S&P 500 Index 1875
By Steve Blumenthal
April 23, 2014
Included in this week’s Trade Signals are the usual weekly sentiment and cyclical trend charts along with an update on the Zweig Bond Model:
- Investor Sentiment: Crowd Sentiment Poll Neutral, Daily Trading Sentiment Composite Extreme Pessimism (Bullish)
- Cyclical Equity Market Trend: Remains Bullish
- Zweig Bond Model: Bullish Signal for Bonds
- The Seasonally Challenging May – October Period Immediately Ahead
Investment Sentiment 4-22-2014:
Sentiment Chart 1 – NDR Crowd Sentiment Poll: Neutral
Crowd Sentiment Poll (my favorite) has moved from Extreme Optimism (Bearish) to Neutral. Some improvement but not yet in the Extreme Pessimism (Bullish) zone. Note red arrow.
If you are a new reader, the gray area highlights the historical market performance when Investor Sentiment, as measured by Ned Davis Research, moves into the Extreme Optimism (Bearish) Zone (above the dotted black line or a reading of 66).
Sentiment Chart 2 – NDR Daily Trading Sentiment Composite – Extreme Pessimism (Bullish)
Sentiment Chart 3– This next chart is a sentiment chart that generates buy and sell signals. It is based on forecasts gathered from 130 stock market newsletters. I believe it is important to get a sense of what the pros are thinking. As you can see, here too, it is best to go against them at points of both optimistic and pessimistic extreme. Note the orange box tied to buy and sell signals. It is currently in a SELL signal.
The chart is centered on the concept that the stock market tends to be a manifestation of group psychology in motion, as highs coincide with extreme group enthusiasm and lows coincide with excessive crowd fear. This sentiment indicator uses forecasts gathered from 130 stock market newsletters. Such information can be useful at opinion extremes, because at those extremes the stock market majority is usually wrong. Almost by definition, a top in the market is the point of maximum optimism and a bottom is the point of maximum pessimism.
More important to me is to be in line with the market from a cyclical trend perspective. In this regard, I favor the following two charts.
Cyclical Equity Market Trend Charts: Both Remain Bullish
Chart 1 – 13/34-week EMA – The cyclical bull market’s uptrend remains in place. Note the blue 13-week EMA line remains above the red 34-week EMA line. Also note how well this simple, tactical trend indicator has historically captured the cyclical bull and bear market trends. Signals occur when the lines cross.
Chart 2– The Big Mo Multi-Cap Tape Composite continues to signal a bullish uptrend for the market.
I like to think of this indicator as a risk-timing tool. This is far different than market timing. The idea is to hedge the portion of your portfolio invested in equities against periods of major market risk. While no indicator is perfect and past performance guarantees you nothing in this business, Big Mo has done a good job identifying the major market trends. It is my favorite stock market indicator.
The orange box highlights historical performance. The yellow circle marks the last Big Mo trade signal.
The NDR Big Mo Multi-Cap Tape Composite Model was created to give a composite reading on the technical health of the broad equity market. The model uses trend and momentum indicators based on a broad array of our NDR Multi-Cap cap-weighted sub-industry group price indices. Trend indicators are based on the direction of a sub-industry’s moving average, while the momentum indicators are based on the rate of change of the sub-industry’s price index. By including many indicators together in the composite model, the process quantitatively analyzes the “weight of the evidence” regarding the market’s trend and momentum rather than relying on only one or a few indicators.
Following is a quick look at the trend in interest rates.
Cyclical Bond Market Trend Charts: 10-year Treasury & 30-year Treasury:
The 30-year Treasury bond is now in a declining interest rate environment. The 10-year Treasury bond is nearing a change in trend.
The 13-week EMA (blue) line has just crossed below the 34-week EMA (red) line. This suggests long-term interest rates are declining – moving to a Cyclical Bull (or declining interest rate trend) environment.
Zweig Bond Model – Bullish Signal for Bonds
We have been doing some work with Ned David Research to customize the Zweig Bond Model so that I can share it each week. This is something you can track and follow yourself. The data goes back to the 1960’s and I’ll share more detailed data in the near future. Over that stretch of time, the model has done a good job at enhancing return and reducing risk in rising rate environments (highlighted orange rectangle). It is risk of rising rates we need to be most concerned with today.
The bottom section of the chart shows the combined score of the model’s 5 measurements. A buy is generated on scores > 0 and a sell on scores < 0. The model remains in a buy signal. ETFs such as BND can be used to express the view.
I received a larger than normal number of emails asking if we can run this strategy in an SMA (managed account). The answer is that while I believe it is a solid investment process, we run several strategies on our managed platform that I believe are superior. We are continuing our research work on the Zweig model and I’ll share those updates with you.
As a quick aside: If you choose to trade following the Zweig model or any other process for that matter, there are several important questions to ask yourself: Do you have the time to follow the model everyday? Do you have the infrastructure in place to trade across multiple accounts? Do you have the conviction and belief necessary to follow the process through both losing trades and winning trades? Can you stick to the process over time?
I have traded our HY trend following strategy for more than 20 years. I can honestly say there were a few times I thought I was smarter than the process. Some news or pending news threw me offside and I didn’t trade with the signal. Emotion and ego are strong forces. You have to eliminate them and stick to the process. No small thing. I frequently say that half of the battle is having a sound process and the other half is having the discipline to stick to the process.
So if you don’t have the time and infrastructure in place, then find some flexible bond funds and/or outsource the investment management.
The Seasonally Challenging May – October Period Immediately Ahead
Click here for Seasonal Tendencies.
Concluding Thoughts
The cyclical trend remains positive as measured by Big Mo, investor sentiment is mixed and the Fed is supportive for now. Immediately ahead of us is the seasonally challenged May-October period. I believe that putting hedges in place remains the prudent thing to do. Risk is so significantly elevated due to Fed manipulation. The system is more leveraged than it was in 2008 and this cyclical bull is aged. Tactical strategies can further your portfolio diversification in important ways.
CMG Tactical Strategy Update
No major changes since last week: We continue to hold mostly long equity exposure in our CMG Opportunistic All Asset Strategies with a modest move toward emerging markets across the portfolio. The portfolios are approximately 70% Equity, 30% Fixed Income. Our CMG Tactical Rotation Strategy moved to a more defensive position for April: 50% TLT (iShares Treasury Bonds) and VNQ (Vanguard REIT). High yield bond prices are firm to higher. We remain positioned long high yield bond fund exposure.
With kind regards,
Steve
Stephen B. Blumenthal
Founder & CEO
CMG Capital Management Group, Inc.
Philadelphia – King of Prussia, PA
steve@cmgwealth.com
610-989-9090 Phone
Provided are several links to learn more about the use of options:
For hedging, I favor a collared option approach (writing out of the money covered calls and buying out of the money put options) as a relatively inexpensive way to risk protect your long-term focused equity portfolio exposure. Also, consider buying deep out of the money put options for risk protection.
Please note the comments at the bottom of this Trade Signals discussing a collared option strategy to hedge equity exposure using investor sentiment extremes is a guide to entry and exit. Go to www.CBOE.com to learn more. Hire an experienced advisor to help you. Never write naked option positions. We do not offer options strategies at CMG.
Several other links:
http://www.theoptionsguide.com/the-collar-strategy.aspx
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