Research Excerpts

5 Reasons For A Rebound In US Stocks

Posted on: Monday, October 24th, 2011

5 Reasons For A Rebound In US Stocks
(A Lookback On Our August 10th Commentary)

The following (green highlights) is a chart and a brief excerpt from our Wednesday August 10th Commentary entitled, 5 Reasons For A Rebound In US Stocks.

Asbury Research subscribers can view the entire report by clicking the link above and entering their username and password.

This report, which is now 10 weeks old, is a good example of the timely, independent and often counter-intuitive research that we provide for our clients.  In this case it got them in front of a 136 point, +12% rebound in the S&P 500 between August 10th and the close today (October 24th).

Perhaps even more important is that on August 10th the bellwether S&P 500 was in the midst of a 245 point, -18% collapse that occurred in less than 3 weeks — between July 21st and August 9th — at a time when investors were terrified and anticipating even more weakness and the financial press was discussing the potential for a double dip recession.


excerpted from Asbury Research’s Commentary:
5 Reasons For A Rebound In US Stocks
Wednesday, August 10th 2011

Introduction

From our August 8th Keys To This Week report (access requires subscription):

“Last Friday’s spike in NYSE volume amid oversold conditions plus extremes in investor sentiment and market breadth, all while most major US indexes are positioned just above major support levels, establishes a conducive environment for at least a near term, corrective bounce to emerge sometime this month perhaps after our 1150 initial downside target is met in the bellwether S&P 500.”

Our 1150 downside target in the S&P 500 was met later that day (August 8th), resulting in a 104 point, -8% decline since we first discussed it in our August 3rd What We’re Watching Today (access requires subscription) pre-opening market comments.  Now that our initial downside target has been met, today’s report displays and discusses 5 different market metrics that indicate favorable conditions for at least a multi-week corrective rebound to emerge from at or near this week’s lows.

Momentum (Overbought/Oversold)

Chart 1 displays the S&P 500 (SPX) since 2007 in the upper panel (black bars), along with the 1-month rate of change in the daily closing price of SPX in the lower panel (blue line).

Chart 1

This is a very simple measure of monthly overbought and oversold extremes which, as the green highlights show, has either coincided with or led literally ever near to intermediate term bottom in the US broad market index in recent history.

We acknowledge that this indicator became over-extended to the downside in late 2008 as the S&P 500 was forming what eventually became the final May 2009 bottom.  However, note that — in most cases — the indicator really did not get much lower than where it is right now before at least a near term, corrective rally emerged.

Volume

Chart 2 displays the S&P 500 daily since 2010 in the upper panel (black bars), this time with daily NYSE volume plotted in the lower panel (blue histogram).  Volume indicates urgency, and investors feel the most urgency when they are terrified rather than greedy.

Chart 2

The green highlights bear this out as they show that big spikes in NYSE volume, in excess of 20 billion shares, have occurred when the US broad market was plummeting and investors were apparently capitulating on long positions — because they were collectively terrified of an even deeper decline.  The chart shows that this capitulation process is precisely when investors should consider buying, not selling.

With Tuesday’s NYSE volume in excess of 24 billion shares, its highest level since late June 2010 (which immediately preceded the early July 2010 bottom in SPX), these data suggest favorable conditions for another market bottom to emerge soon, probably within the next week or so.

Volatility

Chart 3 displays a 2-year daily chart of the S&P 500 in the upper panel (black bars) with a daily chart of the VIX (blue bars) in the lower panel.  The VIX, often referred to as “the fear gauge”, is a popular measure of the implied volatility of S&P 500 index options.

Chart 3

The green highlights on the chart show that spikes in the VIX to 30 or higher, indicating an extreme in investor fear (of even lower US equity prices), has coincided with or led every significant bottom in the S&P 500 in recent history.  The rightmost green vertical highlight between both panels show that the VIX has reached another such extreme now, and its highest level since late May 2010 (which immediately preceded a quick +9% rebound in SPX during the first half of June and eventually led into the 2010 lows in early July).

Similar to the volume spikes as shown in Chart 2 above, when the market is collectively this fearful investors should be looking to buy, not sell.

Market Breadth

Chart 5 displays the S&P 500 daily since 2010 in the upper panel, with the NYSE 26-week New Highs/New Lows Ratio plotted in the lower panel (blue line).  This metric measures 6-month bullish and bearish extremes in NYSE market breadth.

Chart 5

Conclusion & Investment Implications

The monthly rate of change in the S&P 500, NYSE volume statistics, market volatility, retail investor sentiment, and the latest market breadth data concur that the current sharp decline in the US stock market is unlikely to continue appreciably further from here, if at all, without at least a multi-week corrective rebound first.  The common denominator of all the metrics in this report is indications of investor panic — which history tells us is precisely when investors should be buying.

Although current market conditions show the potential for one more eventual leg lower (perhaps during September) before the May US stock market decline runs its course, investors may consider putting some capital to work now, at these levels, in order to participate in whatever type of rally — either corrective or directional — that emerges from here.


The market did indeed put in one more leg lower — as we suspected — as the S&P 500 declined to a new 2011 low of 1075 on October 4th.  However, our contention that investors start putting capital to work on October 10th  — at a time when the rest of the market was selling — put our clients in a position to capitalize on a significant rally in what has otherwise been a poor year for the US stock market.

Our Commentaries are one of 8 different reports that we produce for Asbury Research subscribers at various intervals throughout the month, is a detailed weekly outline of key market factors and corresponding charts that are most likely to influence US financial market direction during the upcoming week.

Professional investors can learn more about our investment research right here on our website which includes sample reports, client testimonials, our 2010 and 2011 market calls, and John Kosar’s recent appearances in the media.

Contact us for additional information online or by calling 224-569-4112.