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Up, up, and Away – Stock Market is Slave to Momentum

By Joe Duarte on October 22, 2017

The stock market seems to be a slave to robot algorithm fueled momentum.

If greed is good, as Wall Street – the movie – villain Gordon Gecko once said; then extreme greed must be extremely good, at least if you follow that logic. And since that’s where we are this week according to the CNN Greed and Fear index which checked in at 90 on October 20, then the stock market then stock prices should conservatively go to the moon. Never mind that normally that type of reading would be a SELL EVERYTHING AND DOUBLE MORTGAGE YOUR HOUSE TO GO SHORT signal. Apparently this is not the case at the moment as the robotic traders are only focused on the Federal Reserve, price charts and simple technical indicators.

I’m not trying to be flippant here. Last week I noted that Zweig’s rules: “don’t fight the Fed and don’t fight market momentum,” are my mantra, especially in this market. And I’m not changing my story, given the fact that anyone who has followed those rules over the last eleven months and the last fifty years, has likely done well in stocks. Therefore if the past performance of this market is any indication of what’s about to happen, then investors should be ready for what could be a very explosive end to 2017.

What I’m saying is that if you are bold, you will throw away the old rulebook, if only for a little while. Thus instead of focusing on the very scary external influences on the market – North Korea, Congress, Russia, China, Iran, Catalonia, Brexit, and so on - you stick with what’s working. And in this market, by following Zweig’s simple rules, the odds are more likely on to be in your favor.

Am I capitulating? No. Am I getting senile? No. Does that mean that I don’t expect a huge smack down at some point? No. What it means is– as they say in the South – we dance with the ones that “brung” us. And in this case, the ones that “brung” us are the New York Stock Exchange Advance Decline line and the robots – at least as of Friday October 20.

NYAD New High

Another week, another new high; that’s been the way of things for the most accurate indicator of the past several years, the New York Stock Exchange Advance Decline line (NYAD). And this past week was no different as yet again NYAD broke to a new high and shows no sign of slowing, despite logic and gravity saying otherwise.

In fact, judging by the slowly shrinking Bollinger Bands (green lines above and below NYAD) another big move is coming. And given the general trend of things lately, my bet is that the move will be to the up side at least in the short term. Note that the RSI is still overbought, but the market doesn’t seem to care. Note the ROC, which measures momentum, seems to have found a bottom. If this keeps up, no one cares about an overbought market and momentum is recovering, then the NYAD seems to be setting up for yet another up leg. And where the NYAD goes, the market seems to follow.

SPX Confirms NYAD

It used to be that the NYAD confirmed the market. Now it’s the other way around. In this vein, the S & P 500 (SPX) made a new high to close last week, confirming the new high in the NYAD. This means regardless of the insanity of the moment, upside momentum now has a stranglehold on the stock market. This is illustrated by all in rise in the Accumulation Distribution (ADI) and On Balance Volume (OBV) indicators and the apparent bottoming of ROC indicator.

And while the S & P 500 and the NYAD are showing some muscle, the Dow Jones Industrial Average (INDU) is going parabolic – straight up – gapping up to higher highs on a regular basis.

This type of price behavior is a sign that investors are a bit ahead of themselves. But in this market, who knows whether it will matter.

The Inmates Are in Charge of the Asylum

The stock market is a slave to momentum. Moreover, we seem to be witnessing a market that is nearing a blow off, a period where prices rise based purely on money moving into stocks just because prices are rising. These periods can last days, weeks, and sometimes months. And as we are seeing now investors tend to ignore reality, abandon prudence, and become bullish beyond belief, which is why the Greed and Fear index is near its top reading of 100.

Certainly momentum blow offs are the most exciting periods in any market, but sadly they don’t last forever. Indeed, when these huge momentum runs end, markets usually enter major bear trends. Whether that’s the way this will work out or not remains to be seen. After all, the inmates- algorithm fueled robot trading programs – are now running the asylum as the rapidly vanishing human controlled trading desks seem to be helplessly watching, as their bearish bets continue to lose value.

Thus, this is a high risk situation. Therefore in order to maximize gains and manage potential losses investors should continue to hold long positions but should consider taking profits on big gainers and consider buying some portfolio insurance, raising cash, or both.



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