SP500 Short SQUEEZE | How to Play It | Episode 54

By Jason McIntosh | Published 29 July 2022

Trade the Trend is a weekly video focusing on where the stock market is going. It’s for investors and traders looking for insights to the market’s next move. Jason uses technical analysis of stocks and trend following techniques to help you piece together the world’s biggest puzzle.

Where is the Stock Market Going?

00:00 Intro

00:34 Why the SP500 is rallying (this hasn’t happened since April)

03:15 SP500 at same level as 3 months ago. But a very different set-up.

05:40 Is this a bear market rally or a new bull market?

07:02 This event is a major pressure release for the stock market

09:06 What should investors do now?

11:17 This market could rally 20% quickly

Transcript (abridged)

Please note: Charts available from video

So, what we’ve got on the screen is the S&P 500. And we were talking about the possibility of a strong rally over the past couple of weeks. And that was based on a couple of factors. So, we’ve had the S&P 500 becoming resistant to the bad news as we found through this section here a couple of weeks ago. And there’s also been excessive bearish sentiment through the market generally. And this was becoming evident with the record inflows we were seeing into inverse ETFs.

So inverse ETFs are a product that you buy that rises in value when the market falls. So, we had record flows into inverse ETFs and we’re seeing extreme buying of options that were betting on a crash. And I was showing you graphs of those over the last couple of weeks. And as so often happens in the market, the S&P 500 has done the opposite to what many people were expecting. And while people were positioning themselves for another sharp fall, the market’s done the opposite and, in fact, we’ve got a strong rally.

Now, last week, I was talking about the breakout from this bullish flagging formation. And what we’ve found is…so we had the breakout about a week and a half ago, then we had a pullback during the last week, and now we’ve had another surge. And what we have now is we have a decisive break above 4,000. The 4,000 comes through here. Four thousand had kept the market for…initially, when it first got up around here, market pulled back, but now we’ve got this decisive break through 4,000.

And another positive for the market is that this is the first time since April that the S&P 500 has traded above its 100-day moving average. So, this is a 100-day moving average and this is a 50-day moving average. And you see we’ve got to come all the way back here to April to find the market only briefly but at any rate getting above that 100-day moving average. So, we’ve had quite a lengthy stretch of prices being below the 100-day. And you see the same price action as evident in the Dow, in the NASDAQ, and in the Russell 2000. So, it’s a broad base rally that we’ve seen over the last couple of weeks.

Now, it’s really interesting, I think, when you…if we just look at the last three months…so just coming through this section here. So where are we now? On the 29th of July. So, if we go back here to let’s say around the 29th of May, and you see the market’s been…it’s traded in this really wide, say, 16% band. But if you look at where the market is today to where it was three months ago, you see it’s barely changed. It’s around the same point it was three months back despite this extreme amount of volatility that the market’s been through.

But while the price is around the same, there’s a key difference between three months ago and where we are now. So, you see, three months back, the S&P 500 was below its 50-day moving average and below the 100-day moving average. And as you often hear me talking about, I’m often saying that the market is at its most vulnerable when it’s trading below these moving averages. And I believe that when the market is below those moving averages, that’s really where I think you need to be the most cautious and you need to be the most defensive with your portfolio. And that was certainly the case. This is where we saw the steepest part of the decline when the market was below those moving averages.

But what we have now, we’ve got a very different situation developing on the charts. So, the S&P 500 is now above the 50-day moving average, and it’s just starting to edge above the 100-day moving average. So, time will tell whether that remains the case, but that is a positive development. So, these moving averages, they’re yet to cross and turn higher. We get an uptrend. We get confirmation of an uptrend when the 50-day moving average crosses above the 100-day moving average, so it’s like we did back here when this 50-day moving average crossed above the 100. That was confirmation that a new uptrend was in place. So, we don’t have that yet, but there are signs that 50-day moving average could be starting to turn higher. But quite simply, I think the situation we have now, it’s potentially the early signs of a trend change appearing on the chart.

If you’ve been following these videos, you’ll know that my base case has been that…and still is, that this is a bear market rally. We just don’t have enough evidence at the moment to give confidence that we’re off to a new all-time high and beyond. There’s just not enough happening on this chart yet to say that’s the case. But having said that, I think this June low is a significant low, and I think it’s going to be lasting for at least some time, possibly at least several months.

And I think the latest price action has broken this sell cycle. It’s broken the sell cycle where we continued to get lower lows and lower highs. And I think the downside risk following this rally, the downside risk has really started to dissipate. So, the market was on edge when it was around here. The risk of a sharp decline was…well, really the market was on red alert at that point for that sharp capitulation-style decline. A lot of people were expecting it. I thought it was a strong possibility, but it didn’t come. And so, I think if the market couldn’t sell off when it was the most vulnerable, I think that risk now that it’s started to rally has really dissipated.

And I think another interesting development has been in the U.S. 10-year bond. So, let’s just quickly jump over to the 10-year bond. And so, this is a yield on the 10-year bond. It’s currently coming in at 2.66% after being as high as around 3.5% a few weeks ago. And this week, it’s traded at its lowest level since back here in April. And it’s also closed below the 100-day moving average. And this is interesting. The last time the U.S. 10-year bond closed below its 100-day moving average, it was back here in December last year.

So, all the headlines around the world have been around rising inflation, yet the bond market is starting to ease back. So, is it a case of the market leading the new cycle? It quite often is the case. But we don’t know. This may just be a temporary pause in a larger rising trend. But I think that at least for the near term, I think it’s a pressure release, and this itself, this falling yields, this could help push the S&P 500 higher over the coming weeks. So, I want to talk about how to play this.

But, first of all, if you’re getting some value, please hit that like button and please leave a short comment, just, “Hey, Jason. Thanks for the video.” It just tells YouTube that people are watching, people are engaging. It really helps me so much. So please do that. Please hit that subscribe button. And yeah, it really helps grow my YouTube channel because it takes a heap of time to put these videos together. So that would help tremendously if you could please do that.

And yes, so how to play this? How do we play this now? Well, last week, I was saying the cautious play was to stay on the sideline, and I said the more adventurous approach was to consider getting exposure to a market ETF. And the reason I suggested an ETF is because I think that ETFs are probably a safer way than individual stocks at this stage where the market currently is because I think less can go wrong in an ETF. You buy a stock that’s just starting to move high. It’s still so susceptible to something negative coming out of the company and in a sharp downdraft in the share price. ETF, less so. It’s more market risk than individual company risk.

And I’d rather wait the individual stocks to meet my buy criteria. And that’s what I’m doing with my Motion Trader subscription service. I’m using the algorithms to scan the stocks that meet the criteria. Not that many are doing that just yet. Now, I’ve said that I favor this being a bear market rally. So, I don’t want to aggressively position into the market at this point, but I also know that I could be wrong. And it’s a really important thing for every investor to realize whatever view you have, that view could be wrong. And so, from my perspective, if this isn’t a bear market rally and the market keeps rising, I want to be able to not have myself locked into a bearish position. So, I think the play is to incrementally increase exposure.

I think a mistake that so many people make, they get these falling markets and then they just get locked into that bearish view and they just stay out completely. And the problem with this approach is that what happens if the market keeps running? What if this isn’t a bear market rally and it’s not about to turn down? Instead, what if the market keeps moving higher? And I can tell you, it’s no fun watching the stock market bus disappear into the distance. That’s why I say I’d rather ease back into this market, and if it keeps rallying, I can then transition from the ETFs to individual stocks as I start getting buy signals.

And I’ll just quickly show you a market which I’m currently interested in. This is one which I’d like to get some exposure to. It’s the Russell 2000, the U.S. index of small caps. And so, we had a bullish break. We had a breakout of this bullish wedging formation just a couple of weeks back. And we’ve also got the…the prices above the 50-day moving average just had a close above the 100-day moving average, which is the first time it’s closed above the 100 moving average since I think back here in March. I think we had a close above then. And you’ll also see that what we’re getting now is that the dips are being bought. So, we had a pullback move to the breakout. The dip was bought, and the prices moved higher. And we’re also starting to see a sequence of higher highs and higher lows. So that’s starting to develop. So, there are some positive signs that momentum is shifting.

Now, what if the Russell, from here…and this is just speculation because, of course, I don’t know. What if the Russell did something like this over the next few months? If we looked at this chart in three, four months’ time, maybe that could be what we’d see. Now that sort of rally would be a 20% move. It’s a big move coming off a low base, and it could be part of a bear market rally. The market could do something like that and still roll over, or it could be part of a new bull market on its way to new highs, or, of course, it mightn’t do anything like that at all. But rather than sit on the crowded sideline waiting for things to get worse, I’d rather get a few players back on the field just in case we do see a move like this, and just in case a move like that continues to go higher.

I think the risk of a significant downside move is relatively low for now. And if you’re interested in this sort of play, in the Russell, there’s a U.S.-listed ETF with a ticker code IWM. It’s an iShares ETF. There are also plenty of other ETFs for the NASDAQ and the S&P and many of those are listed on global exchanges, including the ASX 200. So, it’s shaping up as another really interesting week. We’ve got that upside momentum there. Things are starting to move. A lot of negativity still. I think that could help fuel some higher levels.

Please see video for more detailed analysis and charts

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Meet Jason

I'm Jason McIntosh, the creator of Motion Trader. My career began in 1991 on the trading floor at Bankers Trust. Nowadays, I trade my own systems from home in Sydney. 
Motion Trader is for investors who value robust analysis, data driven entry and exit signals, commentary, and education. I use engineered algorithms to identify when to buy and sell ASX stocks. No biases or guesswork, just data driven signals.