The markets bounced "bigly" today, so I thought it was prudent to share with you what I said in the Stocktwits Technical Analysis Room Monday night. Before the futures even took off, I stated we could bounce after recapturing the SPX 2,740 level. I also said other levels I was looking at for potential bounces areas were just slightly below at the SPX 2,722 and 2,705 levels in case we were to fail, as they were marginally stronger support areas. Although I was a bit reluctant that it could be the big bounce we like to see when bottoms occur, we certainly seemed to get one.
AAII Survey Data Week Ending 5/22/2019
There were a few reasons I believed a short-term bounce was near. First, the AAII Survey Bull and Bear data readings were nearing extremes. Moreover, this was the 37th occurrence in the survey data where Bulls are below 25%, and Bears are above 40% since 1989. When looking at the data, we see that 1-month later the market is positive 72.22% of the time, with an average gain of +2.05%. 13-weeks later it's positive 75% of the time, with an average increase of +4.54%. If you follow me on Twitter or Stocktwits, I alerted followers of this on June 2nd. I did note that Macro concerns could outweigh the sentiment indicator as it has in the past during 2008 and 2015, which is a valid concern in our current market environment.
Total Put/Call Volume Ratio via Stockcharts.com
Furthermore, I noted we saw elevated Put/Call ratios over the last week on the streams. The total P/C ratio, equity-only P/C ratio, and index-only P/C ratio were all nearing the high end of their ranges, which has been a great contrarian indicator in the past that we're near a bottom at least for the short-term. On top of the sentiment indicators, nearly all daily chart technical indicators were in oversold territories, like the Relative Strength Index, Stochastics, etc. Combined, this is typically a good cocktail recipe for at the very least a temporary relief rally.
Additionally, I mentioned a risk that our firm saw in a potential delta-hedge scenario if we were to stay below the overhead supply level at SPX 2,800 for a prolonged period. So, what is a delta hedge? Well, often significant open interest strikes in the options market act as support as the option sellers, typically market makers, will defend these areas to ensure the options expire worthless. But, during market weakness, these strikes can start acting like magnets since the market makers that sold the puts are not sufficiently hedged by shorting S&P futures. As the strikes get closer, those that sold those puts must short S&P futures to hedge their risk, and this can start steam rolling out of control.
SPY Open Interest Through August Expiration
To illustrate this, please see the Open Interest chart for SPY through August expiration, as you can see puts are stacked down to the SPY 245-strike. This OI configuration reminds our Sr. VP of Research of last falls correction in which we saw a delta hedge scenario trigger in December. This risk looks like it could remain throughout the summer if we fail to confirm this nice bounce above 2,820 in my opinion, as we would risk a failure of the round century support level if we hover near 2,800 for a prolonged period.
SPX Daily Chart via Thomson Reuters
So what now? I certainly didn't expect we'd make it back to the SPX 2,800 level in one day with all the uncertainty in the markets; nonetheless, we did. I expect sellers will try to step in to prevent a breakout above the SPX 2,820 and attempt to push us back below 2,800 as a two-way trade ensues here. So, if we break back below 2,800 we certainly are at risk to retest 2,740 if not a lower level of support and once again will be at risk of a delta-hedge scenario. If we manage to break out above the 2,820 region and the subsequent downtrend line, we have overhead resistance levels at 2,860, 2,900, and 2,950.
Were at a pivotal moment, and while I'm optimistic it's only prudent to remain cautious until we get confirmation. If you have any questions, please feel free to reach out. I will not always be posting such in-depth technical reviews, but when times call for them, I want readers to be aware of what I see in the broader market. Good luck and happy trading!