Over August and September 2018, we spent several weeks warning investors that a significant correction was about to happen based on several indicators of sentiment that were flashing red signals in a recurring way.
We are having exactly the same thing happening right now but in the opposite direction…
Many of the Sentiment indicators that we follow are flashing BUY signals as investors have become extremely bearish and liquidation has taken place.
- Throwing in the towel. Over the past decade, it has taken some severe moves in stocks, in a very short amount of time, to shake optimism among newsletter writers. That’s what happened now, with a near-record drop in sentiment. For the first time in nearly 3 years, there are now more letters looking for stocks to decline than rally. That has usually meant it’s going to do the opposite.
- Record reversals. The big drop and reversal last week triggered a record number of reversals among S&P 500 stocks, by a long shot. Nearly half of the stocks set a 52-week low before reversing to close higher. That has only occurred during panicky markets, which typically meant a medium-term recovery.
- Nervous investors. The S&P 500 fund, SPY, gapped down more than 1% before reversing to close up for the day. This is occurring within two weeks of a 52-week low. Investors are nervous. In SPY’s history, it has happened 14 other times, almost all of which were in 2002 and 2008. Even so, SPY was higher over the next 25 days 11 of the 14 times.
- Stretched for a month. The Stock/Bond Ratio has been extreme for a month now. The 20-day average is below -2.5 for the first time since 2011. The Backtest Engine shows that there have been 50 days since 1969 when it has been this extreme, leading to a rally in the S&P 500 over the next two months after 43 of them (an 86% win rate).
Finally, Something extremely unusual happened today in the Japanese Yen, a proxy for risk-on / risk off trade : a flash crash
The Japanese Yen rose from 109 to 104.34 in a few hours during Tokyo time as speculators were all stopped out of their positions.
This amounts to a capitulation in the Risk-off trade with panic having taken people to cut Japanese Yen short positions indiscriminately.
To us, this is another sign that fear has reached a climatic stage and that a reversal is near.
It is a clear signal to short the Japanese Yen…
It may take another few days or even a week, and we may still see some downside, but we are reaching that stage where investors should consider putting some money to work in equity markets.
Interest rates are low, Valuations are low, Trade talks will deliver good news and corporate earnings should be solid for the 4th quarter of 2018.
The US employment numbers for December to be published tomorrow should provide guidance on the strength of the economy.