After a sensational start to 2019, the markets have paused. Dig just a bit, and you’ll see that market internals have weakened considerably with directional evidence piling up. Let’s take a look at what this meant in January – and what it means today.
What market internals told us in January
The last time we saw signs pointing to a change in direction was in early January. In that case, several indicators turned from bear to bull, literally overnight. First, breadth improved (and it was so strong on a couple of occasion, you could not miss it). Then put/call ratios fell sharply, the VIX started to crumble, volume levels rose on up sessions and momentum indicators were ignited.
In fact, that strong breadth brought out the late Marty Zweig’s “breadth thrust indicator”, which we rarely see. (It appears when breadth moves from a very deep oversold level to a very high overbought level within ten days.) This indicator shows that big money players are swarming into the game. The bulls followed suit, because history has proven that the breadth thrust indicator guides traders to making money with higher prices.
But it wasn’t only the breadth that unleashed the bulls. The VIX collapsed from 36% (a level it had reached only four times since 2010) to the low teens. That swift change was mind-blowing! How does a market that generated so much fear suddenly regain confidence? That’s a rhetorical question, because I don’t think anyone knows the answer.
Another indicator, new highs/new lows, predicted the market decline that started in October and ended in December. It turned sharply lower in late September and did not bottom out until Christmas Eve. Since then, new highs have crushed new lows.
What market internals are telling us now
So, as we start the second quarter of 2019, I want you to keep a few things in mind. A small pause in the action is normal and does not indicate armageddon. Markets have risen sharply during the first three months of the year. When this has happened in the past, markets have continued a strong run for the remainder of the year.
Further, as the internals improve after this pause, we could see the indices make a run at all-time highs. With earnings season set to begin soon, it’s game on!