Analysis, Perspective, Trading Strategy
At the Edge of Chaos: Caution is Warranted as Market Breadth is Deteriorating
Duarte in the Money Options
the stock market about to crash? The question is certainly coming up
a lot these days.
While doing an interview this weekend at the Money in Orlando, host
Hillary Kramer asked me if I thought there would be a crash in the
stock market; to which I responded that anything was possible in the
world at the moment due to the developing situation with the coronavirus
and the overwhelming presence of trading algorithms in the stock market.
At the same time I also noted that it would be difficult to see the
Federal Reserve reversing its current QE anytime soon, and since the
algos just read headlines and follow instructions it was a tough call
on what the market would do in the short term.
Nevertheless, and as I pointed out during my presentation on Friday
morning at the Money Show before the interview, the New York Stock
Exchange advance decline line (NYAD) may be in the early stages of
a technical divergence, which is very worrisome if not reversed. I
will have more details on this below. Just the same, however, the bottom
line is that we are now truly trading at the edge of Chaos, where events
are very fluid and where one false move can lead to disastrous consequences
or riches beyond our wildest dreams.
Accordingly, the problem for investors is that if this divergence
in NYAD becomes fully operational, we are likely to have a significant
and perhaps very rapid decline in the stock market in which, regardless
of the fundamentals for sectors or individual stocks, there will be
pain felt throughout the Markets-Economy-Life (MEL) ecosystem. That’s
because when the real selling starts, the algos usually just walk away
and there are no buyers left to absorb the waves of selling. Of course,
where there is risk, there is also opportunity, as I will describe
below in the section regarding Gilead Sciences (GILD).
As a result, the effects of a market decline could work their way
to 401 (k) plans, the pillar of the current wealth effect. And as familiar
readers know, if 401 (k) plans suffer then people’s financial decisions,
such as home buying, vacations, new cars, may be put on hold further
decreasing economic activity. This in turn would make its way to corporate
earnings and fuel more selling in the market.
Thus, we may be staring into a difficult abyss in the not too distant
future unless something positive happens, especially in relation to
the coronavirus situation. That said; it’s tough to know if and when
things will unravel because there is so much at play politically in
the U.S. Furthermore the Federal Reserve have a well founded fear of
a full blown global recession gathering steam, which will likely keep
the easy money taps open.
Bonds and Spilled Coffee
Still, it’s the Trillion Dollar question. Ultimately, a good way
to visualize the relationship between MEL and easy money is that it’s
akin to a worker that’s been going full tilt on overtime for a long
time but is still getting good mileage out of drinking really strong
coffee –easy money. However, if that worker is reaching the point of
exhaustion then you might as well just pour the coffee down the drain
because at some point the worker is going to need a break.
In other words, if the worker falls asleep, then production will
falter. And that’s what the divergence of the NYAD may be signaling,
that even premium strength java isn’t going to be enough to keep MEL
rocking and rolling.
The bond market is certainly betting on the spilled coffee scenario
as the U.S. Ten Year note yield (TNX) closed last week below 1.6% and
seems poised to test the recent lows. There may be some hope out there
though, as I point out below.
Does Gilead Sciences Have the Goods on the Coronavirus?
Is there a cure for the corona virus in the wings? And does biotech
antiviral giant Gilead Sciences (GILD) have such a weapon in its drug
The good news is that Gilead, an $80 billion market cap diversified
biotech company specializing in antiviral medications, may have a potential
remedy for coronavirus available and that it is currently being tested
This story is clearly developing and there are no guarantees of success.
However, the Chinese government began to use Gilead’s failed Ebola
drug, remdesivir, in clinical trials involving 761 patients on February
6. The development came after Gilead reported
improvement in symptoms within 24 hours in a U.S. patient in the state
of Washington who received the medication.
Moreover, both Gilead and the Chinese government are keeping any news close
to their vests at the moment although there have been rumors of great
success with the medication during the trial.
Gilead is well positioned in viral treatments as it developed Harvoni
and Sovaldi, the initial cures for Hepatitis C. It is also a leader
in HIV treatments with a 79% market share in the U.S. while possessing
a deep pipeline of current and next generation HIV drugs which provides
$16 billion per year in revenues. Therefore if remdesivir makes a significant
dent in the coronavirus, it could give Gilead a potential franchise
against similar viruses in the future, not to mention that it could
save a lot of lives in the present.
The stock has been trading wildly over in a protracted trading range
over the last few months but did deliver a chart breakout on 2/7/2020.
Certainly buying GILD for its prospects against the corona virus is
highly speculative. Nevertheless, given the current alternatives for
a break against the spreading pandemic GILD may not be a bad place
to put a few bucks these days.
Here is a compelling summary of facts about Gilead:
- Developed cure for Hepatitis C: Sovaldi and Harvoni
- Excellent cash flow
- Stout balance sheet
- 4% dividend yield
- Increasing footprint in Hepatitis B
- Leader in market share for HIV drugs
- Broad and diversified pipeline to include treatments for cancer
and rheumatoid arthritis
Clearly this could be a make or break trade so the judicious use
of a sell stop or the using of options to manage the risks involved
is warranted. For more on managing the GILD trade, go here.
NYAD May be Signaling Market Weakness Ahead
The New York Stock Exchange Advance Decline line (NYAD) failed to
make a new high last week despite a new high on both the Nasdaq 100
(NDX) and S & P 500 (SPX) indices. This is a technical divergence
and until proven otherwise should be viewed as a potential sign that
the market has made an important top.
Moreover, the On Balance Volume (OBV) and Accumulation Distribution
(ADI) indicators for both SPX and NDX may have started to roll over
although it’s still a tough call since a couple of good days next week
could change everything again.
Furthermore, there are two additional findings in the NYAD chart
which support the case for the divergence. First, the ROC indicator
failed to climb above the zero point on the recent bounce. This confirms
a loss of upside momentum which is evident in the lack of a new high
for NYAD. Second, the RSI failed to get back to above 70, confirming
that the broad market is starting weaken even as the major indexes
made new highs.
Finally, NYAD ended last week at its 20-day moving average. If the
line breaks below that short term support level it may well test the
more critical 50-day moving average. A decisive break below the 50
day line is a serious breach and would likely signal an acceleration
of the selling. As a result, until this technical situation is remedied
the odds of the market stalling out are higher than of them making
new highs and investors should be considering either raising cash,
some sort of potential hedging for their portfolio or both.
Being Prepared for More Volatility Makes Sense at the Moment
The corona virus has created a dangerous background for the Markets-Economy-Life
(MEL) ecosystem. Indeed the potential for the virus, due to quarantines
in China, to cause supply chain disruptions, triggering a further slowing
of the global economy, along with the immeasurable cost of lives lost
may be the catalyst that finally disrupts the longest bull market in
At the same time it’s crucial to keep in mind that any sign of good news
could reverse the current negatives in the market and theoretically start
a new up leg. As a result, I remain cautious in the market and continue
to advocate for raising cash, and to explore the possibility of implementing
a hedging strategy, while remaining fully cognizant that the market could
easily reverse and move higher at any
time. I’ll have more for subscribers in this week’s Portfolio Summary.
For a 30-day Free trial subscription go here.
I have an open long position in GILD as of this writing.
Joe Duarte is a former money manager, an active trader and a widely
recognized independent stock market analyst since 1987. He is author
of eight investment books, including the best sellingTrading
Options for Dummies, rated a TOP
Options Book for 2018 by Benzinga.com - now in its third edition, The
Everything Investing in your 20s and 30s and six other trading
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