Traders, Beware of the Madness of Crowds

08/02/2017 2:59 am EST

Focus: STRATEGIES

Jeff Greenblatt

Director, Lucas Wave International, LLC

The stock market is in a slow deterioration. Be very careful, complacency is off the charts but it doesn’t mean you should follow the madness of this crowd, asserts Jeff Greenblatt, director of Lucas Wave International and editor of The Fibonacci Forecaster.


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One of the most famous books on crowd psychology is “Extraordinary Popular Delusions and the Madness of Crowds.” The original was written by Scottish journalist Charles Mackay in 1841, but later editions included references to the railway mania of the 1840s. People are always looking for modern references. Last week the market threw us a softball.

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Last Tuesday Merck & Co. (MRK) was hammered when its cancer drug Keytruda could not pass a Phase III trial because the drug did not extend survival rates of patients with neck and head cancer. According to Reuters, Merck won accelerated approval last year on the condition it would conduct this late stage test to see the drug’s ability to shrink tumors. Although it did not extend survival rates, Merck says the approval still stands.

The whole sector including biotech got hit. Fair enough. After all, millions are spent annually to find that elusive cure. I had never heard of the drug but as luck would have it, I saw a commercial for it the very next day. You know those drug commercials; the side effects are more dangerous than the original ailment.

A couple of days later MRK had a very favorable earnings report as the company reported a 61.5 percent rise in quarterly profit partially due to demand surging for the now popular cancer drug Keytruda.

You read that correctly. The drug does not do what it was designed to do, yet hospitals and cancer clinics are buying like it’s going out of style. They fooled traders and investors initially but they woke up.

On Thursday, the stock gapped up which was strange, given drug stocks don’t usually react this way the same week one of their potential star products gets hit. But it left a massive high wave candle (big tails, very small real body) which implies lack of conviction.

The stock has not advanced since and has been red the past three days. One wouldn’t think as much of all this if the CBOE Volatility Index (VIX) didn’t break below the 9 handle. Clearly, we are dealing with historic complacency.

In other key news, important heavily weighted tech stocks got hit. It’s possible the high is in for this cycle.

Amazon (AMZN) got hit but it was Facebook (FB) that got my attention. FB peaked at 175.49 at 175 days from its post-election low on November 14. Gann would like that. The stock rebounded the next day but since then there has been follow through to the downside.

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Another potential sinkhole for the market is the Dow Jones Transportation Average (DJTA) which got hammered on Thursday and has come all the way down to the 200-day moving average. Recall that on July 4 the market had a Dow Theory confirmation as the Dow Transport Index and Dow Jones Industrial Average (DJI) both hit new highs, giving a buy signal. Now they are sending us a non-confirmation as one of them is wrong. For much of Wednesday, the Dow was marginally higher while the NASDAQ and S&P 500 Index (SPX) were marginally lower and the Russell 2000 Index (RUT) was down about 1%.

It feels like we’ve seen this script earlier in the year.

Transports were down from early March until the middle of May where it defended the 200dma. That important marker is being tested again. How many times will it be able to go to well? If history is any guide, not many more.

The DJTA made a marginal new high and every time the 200 is hit, it’s like a jackhammer weakening it for an ultimate breakdown.

The stock market once again is in a slow deterioration. This time we’ve learned health care is not happening anytime soon and pundits are whispering tax reform might not happen until 2018.

David Stockman is a prophet. Be very careful, complacency is off the charts but it doesn’t mean you should follow the madness of this crowd.

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