Why are Markets So Counter Intuitive?

Why are Markets So Counter Intuitive?

Posted on May 19, 2014

Canterbury Portfolio Thermostat - Weekly Update – 05/19/14

Market State 2 (46 trading days) - Long-term: Bullish; Short-term: Neutral

Canterbury Volatility Index is at CVI = 54: The CVI was unchanged for the week, even though the S&P 500 and the Dow had an exciting week when both registered new all time highs on Tuesday. Tuesday was then followed by a small but emotional dip Wednesday and Thursday.

Overbought/Oversold indicator:
The mid week correction was enough to move our overbought/oversold indicator to 84% oversold (slightly short term bullish) up from the previous week at 54% oversold (short term Neutral). As a point of reference, 95% to 100% oversold would make this indicator bullish.

Market Comment:
The S&P 500 began at 1878.48 and ended the week at 1877.86. Such a small move doesn’t mean the week was boring. The Dow hit a new high on Tuesday. It then dropped 101 points on Wednesday and declined another 167 points on Thursday.

Wednesday, the S&P 500 was down 0.47% and Thursday was down as much as -1.37% (intraday) from peak to trough. I feel bad for most of the experts on CNBC because the "wild volatility” on Wednesday and Thursday almost scared them to death.

Last week’s commentary, in the Weekly Update, discussed the very narrow trading range for the Dow and S&P 500, coupled with low and declining volatility. Both are characteristics of a bull market. On the other hand, both can be a sign of too much investor complacency.

Quotes from the Weekly Update on 5/12/2014: "The low and declining volatility is Bullish for the equity markets. Price stability reflects a rational and efficient market. That said very low volatility can also be a sign of too much investor complacency.”

"The S&P 500 is barely moving. A sideways market is similar to squeezing a spring between your forefinger and thumb. The tighter you squeeze it down, the bigger the pop when you let go. The result of the tight trading range means that the probabilities are high that we could see the S&P 500 have one of those "one day outliers,” meaning a one day up or down move in the 2% range, most likely down. If such an event occurs, it will impact the low investor complacency and should not impact the long term Bull market.”

The mid week decline did shake out some of the complacency. A healthy bull market will be accompanied with a certain amount of fear and many nervous investors. Fearful investors tend not to be fully invested and will hold a percentage of cash on the sidelines. This non committed cash can be used for future buying which is needed to fuel higher prices.

On the other hand, high investor optimism means that there is little cash available for future buying. Bullish investors will have already invested their cash in expectation of higher prices. As a result, there is little cash available, for future buying needed to push the prices upward. In fact, many of today’s bullish investors will eventually become sellers if the future appreciation fails to meet their expectations. Investors buy when they are optimistic and sell when they are pessimistic. In other words, most buy high and sell low. Thus, markets are counter intuitive.

Bottom Line:
The S&P 500 is up, just a fraction, year to date. Bonds and dividend paying stocks are doing well. That said there has been a big shift away from aggressive growth to more defensive value stocks. The Russell 2000 is down almost -9% from its March 4th high. More importantly, it is now trading -1.2% below its 200 day moving average. A -3% break below the 200 DMA would turn the Portfolio Thermostat’s long term indicators bearish on the Russell 2000 index.

The Portfolio Thermostat has made a transition by rotating its ETF holdings to reflect the more defensive market environment. The Thermostat’s algorithms will continue to monitor the universe of almost 130 diverse ETFs on a daily basis. Future adjustments and upgrades will be made when needed.

Canterbury Investment Management: Tom Hardin

More About Tom Hardin

As Chief Investment Officer, Tom Hardin, Chartered Market Technician (CMT), makes all the final decisions on all investment and portfolio management decisions for Canterbury Investment Management. Tom has more than 30 years experience in the investment management industry and has broad breadth of knowledge. He is known as an innovator, educator and been revolutionary in the advancements in portfolio and risk management.

Every effort was used to provide accurate data and mathematical calculations to provide, what we believe to be, accurate results. Canterbury Investment Management, LLC, and its principal owners, make no guarantee of completeness or accuracy of data or calculations as well as conclusions of any statistical data or information contained in the simulation illustrated on this page. Past results or performance is in no way a guarantee of future results.