Commenting on today’s trading with a focus on the Volatility Index, Gorilla Trades strategist Ken Berman said:
While Friday’s session was a mixed bag for bulls, in light of the rally of the previous two sessions, investors can’t complain. The crucial week ended with a surprisingly quiet session, and since volatility continues to collapse on Wall Street, the rally is unlikely to be over, especially since fundamentals are improving.
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The major indices finished mixed and flat on Friday as stocks consolidated following two strongly bullish sessions. The Dow gained 69 or 0.3%, to 26, 797 the Nasdaq was down 14, or 0.2%, to 8,103 while the S&P 500 rose by 3, or 0.1%, to 2,979. Yhe number of advancing issues roughly matched the number of decliners by on the NYSE, where volume was slightly below average.
Short week
It’s hard to believe that we had a holiday-shortened week in financial markets, as the first four trading sessions were intense, to say the least. The twists-and-turns of the trade war between the U.S. and China and the Brexit saga made the biggest waves, but the string of better-than-expected economic numbers also had a major impact on asset prices. Despite a negative start to the month, bulls have to be delighted with how the week unfolded, as the key risk assets all finished in the green.
The major U.S. indices all but recovered from the August pullback, thanks to the de-escalation of the trade war and the declining odds of a no-deal Brexit. The main safe-haven assets turned lower in the second half of the week, but despite the fact that the U.S. benchmarks are within striking distance of their all-time highs, Treasuries and gold are also just off their recent multi-year lows.
The key economic releases of the week were mostly bullish, both in the U.S. and globally, but the divergence between the struggling manufacturing sector and the relatively stronger consumer economy even widened. The ISM manufacturing PMI hit its lowest level in three years, dipping below the 50 level, and warning of a possible recession in the sector, but the non-manufacturing PMI came in at 56.4 well above the consensus estimate.
As the European and Chinese services PMIs also ticked higher, the odds of an outright global recession decreased, helping the rebound in global government bond yields. The government jobs report was mixed, but despite the miss in non-farm payrolls, the labor market remains robust.
Volatility Index hits a big low
The technical picture is clearly bullish on Wall Street, thanks to this week’s rally, and all of the key trend indicators are pointing higher again following the August correction. The S&P 500, the Nasdaq, and the Dow are still well above their flat 200-day moving averages, and the benchmarks are finally back above their flat 50-day moving averages as well. Small-caps continue to show relative weakness compared to the large-cap indices, and although the Russell 2000 recovered above its 200-day moving average, it’s still stuck below its short-term indicator.
The Volatility Index (VIX) hit its lowest level in five weeks together with the major indices, dropping below both its 50- and 200-day moving averages, and it closed the week near 16, well below the key 20 level.
Market internals improved for the second week in a row, and even though the weakness in small-caps is still weighing on the most reliable indicators, the overall picture is consistent with a healthy bull market. The Advance/Decline line hit new bull market highs thanks to the broad rally in stocks, as advancing issues outnumbered decliners by a 5-to-1 ratio on the NYSE, and by a 6-to-1 ratio on the Nasdaq. The average number of new 52-week highs increased on both exchanges, climbing to 105 on the NYSE and 58 on the Nasdaq.
The number of new lows collapsed in the meantime, falling to 35 on the NYSE and 63 on the Nasdaq. The percentage of stocks above the 200-day moving average is finally back above 50% in the wake of this week’s risk-on shift, and the closing value of 52% is the indicator’s highest reading since the start of the correction.
Volatility Index and Shorting
Short interest declined substantially this week, as political and trade tensions eased, and the risk of a global recession fell, and the total amount of bearish bets got even closer to last year’s lows. Electronic store chain Conn’s (CONN) released a much better-than-expected earnings report this week, triggering a strong rally in its shares, and as the stock has a short interest of 47%, we could be in for short-covering rally. Our previous pick, Gogo Inc. (GOGO) also had a blowout week, gaining more than 10% amid the broad rally, and the stock still sports a short interest of 57%, so the multi-month correction might soon be over for good.
Digital Realty Trust (DLR) got close to its all-time high from 2017 this week, and should the stock break out to a new high, shorts could be in real trouble, since the stock has a very high days-to-cover (DTC) ratio of 14.
ECB
The consumer economy, inflation, and the European Central Bank (ECB) will be at the center of attention next week, and trading activity will likely remain strong. The U.S. Producer Price Index (PPI) and Consumer Price Index (CPI) will be out on Wednesday and Thursday respectively, while the retail sales report and the Michigan consumer sentiment number will be released on Friday.
The ECB will hold its monetary meeting on Thursday, one week ahead of the Fed’s rate decision, and following the hints at a ‘major easing package’ from the bank, even a dovish announcement could cause turmoil across asset classes. The euro hit a more than two-year low against the dollar this week, and although the currency bounced back thanks to the late-week risk-on shift, it still has plenty of room to appreciate. Stay tuned!
