Sunday, June 5, 2016

Get ready for a market of maximum frustration

Preface: Explaining our market timing models
We maintain several market timing models, each with differing time horizons. The "Ultimate Market Timing Model" is a long-term market timing model based on research outlined in our post Building the ultimate market timing model. This model tends to generate only a handful of signals each decade.

The Trend Model is an asset allocation model which applies trend following principles based on the inputs of global stock and commodity price. This model has a shorter time horizon and tends to turn over about 4-6 times a year. In essence, it seeks to answer the question, "Is the trend in the global economy expansion (bullish) or contraction (bearish)?"

My inner trader uses the trading component of the Trend Model to look for changes in direction of the main Trend Model signal. A bullish Trend Model signal that gets less bullish is a trading "sell" signal. Conversely, a bearish Trend Model signal that gets less bullish is a trading "buy" signal. The history of actual out-of-sample (not backtested) signals of the trading model are shown by the arrows in the chart below. Past trading of the trading model has shown turnover rates of about 200% per month.

The latest signals of each model are as follows:
  • Ultimate market timing model: Buy equities*
  • Trend Model signal: Neutral*
  • Trading model: Bullish*
The performance chart and model readings have been delayed by a week out of respect to our paying subscribers.

Update schedule: I generally update model readings on my site on weekends and tweet any changes during the week at @humblestudent. Subscribers will also receive email notices of any changes in my trading portfolio.

A June swoon before SPX 2400?
Well, that Jobs Report certainly changed the tone of the market! The massive disappointment of Friday's Employment Report, combined with other weak macro data such as ISM services, is setting up for a choppy market of maximum frustration. I am seeing cross-currents that could be treacherous for both bulls and bears. Here is my market outlook for differing horizons:
  • Medium term (6-12 month time horizon) bullish: The disappointing Employment Report gave the FOMC doves to stay cautious and push out its schedule of interest rate normalization. When combined with a picture of a steadily growing US economy, it gives room for the SPX to reach the 2400-2500 area late this year before the market tops out for this cycle (see my previous posts How the SP 500 could get to 2400 this year and The roadmap to a market top).
  • Short term (1-2 months) bearish: On the other hand, the massive Non-Farm Payroll (NFP) miss, along with weakness in forward EPS, is setting up for a growth scare that is likely to spook the markets.
  • Trading (1 day to 1 week) bullish: The inability for equity prices to fall in the face of bad news suggests that the bears are exhausted. It therefore sets up the market for a rip-your-face-off rally should there be any sign of positive news.
The stage is set, pick your poison. Be careful - even a slight timing mistake could turn a trading profit into a loss.

The full post can be found at our new site here.

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