Mott Capital Management
Investing Group Leader
Summary
- The number of stocks in the S&P 500 above their 200-day moving average is at a historically high level.
- There have been a number of very large options bets placed against the major ETFs.
- The bond market may be picking up on a double-dip recession.
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Several signs suggest the recent move higher in stocks may be near its end over the short term. It does not mean that the stock market is likely to enter some steep March-like sell-off. But it does mean that there is a possibility we witness a rather steep correction. This type of sell-off, more importantly, is a result of the positioning in the markets, which appears to suggest that it may finally be running out of the energy needed to propel it higher.
Number of Stocks Above The 200-Day
Several signs indicate a top or top-like pattern has developed. The most noticeable pattern is that the number of stocks above their 200-day moving average in the S&P 500 is now around 88%. It is a number that has not been seen since 2014. Since 2007, it's been higher in three other periods, 2009-2010, 2011, and 2013. In those cases, it reached nearly 94%.
In 2009-2010 when it reached 94%, it led to two pullbacks, one of around 9.5% peak to trough, the second one 17.1%. In 2011, it resulted in a 21.5% decline, while in 2013, it resulted in a fast 7.5% decline.
Reaching 88% is extremely rare too. Over the same period, it has done that just three times, in 2012 and 2014, and today. In 2012, it resulted in the index trading sideways to lower for nearly six months from March until September. From July 2014 until February 2016, the index traded in a 6% range for months.
One could conclude that when these many stocks in the S&P 500 are trading above their 200-day moving average, it suggests a sharp drawdown or stagnation period is coming.
Bearish Options Bets
Additionally, we have seen a growing number of bearish option bets being placed on the S&P 500 ETF (SPY) in recent days. There have been two huge bets placed in the SPY in November, both for expiration on December 18. The first trade was for the $300 strike price puts. The data shows the trade took place on November 10, with the open interest rising by almost 280,000 contracts, and bought for around $0.90 per contract. It means the trader spent nearly $25.2 million on premiums to buy these puts.
Additionally, the open interest for the $290 puts for the same expiration date rose by 280,000 contracts. In this case, the trader sold the puts for around $0.60 per contract, taking in a premium of around $16.8 million.
In total, the trader paid out premiums of about $8.4 million. It means the trader expects to see the S&P 500 ETF trading below $300 by the expiration date but above $290.
Additionally, a massive bet was placed against the NASDAQ 100 ETF (QQQ) at the open interest levels for the April $265 strike price. The number of open puts increased to around 160,000 contracts since the beginning of November. The trader paid between $10 and $14 per contract over the course of that time. In total, it appears they may have laid out as much as $190 million in premiums, a massive wager. It is a bet that the QQQ is trading at $250 or lower by the expiration date.
Double-Dip
The bond market is also suggesting that something negative is happening. Possibly the equity market is not picking up. After the past year of tracing their daily movements relatively closely, the 5-year, 5-Year forward inflation expectations have diverged from the S&P 500. Those inflation expectations have started to turn lower, while the S&P 500 has continued higher. In this case, the bond market may see a lower inflation outlook given the recently weaker than expected retail sales numbers and an anemic consumer price index. Overall, the bond market may be picking up on signs of a potential double-dip recession, working its way into the US economy.
Momentum Fades
From a technical perspective, the S&P 500 has stalled around 3,625 following the word of the positive Pfizer (PFE) vaccine results. Additionally, the relative strength index failed to make a new high, despite the S&P 500 making a new high, a bearish divergence. And a sign that the index may be starting to lose some of that bullish momentum. Finally, several technical gaps need to be filled at lower levels, all the way back to 3,250, a drop of around 8.6%.
The bearish trends also exist in the QQQ ETF, unable to pass resistance around $296. Meanwhile, the volume has fallen sharply, a sign the number of buyers may be thinning out or not as enthusiastic about the ETF’s prospect to rise further. There is a technical gap about 6% lower, around $274, that needs to be filled.
It seems that overall, in the short term, the market may have finally run out of some of that record-setting energy it had. And after a record-setting run, you can’t blame it for needing a break.
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Mott Capital Management
Mott Capital is managed by Michael Kramer, a former buy-side trader, analyst, and portfolio manager with 30 years of experience tracking market fundamentals. He focuses on long-only macro themes and studies trends and unusual options activities to identify long-term thematic growth opportunities. Since its inception in 2016, the Mott Capital Management portfolio is up 115.4% using the fundamentals and macro trend-based approach to trading.
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