Tag Archives: Rydex Bull Bear Ratio

Osama Bin Laden and the market

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After Sunday night’s announcement that Al Qaeda leader Osama Bin Laden was killed, US futures jumped, in anticipation of a market rally. True to form, the market did get a bump early on, but it wasn’t long before the warm and fuzzy feelings evaporated, with the market struggling to keep its early gains.

So, what happened? Why not the big rally everyone has always expected to hear that the leader of such a deadly terrorist group had been dispensed with?

Perhaps we can get some insight by looking at an ongoing poll that CNBC is conducting. In this poll that showed just over 7500 people responding as of 2:00 PM eastern the day after Bin Laden was killed, almost 75% answered no to the question, “Do you feel safer now that U.S. forces have killed Osama Bin Laden.

So, while there was always speculation that the world would be better off with Bin Laden out of the picture, you can see that there’s also plenty of skeptics who believe that his demise won’t do much to make things safer.

In some ways, this reminds me of how the market operates; buy the rumor, sell the news. In other words, the market had already figured out that Bin Laden’s time on this earth was short term at best. Thus, we got the early market bump on the rumor, and then by the time the news had been absorbed, the market was already in the “give me something new” mode.

In fact, we’re in a market that has run a lot lately and is showing signs of being very overbought. So, the events that transpired overnight weren’t enough to outweigh the reality that the market needs to settle down here. Virtually all of the fear indicators are flashing huge overbought signals, from stochasitics, to RSI’s, to the VIX to the Rydex Bull Bear Ratio. Thus, it’s very tough for the market to gain much traction, Bin Laden news notwithstanding.

So, the fact is, the world is now rid of one very bad man, someone who many like minded people around the world looked up to. And, based upon that poll referred to above, there’s likely fear that there will be some type of retaliation for Bin Laden’s death. In the meantime, we’ll have to let our indicators and charts tell us whether or not the market is ready to go higher or lower, regardless of what is going on around us.

How scared is the market?

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Whenever we get a little bout of selling, the perma-bears get all cocky, predicting doom and gloom. We saw it earlier on Tuesday, when the headlines were screaming that Japan’s nuclear crisis level had been elevated and that Goldman Sachs had put out a sell on oil. In fact, earlier in the session, the Dow was down close to 150.

BUT; in reality, the market isn’t scared at all. Want some proof?

Let’s start by looking at the VIX, the standard fear barometer. As a reminder, the higher the reading, the greater the fear, and the lower the reading, the greater the complacency and absence of fear.

Earlier in Tuesday’s session, with the S&P near 1310 at its low, the highest the VIX got was 18.46. It settled down closer to 17 as the day progressed. Compare this to the most recent high reading on the VIX near 31 when the S&P was closer to 1250, and you can see right away that the current fear meter is nowhere near where it was even a month ago. How about this as a basis of comparison; when the market was tanking back in 2008, the VIX got as high as 90, over 5 times where it is today; THAT’s extreme fear, and we saw what happened shortly after that; the market had a sharp, extended rally, because everyone was scared out of their wits.

Another gauge of fear is when the masses exit the market all together. At an extreme level of fear, we could easily see a major index like the NASDAQ trade in excess of 2.5 billion shares in a single trading day. Volume during Tuesday’s selling? Well below 2 billion; an average day at best.

Then we’ve got the RYDEX Bull Bear ratio, hanging out in the low teens these days. In fact, it’s much closer to its all time low than its all time high, indicating extreme bullishness; just the opposite of the “bloody” headlines.

So, all this talk about the market being worried; it’s just not true. If it were, we would be seeing a much different picture on the fear meter, and we’re not.

Stock Market Crash Coming?

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This is the big question these days. Is the market headed for a big crash? I’ve reported before that some of the sentiment indicators are off the charts, meaning the market is unbelievably stretched. For example, the Rydex Bull Bear Ratio I’ve referred to is just above 11; a ridiculous amount of optimism. don’t think it’s been there before.

Now, we’ve got a problem brewing in the middle east, and Libya is in chaos. As a result, oil has spiked $6 in just a few days. The US market looked ready to crap out this morning, but instead, it is starting to look like a regular day. What gives?

Well, it’s pretty clear to me that we’ve been to hell and back in the market, having gotten as low as 666 on the S&P in March, 2009, to last week’s high of just above 1340, so a double off the bottom. Not too shabby. And now, whenever there’s any little bit of selling, it’s seen as a golden opportunity to jump right back in.

So, as much as it looks like the market could roll over here, we’re just not seeing it. For example, in a shaky market, a $6 bump in oil overnight would likely spook the market big time. Now it’s seen more as a minor hindrance. Perhaps it’s all about perspective; looking at where we came from, considering the conditions at the time, and coming to the conclusion that it will take a whole lot more than adding $6 to a barrel of oil to do much more damage to our economy. After all, oil did get to $150 at its peak, so we’re still well below that level.

What will convince me that we’ve topped here? First, I need to see some technical damage. Haven’t seen any of that lately. Next, I will need to see some big time selling that sticks; haven’t seen that either. I’ll need to see the fear meter rise dramatically, telling me that traders are actually concerned. Then, if we see the mood swing to the point that no one wants to be on the buy side ever again, I’ll know that the selling was for real.

Identifying an Overbought Market

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Sometimes a market gets ahead of itself, making it more difficult to pull the trigger on long positions. We’ve see this happening recently, where momentum is very strong, but the underlying technical indicators and oscillators are flashing warning signals. This can be quite frustrating to those individuals who sit by patiently while the market goes up every day.

If we examine today’s market, we can point to a few indicators that are telling us to be careful:

1-Too much optimism

When a market is full of traders who are overly optimistic, it is ripe for a correction. We see a number of indicators pointing to current optimism, including a VIX in the mid 16′s, a Rydex Bull Bear ratio in the .12 – .13 range and a lot of call buying. To put things in perspective, the VIX was at 9.39 at the end of 2006 prior to the market peaking. Then, towards the end of 2008, when the market was crashing, the VIX hit an all time high just below 90. So, you can see how much closer to the low the VIX is today than the high, certainly worth watching.

The Rydex Bull Bear ratio is an indicator my good friend and on-air associate Ed Handley likes to refer to. In simple terms, the higher the ratio, the more bullish, and the lower the ratio, the more bearish. In Ed’s words, when the Rydex BB ratio gets to .25, it’s time to “sell everything twice”. Since it’s trading at half that level, it could be more like “get the hell out!”

2-Overbought oscillators

We commonly look at the stochastics and relative strength indicators (RSI) on the major indexes to give us an idea of whether a market is overbought or oversold. As a rule of thumb, if you have stochastics over 80, you are in the overbought category. If you have a reading below 20, you are getting in oversold territory. On the RSI, a reading near or above 70 indicates overbought conditions where a reading near or below 30 indicates oversold conditions.

Lately, we’ve seen readings on all the major indexes near or above 90 on the stochastics and near or above 70 on the respective RSI’s. So, when combined with other important indicators, this is telling us that a pullback could be imminent.

3-The Bowley Trend

We have an indicator at Invested Central available to our members that is called the Bowley Trend. Its author is Tom Bowley, our chief market strategist, who has studied the history of the S&P, NASDAQ and Russell 2000, and has identified specific periods during the year that are decidedly bullish or bearish. Based upon the Bowley Trend, we are about to enter a bearish period on all three indexes.

For whatever reason, the market seems to have its head down now, meaning traders are ignoring bad news and focusing on good news, with a strong feeling that the economy is in recovery mode. Since investors always look down the road, they are apparently seeing positive developments. I’m not arguing that things aren’t improving out there, but based upon what I am seeing right now, I do believe we’re going to need some type of decent correction sometime soon and before we can make much more progress to the upside here.

Market Topping?

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Right now, the market is hot, with a great deal of optimism, even on the heels of President Obama’s State of the Union Address. Just about everyone feels there’s nowhere to go but up, and perhaps that might be true in the very near term. But, what signs are there that could also point to a near term top as well? Here are a few;

1-VIX

The Volatility Index (VIX) is a quick way to gauge fear, or lack thereof. In simplistic terms, the lower the VIX reading, the greater the optimism and lack of fear. On the flip side, the higher the VIX reading, the greater the pessimism and increase in fear. At Invested Central, we see this as a contrarian indicator; that is, the masses are often wrong.

Today, the VIX is sitting near 16.8. So, indicating very little fear in the trading community. This isn’t far off the low of 15.23 in April, 2010, just prior to a major market correction, where the S&P went from 1219 to 1065, or over 12.5%, in less than two weeks time. By the time the correction was over, the VIX had spiked to back over 40 – extreme pessimism – at which point the S&P rallied over 100 points.

I bring this example up, because we could be setting up for something similar right now.

2-Rydex Bull Bear Ratio

I host a radio show every day that focuses on the market. My on air partner, Ed Handley, of Fulcrum Securities, has an indicator he relies on called the Rydex Bull Bear Ratio. When the ratio is in the .30-.40 range, it’s fairly neutral. When it hits .25 or below, it’s a sell signal. The most recent reading? Try .13. This makes me nervous, because as Ed often says, when the Bull Bear Ratio hits .25, sell everything twice. So, at .13, it’s time to seriously consider moving to the sidelines.

Conclusion? We like when the reward to risk is on our side. So, when we see two key indicators working against us, it’s time to lay low and wait for better opportunities