9-18 candlestick is not really a classic hammer candlestick, but in my estimation, a very long tailed reversal with a close towards the upper end of the range, probably has a similar profile.

So my best idea of the odds from this point are for price to come back down to test that 258 region on SPY within the next 2 weeks.  I would not be surprised to see a rally attempt kick in again from those levels.

As another side note, since much of trading is automated computer algos which incorporate key technical indicators and moving averages, I have noticed tendencies for key moving averages like the 200 day moving average to trigger buying programs.  That did occur on 2-9-18.  And if the average is touched again on a retest of the 2-9-18 low, I think it would be reasonable that the buying kicks in again.  BUT, the more times the average is touched without subsequent gap ups and closes above the open, the more that indicates a possible failed rally. 

THEN, if after a couple rally attempts off the average occur, and price is able to break lower and make a lower low, there may be some freefall below where the programs have spent their buying around the 200 day average, and now price rapidly declines to the area of the next significant prior low/high from the uptrend.

In this case, while there are minor lows and highs during the uptrend over the last year+, the last real basing and significant highs/lows were Sept-Nov 2016 in the 208-220 region on SPY.  That seems like a long shot, but if price chops at the 200 day MA and ultimately fails in coming weeks or months, I would not really be surprised to see those 2016 levels be retested on the next move down.

That is looking a long way ahead, but I think it is important to have some view of the risk present at key break points in a market that has been as one sided and speculatively run up as stocks have been in the recent bullish run. 


Pete

VIX/VXV Ratio Still Elevated - This Rebound Will Likely Lead to A Sharp Sell Off and Retest of the Lows Over the Next 1-2 Weeks

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The snip above are the past instances when SPY closed up 3 days in a row and the VIX/VXV ratio was greater than 1.0.

The VXV has a limited data history, so this only picks up on a couple unique market environments in 2011 and 2015.

But I still view this as extremely relevant even without a larger data set.  The implied volatility structure still is imbalanced, and "fear" is present in the market.  As such, we may not be out of the high volatility daily swings of recent days, and the probability of a retest of recent lows may be higher.

This view would be consistent with the price cycle analysis tools i use which suggest upward price cycles will peak this week in the short term, before another 1-2 weeks of downward cycle pressure. 

None of the past instances led to a lower low below the waterfall decline low (last Friday's low in our case).  So they occurred in the context of the rebounds and restests of the lows following those vertical sell offs.

That is the probable position I see us in currently.

Since the VXV has limited history I scanned some conditions indicating big recent moves in the VIX and in SPY by using a high width of the bollinger bands as the backdrops for those scenarios of rebounds following a volatile price decline and VIX rise.

The take home was similar by adding in some more unique instances from the mid to late 1990s and a few in the 2000s era.

So from the past stats it appears probable that SPY could witness a sell off over the next 3-5 days of 3% or more from today's close at 266.  The closing low in SPY on the recent sell off was near 258.  And a 3% decline from 266 would put SPY at about 258.  So it seem like price could retest that closing low, possibly without a lower intraday low over the next week or so.

I plan to speculate with a SPY put option expiring next week.


Pete

Elevated VIX/VXV Ratio - Capitulation Dead Ahead?

As of the time of this writing, the VIX/VXV ratio stands at greater than 1.1.  Anything higher than 1.0 is a notable imbalance in the volatility in the options.

The VXV only has a history going back 8.5 years to 2009.  So it does not include the 2007-2009 bear market environment.  But during this bull market, the periods of extreme elevation of the ratio above 1.1 have been near to bottoming points and sharp rebound rallies.

Late July 2011, early Feb 2014, Oct 13th 2014, and August 21 2015 were the dates that came up where the ratio FIRST closed above the 1.1 level.  It was a couple days or so until the low was in. 

Other than the Feb 2014 instance, the others ended with very large gap downs into the low.

So what we may anticipate here is a couple further volatile days with lower lows than today, and possibly a "wipeout" type gap down this week which will have potential for a sharp short to intermediate term rebound for prices to follow.

Given past similar scenarios, a call option purchase of 3-5 days duration from the time of an oversized gap down opening could be a nice speculative play. 

If I see an upcoming high probability play and big gap down opening, I will post here with ideas.


Pete

VIX Up and SPY Up With Low VIX/VXV - New Put Option Trade Indicated

Today's action in SPY triggered a study that I showed back in the first week of June suggesting a short-term bearish skew in the market.  We did indeed see that.

So the basic set-up here is that SPY is up today, but so is the VIX.  And the VIX/VXV ratio is pretty low at the same time.

So the study is:

• VIX/VXV less than 0.86
• VIX up more than 2%
• SPY up more than 0.1%

There are now 10 instances which have occurred in the past which meet this set-up.  And 9 out of the ten showed gains of 40% or more over the next 2 weeks when purchasing an ATM put option with 2 weeks until expiration.

9 out of the 10 instances SPY showed MAX losses of at least 1.25% over the next 2 weeks.

So the trade here is to buy a July 22nd expiration SPY put either 213 or 214 strike.  I would use a limit order equivalent to today's closing value on the option if entering tomorrow.

For equities, the best play has been to set at limit order of 1.25% gain as well as a 1.25% stop loss order.  Then exit after 10 days if the limit or stop have not been hit.

Pete

PS - Let me know if there are more specific questions on how to play this.

A Note on the VIX/VXV Ratio - Declines Probably Still to Come

Interestingly on the recent massive sell off in stocks, the VIX/VXV ratio has spiked and remained elevated above the 1.0 level which is a theoretical extreme high level.

The last time we saw a massive sell off similar to the current one was in August 2011 in which case the VIX/VXV stayed elevated above 1.0 for the waterfall decline and the initial rally off the 8-9-11 waterfall decline low into the 8-17-11 high after which a sharp couple days decline occurred and retested the low.

The VIX/VXV then remained above 1.0 until right at the peak of the following rally into August 31, 2011 where price immediately rolled over again.

So the point here, is that the current elevated VIX/VXV ratio shows fear in the market, and with price rallying hard without the ratio dropping back to more normal ranges, the stage appears still set for a volatile re-test and or break of the lows in the coming weeks.


Pete

VIX/VXV Above 1.0 - We Will Either See a Bottom or a Swift Sell Off

Yesterday the VIX/VXV ratio closed above 1.0 again.  I have highlighted this many times on this blog and you can search for that term on my blog to find prior posts and info on VIX/VXV and its significance.

Basically the market is at a state or near term heightened volatility.  There is an increase in "fear" or substantial near term volatility priced into the options market.  There are two outcomes that basically always occur after these signals.

1. A significant bottom is quickly formed which often leads to a substantial rally and an important lasting low occurring in prices.  Often times from the first VIX/VXV close above 1.0 to the low of the correction is just a matter of a day or a few days.
2. There will be an increased near term volatility with even greater % price losses than have yet been seen in the current correction.  

In either case, price may be near a low in terms of time.  But in the second case there may be a very significant downward price move prior to the low.

My personal perspective here is that with yesterday's VIX/VXV ratio above 1.0 concurrent with a price reversal in the session, a break of yesterday's low would basically be a "failure" of a bottom attempt and would be a sign of significant caution for bulls.  I would advise that if Wednesday's low is broken, a trader either be flat and awaiting another price reversal bar at a new corrective low, OR be short with a stop no higher than above the Jan 9th high.

If prices do continue lower from here I will be likely be more active in posting here in order to help you pinpoint upcoming market turns as they develop.

That being said, unless Wednesday's low is broken, yesterday was a bullish signal in the markets.

Pete

SPY Oversold Going into FOMC Announcement 12-17-14

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As of yesterday's price action, SPY was oversold and showing bullish divergence on the hourly price chart.  Today is the FOMC announcement and so there is the possibility of a news-driven sharp move here.  Given the technical set-up, it seems likely for a rebound attempt.  A major downer would be unexpected here, but could be of longer term significance.

There has not been a bottom reversal signal in my SPY trading system currently, and there has been no bullish divergence to develop in the underlying real money sentiment analysis.  So in the past that has typically meant that we see at least a slightly lower low before a reversal occurs.  If that occurs followed by a reversal bar, we likely will see a signal occur and it so, I will note it with some detail on the significance and how to trade it, if at all.

Additionally, the VIX/VXV ratio has closed above 1.00 for 2 out of the last 3 days before today, and as I have noted repeatedly on this blog in the past, that often occurs just before an important low occurs.  So really, it means that you take any objective long trading signals generated here.  The signals dependent upon your plan and trading method.

Further understand that we are entering into a positive seasonality in the end of year time frame, which would just again be another confirmation that long signals should be acted on.  And a stop is always used in case of a major surprise or trend shift.

Pete

Expanding Pattern Off the Highs Suggests a Further Sharp Stock Decline Coming The Next 1-2 Weeks

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This chart is a daily chart of SPY, the S&P 500 tracking ETF.  What I am showing here is that the decline thus far off the high appears to be occurring with an expanding bias and we have seen increasing volatility.  Based upon this, if the next move down continues in expanding fashion, and is 1.272-1.618 times the size of what I have labeled as the "c?" move, then that would project down to the little rectangle box around 185-187 on SPY.  Based upon the time of the recent smaller movements in the pattern, I think it would take in the 4-10 day range for that to occur.

This would fit with the idea of the Russell 2000 completing a double top formation and breaking support and dropping sharply as I discussed a couple times over the last week or so.

Now at this point we are obviously seeing some extreme selling and should be alert for a bottom reversal process.  Yesterday the VIX/VXV ratio closed above 1.0 for the first time during this decline.  This occurrence has preceded the significant market lows over the past few years, often preceding the low by a day or 2.  So while I believe both the SPY and the IWM chart patterns have significant bearish implication and could break the character of the recent corrections, I am alert here for more bottom attempts and will do my best to post here in timely fashion when prices do show high quality bottom reversal attempts.

As a side note, if SPY moves below 190.55 by Oct 31st, then it would retrace the last leg up from Aug-Sept, in less time than it took to form, and this would indicate a likely larger shift in market psychology to the downside.

So as the market develops here, especially if volatility continues to expand, if you have any questions on analysis or trade planning, feel free to start a comment dialogue below and I will try to assist you.  I feel that in high volatility times where rebounds can be very sharp, it is wise to exit short positions on breaks of prior key chart support that may lead to rebounds.  Also, as corrections hit new lows with underlying bullish divergence, my trading experience is that exiting portions of the trade into that type of price weakness will often produce the most favorable exit price.

The specifics obviously need to be planned well, but in terms of the general approach, that is what I would suggest in theory here.

VIX/VXV Ratio Closes Above 1.00

With today's big spike in the VIX, the VIX/VXV ratio has closed above 1.0.  I have discussed this a number of times over the last few years.  It often marks price level that leads to a rebound in an uptrend.  In this case, the typical bull market pattern would be a probable gap up tomorrow morning followed by a morning sell off, and then a rebound to close in the upper half of the daily range.  If that action occurs it would look like a typical bull market pattern and would be a buy type signal.

However, there certainly have been periods during the major corrections of the bull market where the ratio went even higher as volatility really increased.  So I don't advise buying into the weakness without at least a 1 day reversal.

As I have suggested at here recently, my opinion based on the multiple time frame set up, is that the current top could be a major one, so I am not expecting this to be a typical buy set-up.

If a meaningful buy signal is generated over the near term I will update here, but for now, be warned that this may be a shot across the bow of a bigger directional change.

Interestingly the technical analysis on bonds here looks toppish.  So it seems that both stocks and bonds could fall in tandem which is different than the dominant bear market pattern during 2007-2009.  I don't read too much into this at this point, but it will be interesting from an intermarket analysis standpoint to see what occurs.

Drop a comment if there are any specific questions regarding specific stocks, indexes, or stop loss placements.

Pete

VIX:VXV Ratio Pointing to a Near Term Market High?

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This chart of the VIX:VXV ratio goes back 3 years, and represent 1 month implied volatility over 3 month implied volatility.  If you have no back ground in this ratio, then search this blog for the VIX/VXV label to get past interpretive info.

What I want to point out here is that when the ratio spikes to a LOW level - meaning below the lower bollinger band - that event has consistently NOT been right a market high.  I discussed this briefly several weeks ago at the end of May.  Looking back over the lats 3 years of chart history, we see that the low in VIX:VXV occurred 6, 4, 8, and 6 weeks before the most significant market corrections, though in March 2012 it was only about 2 weeks until the high, but 6 weeks until a small double top before the correction really occurred.

So averaging those out we see that it has been about 6 weeks after the low VIX:VXV that prices made a high and corrected for several weeks.  Interestingly, we are currently right at 6 weeks from the most recent low in the VIX:VXV.  So based upon this very simple analysis, it gives us a heads up from volatility analysis of real money data in the options market, that we may be in the time frame for the market to peak and correct here.  Additionally, as of today we have a very sharp bearish divergence on the daily time frame in QQQ and other than the Dow managing to poke up to a slight new high, the other indexes like Russell 2000, S&P 500, Nasdaq Composite, Wilshire 5000 are not making new highs, so we have some non-confirmations and technical bearish divergences present.

Also recently we saw a extremely low equity put/call ratio average.  Similar comments apply there as to the VIX/VXV.  The low point in the equity put/call ratio has been a couple weeks to a couple months prior to the price peaks before the major corrections.  Currently we have a June 19th low in the 10 day average of the equity put/call and are nearly 4 weeks removed and price pushing to higher highs.

Taken together, my opinion is that the market is set-up virtually identically to the sentiment backdrop that has occurred right at the highs before recent market corrections.  So, only time and market action will tell whether the recently consistent tendencies will follow here, my vote is that there is unlikely to be any appreciable price rise from this level over the next several weeks, and we could very well experience another broad based correction in stocks.

VIX/VXV Ratio Is Spiking Again

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The chart above shows the last 2 years of VIX/VXV daily closing ratios.  I have discussed this many times on this blog, but when the ratio exceeds 1.00, that is basically a theoretical imbalance in the market, and it usually resolves to the upside before too long.

However, I have also discussed the fact that while it may be a short time until a relative low occurs, these increasing volatility environments can lead to dramatic price declines in that short period of time until a price low occurs.  So I don't suggest necessarily just buying with no further confirmation that price may reverse or with no defined risk.

With the current set-up in the stock indexes I believe there are a couple highly probable scenarios:

1) Prices sell off sharply, maybe VERY sharply for a few days, and then we start a significant multi day rally

2) We see a brief lower daily low within the next couple days, followed by a rally attempt 

Currently, my analysis is that we are nearly 100% certain to see a lower daily low than Friday's, but we should be aware of the buying set-up with this volatility imbalance.

The intermediate term price logic has been behaving in downtrend fashion off the recent highs, and so for short-term traders the play is to look to short rebounds until a buying signal occurs.

If I had to take a stand on the larger market direction from here, I would say that I think this market has seen a more significant high than the others over the last year and a half.  However, objective signals are the key to success, so I could change my mind at any time when those occur.

Short-Term Oversold, But No Divergence

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The hourly chart of SPY is oversold and the MACD making a bullish cross as I type this.  The daily chart shows prices have been touching the lower bollinger band for a few days indicating that prices are stretched to the downside.  However, there is no bullish divergence on the MACD even at the 30 min time frame, which calls into question whether this move down is bottoming for a major rebound attempt.

The chart above is the VIX/VXV which is shorter term volatility divided by longer term volatility.  In general the shorter term (VIX) should be lower creating a VIX/VXV ratio that is less than 1.0 (indicated by the green line).  However, there are times when the VIX gets higher than VXV.  That usually indicates a point of intermediate term panic in the market and leads to a rebound pretty soon.  The market is out of balance under that condition.

Currently the ratio is not quite at 1.0 yet.  I have been watching this indicator to help pinpoint an upcoming rally attempt.  Of note is that the ratio is higher than it was at the June 2012 low which did not even reach 1.0. 

If it does move above the 1.0 level, I would expect a tradable bottom to occur soon after.  There is no guarantee that it will reach that level before a major rally attempt, and with prices oversold on the daily time frame, I think this is a time to protect open short positions by tightening stops or exiting on appropriate technical signals.

Major Stock Index Selling By Smart Money

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The commercial "smart money" traders increased their selling in stock futures this past reporting period making them the most net short in over a year.  The last times they were this heavily short were at the July 2011 and May 2011 tops.  While a signal like this can fail to lead to a major correction, in the context of a double top/failed breakout I wouldn't bet on it.  At a bare minimum I suggest having in the market trailing stops on long positions or growth stocks.  Remember, our goal as individual traders is to observe what the big players are doing, anticipate what they are likely to do next, and to position ourselves with them.  So they are more bearish than in the last year or so.  Are you?

Combined with a failed breakout of the April 2012 high, this reinforces that a correction is likely from these levels.  But as noted in the recent video, it would be out of character for the market to push above the recent August high and then make a correction.  A new high would likely be a continuation point.

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Notice that the bollinger bands are squeezed tightly on SPY.  Not shown is the ADX/DMI which shows that the daily DMI has been below 20 for 2.5 months.  As it approached 20 two weeks ago, it turned down as the market failed to breakout.  Recall several posts talking about this explosive set up in the past.  Most recently it occurred in gold resulting in an upside breakout.  But the key is the watch for a close OUTSIDE the bands with both bands expanding.  When that happens in this situation it typically leads to a sharp price movement, though it may only last 1-2 weeks.

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The VIX/VXV ratio recent spiked lower again similar to what occurred in March of this year.  What this mean is that short term volatility is out of balance with longer term volatility expectations.  As you can see on the chart, that has often led to substantial corrections in stocks with on overall increase in volatility and a rebalancing of the VIX/VXV.  The other possibility is for volatility to remain low and the longer term volatility shrinks to rebalance the ratio.  If that happens it would likely be in the context of a continuing low volatility market advance.

As an additional note, the VIX has been running high relative to historical volatility.  This also often happens prior to market corrections.  The option market does not believe the current low volatility trade is sustainable.

At this point the US dollar looks set to make a continuation of its advance, and commodities have run very hot for several weeks and are likely to correct.  So I think we are likely to see a deflationary theme type sell off here again with most assets down and the US dollar up.

Nearing Counter Trend Pattern Completion?

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It is unclear to me at this time exactly what the best pattern structure forming here is, but I have drawn contracting trendlines forming a rising wedge type of triangle starting at the May 18th low which was the momentum trough of the recent decline.  The ideal projection for the end of this upward pattern would be mid to late this week with a high around 137.00 on SPY.  That would also coincide with the filling of a couple overhead gaps and a 61.8% retracement of the May decline and also with old support at around 136.  A basic tenant of technical analysis is that old support becomes resistance once broken.  So a move back to the March and April lows may be a resistance level and is right in the same zone.

On an objective basis the daily stochastics is back to nearly overbought and the hourly charts are showing overbought technicals with some signs of bearish divergence showing up.

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For those unfamiliar with the VIX:VXV ratio you can search my blog for "vix/vxv" and find prior mentions of it.  But it is a mean reverting sentiment indicator of sorts showing when near term and longer term volatility are out of balance.  Very low readings suggest that volatility may rise in the near term.  Very high readings suggest a market panic and that a rebound is imminent.  Currently, the VIX dropped a lot today, and sent the ratio to a moderate extreme suggest a market price high is upcoming.  I would use this as corroborating evidence that technical sell signals could be taken and put options could be purchased at a potentially favorable premium.  Of note is that the ratio did NOT rise above 1.00 on the recent decline.  That level is often the level showing that things are way out of balance on a downside move.  So, basically the decline did not show much fear (either in absolute VIX or in the VIX/VXV ratio), so it is less likely that the recent bottom will be of major significance.  In short, I expect it to fail to hold prices.

Breadth has rebounded significantly with the 10 day average of the advance-decline rebounding to counter trend high levels and the McClellan oscillator is also back at a high level near prior rebound peaks.  So it may be best to see a little bearish divergence develop on those before a short trade is ripe, but again it is a red flag for rally continuation.

Sell Signal From the VIX/VXV Ratio Today

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A few days ago I had shown a chart of the VIX/VXV ratio and suggested that a close above the 20 day moving average would be consistent with past effective intermediate sell signals for the general market. That signal occurred today with the large jump in the VIX. While this indicator is still fairly young (because the 3 month volatility index, VXV, is relatively new), this signal has been a good one so far.

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For those interested in the VIX, here is an updated chart of a post I made around the New Year showing how the VIX has tended to use the 78.6% retracement level of major advances as the floor for the next move up since the 2006 VIX lows. The colored lines on the chart are 78.6% retracements of several different VIX advances on the chart. The VIX has now retraced 78.6% of the major advance off the VIX low in July 2008. Several different ways of looking at the VIX are suggestive of further increases in the VIX, so it will be interesting to see if there is any follow through over the next 1-2 weeks.


There is not too much new to cover today, and probably won't be for a little while if the market continues to drop over the next 1-2 weeks. If the market manages to make new highs (say as a blow-off top in reaction to forthcoming news on bank stress-tests, etc), then I will be back to daily tracking of important sentiment indicators.


On the trading front, my plan is to hold the BGZ trade for a potential larger gain. While I do plan to continue to post new trades at short-term extremes, at this point I don't have any interest in bullish trades until the S&P drops to the 780 level or further.

More Objective Signs That Price is Stretched to the Upside

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I am posting several charts tonight, and they have notes on them, so I won't repeat those notes in the text here. In recent weeks I have been expecting the market to form a top soon. As the S&P 500 pushes toward the 880 level, the scenario I proposed from a pattern standpoint looks less likely. However, I feel it is important to remain objective and stick to quantifiable facts for determining likely market direction. From the broad spectrum of indicators out there that I follow, the indicators at optimistic extremes are growing, with a notable jump today despite muted market movement.

The chart above is the equity put/call ratio with 21 and 34 day moving averages in blue and red. Again, read the notes on the chart for detail. I would like to see the averages turn up in the next couple weeks to confirm a bearish outlook.

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The chart above is the sum of the volume of SDS, QID, and DXD which are the 2x inverse ETF's for the S&P, Nasdaq, and Dow. I have discussed this indicator before and it is used in the same way as put/call ratios. You can see from the chart that trading volume in these funds has dropped considerably the last few weeks and the recent levels are below the 2 standard deviation band. This is interpretted as complacency and lack of leveraged hedging which is typically bearish in the intermediate term.

Click on Chart to Enlarge

This chart is the VIX/VXV ratio with bollinger bands overlaid. Read the notes on the chart for detail. This indicator has been perfect so far this bear market in that it has given a signal at every important top, and every signal has worked like a charm. I am not implying that any indicator will work all the time, but as I always say, if it doesn't end up working this time, then maybe the market is changing character (aka a bull market).

I didn't post the chart of the VIX itself, but the VIX closed below its lower bollinger band Thursday. This does not happen very often. It has been an outstanding contrary signal during this bear market, but it has only happened 3 times before this time. The dates were 12/21/07, 2/26/08, and 5/15/08. All were basically 1 day from a significant high and great selling opportunity. Again, if the VIX falls below Thursday's low or closes below the bollinger band again, then that would be a warning that maybe things are changing.

The contrarian set-up here seems to be on par with past intermediate highs in this bear market, so the next couple weeks (even few days) should be important to watch for price confirmation. If the markets don't drop a good bit by next week I will be backing off on trying to pick this top for blog trades and will focus mainly on bullish trades if the market remains above the 20 day moving average.

Pete