The Bulls Remain in Charge

09/08/2009 12:00 pm EST

Focus: MARKETS

Lawrence McMillan

Founder and President, McMillan Analysis Corporation

Lawrence McMillan, editor of the Option Strategist, says bullish signals are still strong, but he’s watching a couple of indicators closely for signs of a change.

The Standard & Poor’s 500 index ($SPX) [recently] has broken out to new highs once again. Overall, the intermediate-term indicators are bullish, with the possible—and important—exception of the equity-only put-call ratios.

Short term, there is support at 1010 and at 980 below there. (The S&P closed at 1016.4 Friday—Editor.) Anyone who is long can remain fully invested as long as that 980 level is not penetrated. Even if it were, that would not turn the $SPX chart bearish. There is an up trend line connecting the March and June lows, and that is the demarcation line for bull/bear arguments. As long as $SPX remains above there, the bulls are still in charge. That line is currently near $SPX 960.

Market breadth has been positive—extremely so. Thus, our breadth oscillators are deeply overbought once again. This is bullish for the intermediate term, because it signifies that the rally is broad. However, when stocks are this overbought, sharp but short-lived corrections are possible at any time. The last correction—on August 14th and 17th—was a brief affair, with $SPX only falling about 30 points. However, that was good enough to lessen the breadth overbought conditions at that time, as declines heavily outpaced advances. Since then, however, advances have clawed their way back to dominance.

Volatility indices ($VIX and $VXO) remain subdued, and thus they are still in down trends. That is bullish for the stock market. For $VIX to turn bearish, it would have to break out above 28 and hold there. (It closed above 25 Friday—Editor.) So far, since the March stock market bottom, $VIX has penetrated various down trend lines with brief rallies, but not of them have held.

The $VIX futures continue to trade with a large premium. We have become convinced that this is due to hedging activity and not speculative or direction activity. Thus, it has little predictive value. The term structure of the $VIX futures remains sloped steeply upward. This [reflects] an overbought condition in an ongoing bullish trend.

The equity-only put-call ratios are beginning to waver. If they roll over to sell signals, that would be significant for these can beleading indicators. While neither ratio has curled upward obviously, the computer program that we use to analyze these charts has already declared the weighted ratio to be on a sell signal, and is about to do so for the standard ratio as well.

In the short term, as long as $SPX holds above 1010, the bulls are in charge. However, if $SPX slips below there—and certainly if it slips below 980—and the equity-only put-call ratios have turned to sell signals by that time, then a bearish stance would be warranted.

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