This Too Will Pass

This Too Will Pass

Posted on August 24, 2015

Market Update

August 24, 2015

Market State 12-A (2 Days) Transitional: Canterbury’s studies show that a transition from a bull to a bear market doesn’t happen overnight, it is a process. A transitional phase is a period when the market has sold off enough to trigger the bearish indicators but, at the same time, is so oversold and emotional that the eventual kick-back rally is typically as strong as the sell-off. This is the kind of market environment that the risk of getting whipsawed is much higher than transitioning straight into a bear market.

See examples in charts below for the characteristics of Transitional - Market State 12-A.

Canterbury Volatility Index (CVI 74) The CVI saw a 19 point (35%) increase in volatility. Thursday and Friday are the worst two consecutive days the market has seen since 2011. The Portfolio Thermostat’s Velocity of Volatility triggered Thursday which turned our volatility algorithms negative.

The Overbought/Oversold indicator closed the week at 98% Oversold (Short Term Bullish). Finally, I would have expected 100% oversold but 98% is good enough. The market is capitulating. Expect a kick-back rally.

 

Market Comment:

I have used the old “squeezing the spring” analogy so many times, you are probably tired of hearing it. When the trading range gets really tight, for an extended period, it can be like shooting someone out of a spring loaded cannon. The problem is that you are never sure which direction it is going to shoot. In last week’s case, it was straight down.

A normal market correction is defined as 10%, not that there was anything normal about the price action last week. That said the last 10% decline was in 2011. The current correction sits at 7.5% on the S&P 500. The Dow has corrected 10% but that is due to Apple replacing AT&T (Ma Bell) as one of the 30 stocks included in the index. The Dow is a price weighted index. The higher the price of the stock, the larger the weighting in the index. AAPL is trading at 105 down from 134. Now that will cause some substantial under performance in the Dow.

As of Friday, 65% of the S&P 500s stocks are down 10% or more and a third are down more than 20%.* The warning signal began when the broader market began to underperform the S&P 500. I have discussed the weakening breadth of the market over the last several weeks. There is not a big enough negative divergence between the S&P 500 and the broad market to signal a bear market at this time.

This morning’s early weakness is pushing investor’s emotions higher. It is difficult to make rational decisions when the markets are irrational. That is why continue to reiterate that: “There is no room for subjectivity in the science of evidence based portfolio management.” As it stands now, the system has issued sell signals on two of our ETF holdings. Those two holdings will be sold today and upgraded to the two strongest ETFs that are in bullish Security States. The Portfolio Thermostat will continue to adapt its holdings to move in concert with the markets.

*Source: David Vomund - Vomund Investment Management.

The following is an example of a similar market environment that eventually turned into a full-fledged BEAR market. Notice the rally following the first selloff.

The next chart is an example of a similar market environment that eventually returned to full-fledged BULL market. Notice the rally following the first selloff.

Bottom Line:

Avoid listening to the media hype and don’t get caught up in the emotions of the masses. The market is in capitulation mode. A rally should occur sooner than later. It will take a period of time for the markets to complete a stabilization process. The Portfolio Thermostat will make the necessary adjustments as our indicators shift to reveal the new market environment.

 

As can be seen above, market capitulations end with a rally. The rally will occur when the majority least expect. Markets are the inverse reflection of ourselves. That is why they will act counter intuitive from what we expect.  If the current environment does shift to bear market, the portfolio’s holdings will adjust to match the new market environment.

 
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.