The Anatomy of a Transitional Market Environment

The Anatomy of a Transitional Market Environment

Posted on September 09, 2015

Market Update

September 9, 2015

Market State 12-A (10 Days) Transitional/Bearish: Canterbury’s studies show that a transition from a bull to a confirmed bear market is a process that can sometimes take months. A “bearish” transitional phase is a period following an emotional sell-off large enough to trigger the Portfolio Thermostat’s bearish indicators. The market will then typically enter a period of high volatility as daily fluctuations swing both ways (up and down) in the 300 plus Dow point ranges. Buy and hold investors are subjected to an emotional roller coaster as they endure the daily ups and downs.

 

Canterbury Volatility Index (CVI 111) Bearish: High and increasing volatility is a primary bearish characteristic. Volatility is the result of instability between the forces of supply and demand.

 

Overbought/Oversold indicator (92% Oversold - close Friday) Bullish/Neutral:

 

Market Comment:

The equity markets are showing no signs of stabilizing. As discussed in previous updates, it will take several months of transitional market activity to “confirm” a new bear stock market or to reestablish the previous bull. As for now, the bearish market characteristics are in place.

 

Yesterday’s 390 point Dow advance is NOT a characteristic of a sustainable market turnaround. The 300 plus point days rarely occur during bull markets. When a “bull market” outlier does occur, it is typically preceded by a tight trading range (squeezing the spring before a pop) and are followed by normal trading activity (small fluctuations up and down).

 

Here is a quote from an earlier Weekly Update: “Keep in mind that the one day outlier (a move either up or down in the 2% range) is likely when volatility is at an extreme low level.” These one day outliers seem to occur during static markets when most would least expect.

 

The current market environment is experiencing large market moves almost every day. For example. The last 11 trading days have had 9 large outliers beginning on 8/20: Dow

-358; -530; -588; -205; +619; +396; -11.76 -470; +293; -272; +390 point days. Large point moves are normal for an early stage bear market. Large up days are characteristic of bear markets. The market will continue to have sharp rallies “big up days” in the weeks ahead. Such days should be used to rotate out of equities and into “alternatives” in bull Security States.

The Canterbury portfolio continues to make systematic adjustments in its’ ETF holdings to reflect the changing environment. The first goal is to stabilize the portfolio’s daily fluctuations to the 1% to 1.5% ranges. The largest risk, in the current market environment, is the risk of getting whipsawed. The second goal is to actually benefit from the downturn.

The primary objectives of Portfolio Thermostat process are as follows:

 
  1. Limit portfolio declines to normal “bull market” corrections, typically about -10% from the peak value (market noise).
  2. The portfolio should maintain a Bullish Market State regardless of the existing overall existing market environment.
  3. Optimize the portfolio to match the existing market environment.
 

Market Environment Progression:

The following chart shows the progression of the current “transitional” market environment. Comments below connect to the points on the chart.

 

Source: AIQ

 

A: 8/20 - Breakdown below Symmetrical Triangle and the 200 day moving average. Velocity of Volatility indicator issues volatility alert. Market State 6 – (Transitional).
B: 8/21 - Long term indictors issue unconfirmed long term sell. Market State 12ABearish – Transitional)
C: 8/24 - Dow trades down 1100 points near the opening and rallied 800 points in about the next 40 minutes. 8/25 – S&P 500 closes at the cycle low at 1868.
D: 7/20 -The S&P 500’s registers a high at 2128.
1: Outlines the current trading range.
2: The 50% retracement between the high (2128) and low of (1868) marked resistance at 1988 on 8/27.
3: Last Friday’s close
4: 8/24 – The Canterbury Volatility Index breaks above the “safe zone” (CVI 75 and 90) to CVI 91.

 

Bottom Line:

The Canterbury Portfolio Thermostat follows a defined rules based process designed to manage “Transitional” Market States. The process is being followed and is producing the expected results. We can’t predict the future, but we can identify what type of environment we are in now. We can also identify the most likely outcomes are from the existing environment. The current environment is bearish. Pricing is highly emotional and erratic. The tendency is to become optimistic during up days and pessimistic on down days. Percentage market gains, or declines, are driven by daily news events and are considered to be random market noise and will have little impact on our portfolio in the months ahead.

Canterbury Investment Management: Tom Hardin

More About Tom Hardin

As Chief Investment Officer, Tom has more than 30 years of experience in the investment management industry and has a broad breadth of knowledge. He is known as an innovator, educator and has been revolutionary in the advancements of 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.