SPX and BKX Updates: Rare Top Indicator Triggered on Friday

Before I get to the indicators and market charts, I want to do a quick update about domestic mutual fund flows, with some new data that has come to my attention.

Last week, we discussed the high number of mutual fund outflows which have been ongoing for several months.  Let's take a look at the updated mutual fund flow chart, courtesy of Lee Adler at the Wall Street Examiner, and then the new data I want to discuss.  Here are Lee's comments regarding the chart which follows:

Domestic equity mutual funds had $0.7 billion of net inflows in the week ended 1/1/12, up from $7.1 billion in net outflows the week before, which was the highest level of weekly outflows since August.  This was the first week of inflows since last April, which was nearly coincident with the top of the market at that time.  Total outflows for November were $14.3 billion and for December are estimated at $18.2 billion based on the weekly data. The projection for January based on the first two weeks is for outflows of $13-14 billion. That would continue a bearish signal on the chart.  A continuation of heavy outflows could eventually take a toll on stock prices.

Some analysts are taking the large outflows as a sign that the public is bearish.  I have a different theory, and feel that the recent outflows have little to do with sentiment.  Before I outline my theory, let's first look at some facts:

1)  The personal savings rate in the U.S. has fallen to its lowest level since December 2007 (the early stages of the last bear).

2)  Loans taken against individual retirement savings accounts rose 20% in 2011.

3)  According to Aon Hewitt, nearly one-third of all people with retirement savings accounts have outstanding loans against those accounts.

These facts underpin why I don't think the huge mutual outflows are primarily due to a bearish public, although certainly some are.  Based on the above statistics, it seems to me that a good chunk of these outflows are happening because people actually need the money.  Certainly, demographics are at play as well, since the over-sized baby-boomer generation is gradually retiring and turning from net savers to net spenders; but that's akin to "needing the money."  In any case, I think to just write off the outflows as being symptomatic of a "bearish public" ignores the supporting facts.  The public outflows appear to be a sign that the economy is still quite sick.

That said, we still have the ongoing flood of cash fleeing Europe to give the bulls more firepower.  I'm not going to re-hash this point, as it was already covered in last Wednesday's update, but Europe remains the X-factor in this market, and could be the reason that numerous top signal indicators have failed. 

Speaking of, there was another topping signal triggered late last week.  This is a pretty rare signal, which has only occurred three times in the prior 4 years.  The signal triggers when VIX:TNX closes outside its lower Bollinger band concurrent with a major index closing outside its upper band.  It's a sign the market has become quite overbought and over-confident (complacent).  Compare the current market position with the last two times this signal triggered on the chart below.  The S&P 500 is shown in the top panel.

 
Can Europe blow-up this indicator too?  We'll find out soon enough, I suppose.

The next chart is another top indicator, which has fallen just shy of where I like to place the signal line.  However, last week it reached levels which also frequently coincide with tops.  The indicator compares the volume on the Nasdaq as a ratio of volume to the New York Stock Exchange.  When the ratio meets or exceeds 2.6, it indicates excessive speculation in the "riskier" Nasdaq stocks, complacency, and "rally chasing" by investors.  The ratio recently fell just shy of the 2.6 level, which still indicates a high degree of optimism and complacency.

Again, I ask:  Can Europe blow-up this indicator too?  

In case they do, I have spent some time looking for alternate long-term counts.  Elliotticians seem to be mainly divided down the middle as to what's happening next for the market: some are expecting a top soon, as I am -- others are expecting a massive nose-bleed rally to new all-time highs.  I don't view that as likely, but I suppose if the flood of money from Europe intensifies, it might become conceivable. However, I wanted to see if there was something in-between these two extremes which might be viable, and I think there is.

Now, keep in mind that this chart below is my alternate count, not my preferred view of the long-term -- largely because I continue to believe that the wave off the 2011 highs is an impulse wave, which means new lows are still needed.  However, depending on what happens over the next week or two, the market may give new input that requires me to shift my viewpoint.

This chart also adds another, slightly humorous, top indicator (or bottom indicator, for that matter) to the dozen other ones: 8 out of 10 times when I start giving serious consideration to an count that is markedly more bullish or bearish than my preferred big picture count, a reversal is very nearby.  A little more anecdotal than objective, but maybe publishing this chart will finally trigger the reversal. 

The next chart is the short term SPX wave count.  I can see two likely possibilities in this chart, and I'm pretty torn as to which I'm favoring.  The first is the same count that was shown on Friday, which suggests this wave up still wants to head a little higher, into the 1320's. 

The second (black alternate) has some appealing characteristics, however.  Readers will recall that I previously believed the rally to be part of an ending diagonal;  this black count explains the a-b-c appearance of the rally as being part of a leading diagonal first wave.  This would account for the overall form of the structure, and the fact that the rally has continued despite its presumed completion.

The last chart is the Philadelphia Banking Index (BKX), which also shows a wave structure that appears to be nearing completion. 

In conclusion, there are many indicators, both common and esoteric, which are suggesting that the rally is massively overbought and due for a correction at the minimum -- or a serious decline if my long-term view is correct.  The caveat, of course, is that past performance is never a guarantee of future results, and maybe the goings-on in Europe are temporarily distorting the accuracy of these indicators and wave structures.  Is this time really different after all?  We simply have no way of knowing, so I have to continue to give the benefit of the doubt to the odds... and the odds still favor a top very soon.  Trade safe.

The original article, and many more, can be found at http://PretzelCharts.blogspot.com