THE BOTTOM LINE
The good news is some Lowry Research big picture indicators remain favorable, and some have grown marginally stronger. However, there are a copious number of valuation, sentiment, and our own proprietary supply and demand indicators, which are signaling caution due to historic levels of overvaluation, extreme bullish sentiment, and persistent negative divergences both on the strategic and tactical levels. These measurements suggests a period of price consolidation, or correction may be needed to reinvigorate demand. So, until these conditions become more favorable caution is warranted.
Any stock market analyst worth their salt will tell you there are no direct correlations between the price/earnings ratio and the formation of major tops. In 1999 as the Nasdaq began to drive toward the 2000 top, which gave way to a nearly 80% wipe out of the tech laden index, there were initial public offerings (IPO) of concept companies, which not only did not have any earnings, but no sales! Obviously, this phenomenon resulted in an astronomical P/E for the Nasdaq, but investors continued to pile into tech stocks out of fear of missing out on the internet tech boom. While this may strike some as an unfair example, it does illustrate that basing one’s investment decisions solely on the basis of P/E is a fool’s errand, as expectations drive the motivations of investors, and like all human emotions expectations often become unmoored from reality.
So, investors can completely discount P/E as a key factor in their analysis right? Well that also may be a fool’s errand, if applied in isolation. Significant changes in trend in the stock market tend to happen when a confluence of factors come together, and when they do the P/E of the market as it relates to a specific index can become useful albeit only as a blunt tool. Likewise tools for the application of the theory of contrary investing, which holds that when investors are all on one side of the market there are no new investors left to continue the trend, so the trend becomes vulnerable to a reversal of an unknown magnitude. Ditto for divergences, negative to the rising price as tops form, and positive to the declining price as bottoms form, and the longer the divergence persists the more important the implications.
Currently there are a number of measurements, which are registering historic overvaluation of an extreme nature. There are also numerous measurements of historically extreme bullish sentiment, which the theory of contrary investing suggests makes the market vulnerable to some weakness the magnitude of which is difficult to predict, but in previous iterations have tended toward being significant. The eleven percent plunge following the September 2-3 all-time high comes to mind, as valuations and bullish sentiment at the time were at historic extremes, which currently have been eclipsed by even more extreme measurements. And, the list of measurements at extremes is a comprehensive one according to a financial publication including Put/Call ratios, Margin Debt, Margin Debt as a percentage of disposable income, record levels of the application of leveraged ETFs, record IPO dollar volume, a record ratio of IPOs coming to market with negative versus positive income, and various sentiment surveys in historic bullish territory. If we add to the mix the abnormal and atypical behavior of some of our strategic and tactical supply and demand indicators, then the overall picture suggests bullish investors are pushing prices higher in an environment, which history suggests may need a rest to reinvigorate demand.
TATY — A REPRESENTATIVE OF A FAMILY OF STRATEGIC SUPPLY AND DEMAND INDICATORS
TATY is shown above in yellow in Snap-shot-389 with the S&P-500 overlaid in red and blue candle chart format. TATY finished the week at 127 just above the caution zone after failing to maintain the red zone after touching it in November. As mentioned many times in these weekly updates, TATY’s recovery following the February to March 23 record decline to 38.4% off an all-time high in just 27 days has been atypical and abnormal for the indicator, which has for decades moved higher prior to bear market bottoms, and then led the developing price rallies higher, but not so following the March 23 low, so this behavior remains a concern.
As investors will quickly notice the negative divergence shown by a down sloping dashed magenta line has now been in place longer than the negative divergence, which developed prior to the February all-time high, which is also still shown as a dashed down sloping magenta line on the TATY chart. I would also observe that a “Big Chill” warning was triggered as TATY was stalling in the red zone after an excursion into the caution zone surrounding the 115 to 125 level. Conditions of overvaluation, excessive bullish sentiment, and negative divergences in families of both strategic and tactical indicators can linger longer than an analyst may expect, but the confluence of so many measurements suggest caution is warranted, and some price weakness may be needed to reinvigorate demand, the magnitude of which is impossible to predict with these tools.
SAMMY — A REPRESENTATIVE OF A FAMILY OF TACTICAL SUPPLY AND DEMAND INDICATORS
SAMMY is shown above in Screenshot-195 in weekly format with the S&P-500 overlaid in red and blue candle chart format, and in Screenshot-196 below in daily format.
Screenshot-195 still shows the negative divergence, which preceded the February then all-time high prior to the record swiftest plunge to down 20% off an all-time in the history of the stock market. A plunge which ended on March 23 at down 38.4% in just 27 days. The negative divergence remains on the chart as a down sloping dashed magenta line. Investors will also note the down sloping dashed orange line, which shows clearly that the forces of supply and demand currently powering the rally in the price are significantly weaker than at the February high, and are now showing signs of fading in their power.
Screenshot-196 shows the magenta horizontal line, which until recently represented resistance to the SAMMY tactical indicator, which was breached in November only to once again begin to paint out a negative divergence as the price has stumbled higher. The red dashed down sloping line, and the more severe negative slope of the dashed magenta line are dramatic representations that the recent assault on new all-time highs are being powered by fading forces of supply and demand according to this tactical indicator. If an investor is heavily long stocks, then this indicator is not sending you a reassuring message, neither in its weekly version, nor daily version. A close significantly below the horizontal magenta line would suggest the probability that the current developing price weakness may gain strength.
Please stay safe!