The Markets Got Noisy All of a Sudden

The Markets Got Noisy All of a Sudden

Posted on January 27, 2014

Canterbury Portfolio Thermostat – Weekly Update 1/27/2014

Market State 2 (9 trading days) – long-term Bullish; short-term Bullish/Neutral - Market State 2 is indicative of a normal correction or period of price consolidation. A typical Market State 2 correction would be in the -4% to -8% ranges. The total drawdown in the S&P 500 (most recent peak to Friday’s low) is -3.14%. The probabilities for a further decline from here, if any, should be shallow and most likely would be less than -4% to -6% from the peak.

Canterbury Volatility Index (CVI) = 55 (reflects a low risk rational market environment). Last week, the CVI finished up 6 points for a 12% increase in volatility. Low but increasing volatility brings in a degree of market uncertainty. Friday’s sharp drop of 38 points on the S&P 500 (-2.1%) and 318 points on the Dow (-1.96%) pushed the upper limits of the "one day fluke,” that I continue to reference in the weekly updates. The "one day isolated fluke’ is typically in the 200 to 275 point range on the Dow. Such an "isolated” move will tend to occur, coming out of nowhere, particularly when volatility is at an extreme low level.

Overbought/Oversold indicator:
After a day like Friday, you would guess that our short term overbought/oversold indicator would look pretty different from before. You would be right. It moved from 52% overbought (Neutral) to 91% oversold (Bullish). Above 90% is very good but is still not at the extreme level (95% to 100%). There may be a little more weakness or time to stabilize but this indicator is definitely Bullish.

Market Comment: Last week may have eliminated the boring market and complacent investor syndrome I have been talking about for the last few weeks. The S&P 500 just had its worst week since 2011 by "plunging down -2.63%.” The reason last week was so bad is because we haven’t had any meaningful bad weeks since 2011. Bottom line, there aren’t many "bad weeks” when we are in a Bull market. Nothing has happened that wasn’t expected.

Weekly Update on January 13th: I pointed out that "the extremely low volatility can reflect too much short term complacency and can result in some larger than normal daily moves in the market.” "The probability for a one or two day market move in the 1% to 2% range is likely in the current environment. Such events typically occur when complacency is high.”

Weekly Update on January 20th: Last week started off with a couple surprises. On Monday, the S&P 500 closed down -1.3% and on Tuesday it advanced +1.1%. The market went back to sleep the last three days, which is typical of the current low volatility environment.

Last Wednesday, the CVI volatility registered the lowest reading in seven years at CVI 46. Extremely low volatility can be similar to squeezing down a spring. The tighter you squeeze the bigger the pop when you let go. The built up pressure is then released. Hopefully volatility will settle down from here. If not, then the Portfolio Thermostat will make the appropriate adjustments.

My long time friend David Vomund, at Vomund Investment Management, was named the 2013 Market Timer of Year, by Timer Digest. I think this is at least the second time he has won the award.

David writes a popular market letter called VIS Alert. This what he said over the weekend: Our best indicator for identifying market tops is a stocks-only Advance Decline Line. Prior to major tops, this indicator trends lower. I'm happy to report that our Advance Decline Line touched a new high last Wednesday. Instead of giving a warning signal, this indicator is bullish. Another bullish sign is that the NASDAQ is leading the S&P 500. Bear markets are typically preceded by at least several weeks if not months of declining market breadth.

Current Observations:
Long term Bull Markets have periodic pullbacks in price, we refer these as "market noise.”

  • A long term Bull market is marked by low and stable volatility, as defined by the Canterbury Volatility Index (CVI). Friday’s spike down came just short of issuing a volatility alert that would have turned the Velocity of Volatility indicator negative. That has not happened yet.
  • When our volatility index is below CVI 90 (currently CVI 55), then a typical Bull market correction will rarely exceed the -4% to -8% ranges. The current S&P 500 correction, peak to trough, (drawdown), is only -3.14% through last Friday.
  • A Bull Market cannot shift to a Bear Market while the Portfolio Thermostat is in one of 5 Bull Market States. In other words, we can’t be in both, a Bull and a Bear market at the same time. Market State 2 is a Bull Market State

 

Bottom Line:
A couple weeks ago, the temperature here in Indianapolis, got down to -15 degrees below zero (-35 degrees wind-chill). A few days later, it got all the way up to 38 degrees. I felt like going out in my t-shirt. It felt warmer because I was conditioned to being really cold, not just cold. We have not had any meaningful market volatility in a long time. In this environment, a -4% decline feels more like -10%. In fact, we have not had a -10% correction in two years. We will probably see a "real” correction sometime this year.

Financial markets are noisy and sometimes they get noisier than others. The Portfolio Thermostat adjusts to the existing market environment regardless of what it feels like. Almost all of our holdings went to Security State 2 or lower Friday. Four of our ETFs remain Buys the rest are rated Holds. The Portfolio Thermostat’s algorithms will most likely rotate more to alternatives and bonds if we have more days like Friday. For now, we are just hearing normal market noise.

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.