Weekend Strategy Review August 18, 2019

Posted by OMS  at August 18th, 2019

The markets continued to rally from oversold conditions on Friday.  The Dow closed 307 points higher at 25,886 after reaching a high of 25,930.  The Dow was down 401 points for the week. My estimate for the corrective wave 2 high was above the 25,800+ level, so Friday’s action appeared right on track. The NASDAQ was up 129 points on Friday, but down 63 points for the week.

The market timing indicator on the Dow, NASDAQ, SPX, and Russel 2K remain on Sell Signals.

The Tide turned Neutral after Friday’s rally as the Hi-Lo indicator turned positive.  The Dean’s List remains Negative.

Friday’s rally appeared corrective, so it was likely wave ’c’ of Wave 2 up within Major Wave 1 down of a new Bear Market.  Because the Dow reached my target for Wave 2 up, I would expect Wave 3 within Major Wave 1 down to begin next week.  This is one of the reasons the Model bought a few additional shares of DXD on Friday.

BTW, my target for Major Wave 1 down, after all five waves are complete, is near or below the 24,700 level. 

The reason I MUST assume that Major Wave 1 down is underway is because after reaching a high of 27,399 on 16 July, the Dow started a five wave down sequence for Wave 1 down.  Seeing the five waves down after a potential top tells me the primary trend had shifted to the downside.  Then, after all five waves of Wave 1 down completed on the morning of 15 August at the 25,340 level, I had to start looking for a three wave retracement.  Part of this a-b-c retracement occurred late Thursday with the final ‘c’ wave hitting its target on Friday.  The entire retracement sequence appeared corrective (a-b-c) so I MUST assume it was Wave 2 up of Major Wave 1 down.  We’ll see…

The rally since early Thursday’s low was accomplished after an EXTREMELY oversold reading (-157.6) on the A-D Oscillator.  Anytime the A-D oscillator is this oversold, we MUST expect a rally. After Friday’s session the A-D oscillator showed a reading of -29.4, so it’s back in a more neutral territory which allows for the next leg of the decline to begin.

Here’s a few more thing to note about the A-D oscillator.  Since the beginning of the year, there has only been one day where the A-D oscillator has had a reading over -200.   That day was 5 August when the Dow dropped 767 points in wave 3 down of Wave 1 down.  I mention this so students can get a feeling for what can happen in a wave 3 decline.  Something else students should watch for is once a wave 3 down occurs in a crash wave, the A-D oscillator should begin to have consecutive days of readings below -200.  So, knowing that ….if the A-D oscillator starts to move below -200 early in the week, we MUST move to FULL ALERT, because the overall pattern suggests that Wave 3 down is about to begin.

Friday’s rally also caused IYT, the transportation ETF, to gain 3.85 points to 179.59.  Again, this was expected as Thursday’s decline to 174.53 was the first time the trannies tested its H&S neckline support at 175.  Students, especially those owning transportation stocks, should keep an eye on IYT this week.  It it starts to break below the 175 level, it will tend to confirm that Wave 3 down in equities has started.

Gold pulled back on Friday as equities rallied.  GLD dropped 0.92 cents to 142.78.  I would still like to buy ETFs that hold the metal a little lower.  However, with equities topping, the pullback in gold could be limited.  After watching Friday’s action, I wouldn’t be surprised if gold continues to rally…straight up toward the 1,600 -1,650 level before it takes a significant pause.  I continue to see the metal as the best bet on the Board.

The Sector Ratio remained at 5-19 Negative after yesterday’s session.  The Strong Sector List was led by Food Drugs, Telecoms, Insurance, Household Products, and Semiconductors.  BTW, seeing the Semis sill on the Strong List is the main reason the Model has not purchased any shares of QID, the inverse ETF for the NASAQ-100.

The Weak Sector List was led by Energy, Retail, Real Estate, Technology, and Autos.  Below these top-5 sectors are NINE other Weak Sectors with similar weak RS ratings. In other words, the Weak List is a lot weaker than the Ratio suggests. If stocks start down next week, the Weak List would likely have over 20 weak sectors which would be EXTREMELY negative. Pay attention to the Sector Ratio. A ratio of 5-19 means that despite Friday;s rally, 19 of the 24 Sectors in the S&P500 continue to move lower.

Model Portfolio:  The Model bought another 400 shares of DXD on Friday, bringing its position up to 1,200 shares.  The Model also owns 325 shares of UGL.  IF gold continues to pull back next week, the Model will look to re-establish a full position in UGL.

After yesterday’s session, the Model is up 28.8 percent which translates to an annualized gain of 71.1percent.

The Model Portfolio is being shown for educational purposed only.  The Buy/Sell actions in the Model Portfolio are made based on technical indicators that can and do change frequently and should NOT be considered as recommendations for trading an actual portfolio.  Any gain or loss in the Model Portfolio should not be used to predict future performance of the Model.

I wanted to discuss a potential strategy for the Model today, but I have several things I must do this morning, so that discussion will have to wait until tomorrow.  I get up very early on Sunday mornings (and weekdays too) so I can use the quiet time to think about things. With the market declining this week, my ‘quite time’ has mostly been focused on my senior subscribers. I’ll share some of those thoughts with you tomorrow when I discuss a strategy that could potentiality help them generate income.

During the week I received a phone call from an old friend I used to work with back in the 80s. We talked about a lot of things, including our retirements. One of the things he mentioned was how difficult it was to receive income on his savings. Back in the 80s when interest rates were 5, 6, or 7%, our retirement plan was to save $1 million and put it in the bank at 5% interest which would generate an income of about $50,000 a year. We would use this income to supplement our pensions. As we moved closer and closer to retirement this plan started to look a bit shaky as increased government spending and the massive debt it created caused interest rates to decrease, falling to four, then three, and finally to 2 percent or less where they are now. One of the things my friend mentioned was that because interest rates were so low, he was being forced to take more and more risk on his investments by buying high dividend paying stocks just so he could generate enough income to live.  He was worried that if the economy took a downturn, many of his stocks would decline causing not only a loss of principle, but a potential loss of income, as companies cut dividends as profits fell.

Toward the end of our conversation, we talked about some of the new things I was doing on the web site, including our new market timing indicators, the Sector Ratio, and the Model Portfolio.  He was curious about the Model when I told him how successful it has been since it was started earlier this year.

Anyhow, once I hung up the phone, I started to think about how the Model could help my friend reduce risk and generate the additional income he required.

As most of you know, the model portfolio has generated about $28,800 since its inception on 26 February 2019. In other words, it’s been averaging about $4,600+ a month.  So, let’s suppose….and all of what I’m about to say is theoretical…but let’s suppose my friend began selling his stocks and eventually got to the point where all but $100,000 of his million-dollar portfolio was invested in a money market fund at 3% interest. (BTW, most of my friends’ funds are in an IRA, where there wouldn’t be any tax consequences if he sold.) If he did this, he would receive about $27,000 a year in interest. This would satisfy his concern over his risky investments in the stock market. He could then take the remaining $100,000 and invest it in a portfolio of ETF’s based on the six market timing signals shown on the website for the Dow, NASDAQ, gold, bonds, the dollar, and crude oil. This would provide him with the diversification he wanted without taking on the extremely high risk of having $1 million invested in equities.

One of the things I find amazing about the Model Portfolio is that while it has generated a 28% return in less than six months, it has never been more than about 50% invested at any one time. Most of the time it has used less than half of its available cash. So, in effect, the model is on track to generate a 71.1percent annualized return based on an investment of about $50,000. That’s pretty conservative!

I began to think more about my friend’s situation and the fact that he is very conservative.  He can’t afford to lose his nest egg if the market tanks.  He would be willing to live on less income, but above all, he MUST protect most of his money.  So, with this consideration, let’s suppose that my friend took an approach where after he gained $3,000 on his theoretical $100,000 portfolio, he put a protective stop on the ETFs in the portfolio to protect the his first $3,000 gain. I chose $3,000 because this is the 3% that he would have gained in interest on the $100,000 if he just put the money in a CD.  But after that… after his initial $3,000 gain, assuming the Model continued to be successful, let’s suppose he started to withdraw $3,000 every month during the year. This would net him an additional $36,000 of income which if added to the $27,000 that he received from his interest income; his combined income would be about $56,000 a year which would be slightly above the 50,000 he planned for back in the 80s.

Now there is no guarantee that the markets or the Model will continue to perform the way they have since 26 February.  But even though six months is a relatively short time, the market has seen its share of ups and downs during that time.  It did not go straight up. While March and April were positive, May was not.  If a buy and hold investor bought in at the same time the Model was started in February, he would have been showing a loss by the end of May while the Model was showing a nice profit.  With the Dow trading at 26,055 on 26 February, that same buy and hold investor would still be losing money as the Dow closed at 25, 886 on Friday.  Hmmm?  This is one of the reasons the Model uses ETFs to trade both the long and short side of the market.  It doesn’t care which direction the market goes; it was constructed to make money in either direction.

Anyhow, the market timing signals appear to be working and sometimes I wonder if I should have included ETF’s for treasury bonds in the original Model Portfolio. If you looked at what has happened to bonds since the Model was started, you’ll know why I say this.  Back on 7 March, when Bonds (TMF) generated their first Buy Signal, TMF was trading at 19.17.  Now it’s at 33.08.  In the last month alone, since generating another Buy Signal, it’s gone from 24.98 to 34.79.  If Bonds were included in the Model at the outset, this 39 percent pop would have been a nice addition to the Model.

So not only would the addition of Bonds add to the performance of the portfolio, they would provide additional diversification which would also reduce the risk.

Anyhow, I wanted to share these thoughts with you this morning.  Yeah, it’s all based on theoretical performance, and past performance is never a guarantee of future results. But still, there’s a lot to think about with this approach, especially if the markets take a nosedive in the coming months. 

Like the referee says at the start of a boxing match…Protect yourself at all times!!  And strategies that reduce exposure to equities in a slowing economy, while still generating income are always something to consider.

The Model Portfolio is shown for educational purposed only.  The Buy/Sell actions in the Model Portfolio are made based on technical indicators that can and do change frequently and should NOT be considered as recommendations for trading an actual portfolio.  Any gain or loss in the Model Portfolio should not be used to predict future performance of the Model.

h

Market Signals for

08-19-2019

FAQ

Only getting the Professor’s Weekend Review? Try his daily update Cum Laude service for 2 weeks only $9.99 LEARN MORE

All of the commentary expressed in this site and any attachments are opinions of the author, subject to change, and provided for educational purposes only. Nothing in this commentary or any attachments should be considered as trading advice. Trading any financial instrument is RISKY and may result in loss of capital including loss of principal. Past performance is not indicative of future results. Always understand the RISK before you trade.