Lawrence G. McMillan: The S&P 500 is flashing signs that the bear market finally could be over

There should now be support at 4100 and at 4020 below that. The next major hurdle on the upside would be resistance at 4200 and the closing of the gap on the SPX chart at 4218 (from last August).

SPX is already approaching the +4σ “modified Bollinger Band.”  It touched that Band yesterday. If SPX closes above that Band, a McMillan Volatility Band (MVB) sell signal could set up, but that is not a guarantee. So, for now, there is no MVB sell signal setup in the works, but there could be one in the coming days and perhaps weeks.

Equity-only put-call ratios continue to fall from their heights of early January, when buy signals emanated from extremely oversold levels. Those buy signals are still in place (and there was one as well from the total put-call ratio). The ratios will continue to be bullish for stocks as long as they continue to decline. 

Market breadth has been one of our strongest internal indicators. It continues to be quite spectacular. As a result, both of our breadth oscillators are on buy signals and are deeply in overbought territory.

When SPX is breaking out on a new market leg upwards, it is desirable for these oscillators to be overbought, because it signifies that the rally is broad and expanding. These oscillators could withstand two and probably three days of negative breadth and still remain on the current buy signals. There was a “90% volume up day” on the NYSE on January 31, but otherwise there have not been any other 90% days.

The number of new 52-week highs on the NYSE continues to grow (they reached 177 on Feb. 1), and so this indicator remains bullish. This buy signal will be in force until new lows exceed new highs for two consecutive days. That seems highly unlikely to happen soon, since the number of new lows has consistently been in signal digits for a couple of weeks now. 

VIX
VIX,
+2.74%
continues to be in a downtrend (which is bullish for stocks), and the various indicators that we have that involve volatility are all generating bullish signals for the stock market right now. That downtrend in VIX would only be broken if VIX were to close above its 200-day moving average — which is unlikely to occur soon, since that moving average is at 25.50 and going sideways. The construct of volatility derivatives is positive as well, in that the term structure of the VIX futures slopes upward, as does the term structure of the CBOE Volatility Indices — for the most part. 

There are a couple of small flies in the ointment.  One is that the CBOE’s 9-day Volatility Index (VIX9D) is still trading above VIX, as traders are expecting a possible volatile reaction to next week’s CPI report. Also, VIX is at very low levels, nearing 17. In the long history of VIX, that’s not all that low, but in the last couple of years it is. When VIX gets “too low,” that is an overbought condition, which is not a problem unless VIX suddenly launches back into “spiking” mode.

The January seasonal bullish period has ended, and while it got off to a poor start, it has recovered to profitability. This is the end of seasonal trades for a while, as the ones we follow generally occur from October through January.

Overall, there is no reason to carry a “core” bearish position any longer, now that SPX has broken out to the upside. We might revise that stance later, but for now, we are trading the buy signals that have been generated by our various indicators.

New recommendation: Upside breakout trade

If SPX can maintain the breakout over 4100, we want to add a bullish position to our portfolio:

IF SPX closes above 4120 on any day,

THEN Buy 1 SPY Mar (17th) at-the-money call and Sell 1 SPY Mar (17th) call with a striking price 16 points higher.

Stop yourself out on a close below 4020 by SPX.

New recommendation: Qualtrics Int’l (XM)

Option  volume in Qualtrics International
XM,
-1.59%
increased substantially on Feb. 1 after 15% shareholder Silver Lake disclosed that it plans to bid for the company. According to analyst estimates the takeover price is rumored to be around $20. Stock volume patterns are very strong. There is support at 15.50. 

Buy 3 XM Mar (17th) 15 calls at a price of 2.50 or less.

XM: 16.76 Mar (17th) 15 calls: 2.250 bid, offered at 2.50

Follow-Up Action: 

All stops are mental closing stops unless otherwise noted.

We are using a “standard” rolling procedure for our SPY
SPY,
+1.44%
spreads: In any vertical bull or bear spread, if the underlying hits the short strike, then roll the entire spread. That would be roll up in the case of a call bull spread, or roll down in the case of a bear put spread. Stay in the same expiration, and keep the distance between the strikes the same unless otherwise instructed. 

Long 0 SPY Feb (17th) 375 puts and Short 0 SPY Feb (17th) 355 puts: This was our “core” bearish position. |It was stopped out on Feb. 1 when SPX closed above 4100. 

Long 2 PCAR Feb (17th) 97.20 puts: The put-call ratio has rolled over after a strong earnings report from PCAR
PCAR,
+0.22%.
The options are essentially worthless, so we will hold them to see if the stock can pull back some.

Long 1 CVX Feb (17th) 180 call: This stock underwent some violent stock price movement after declaring a new stock buyback program last week, and in doing so it received some severe criticism from the government. Sell the CVX
CVX,
-1.33%
calls now, since the put-call ratio has turned higher. 

Long 2 OSH Feb (17th) 30 calls: Continue to hold OSH
OSH,
-4.50%
without a stop as long as the takeover rumors are in place.

Long 1 SPY Feb (24th) 412 call and Short 1 SPY Feb (24th) 427 call:  This spread was bought when the breakout over 3940 by SPX was confirmed, at the close on January 12th. It was rolled up on Feb. 1, when SPY traded at 412.

Long 1 SPY Feb (17th) 404 call and Short 1 SPY Feb (17th) 419 call: This spread was bought in line with the “new highs vs. new lows” buy signals. It was rolled up on Jan. 26 when SPY traded at 404. Stop out of this position if new lows on the NYSE exceed new highs for two consecutive days.

Long 4 NATI Feb (17th) 55 calls: Hold NATI
NATI,
-1.17%
without a stop initially, to see if a bidding war develops.

Long 2 SPY Feb (10th) 406 calls and Short 2 SPY Feb (10th) 420 calls: This spread was bought in line with the bullish January seasonal trade. There was no 421 strike so we used 420 instead. The seasonally bullish period expires today (Thursday, Feb. 2), so exit your position at the end of trading today.

We did not buy the USO calls, since USO
USO,
-1.14%
never closed above 72. We are canceling that recommendation now.

Send questions to: lmcmillan@optionstrategist.com.

Lawrence G. McMillan is president of McMillan Analysis, a registered investment and commodity trading advisor. McMillan may hold positions in securities recommended in this report, both personally and in client accounts. He is an experienced trader and money manager and is the author of the best-selling book, Options as a Strategic Investment. www.optionstrategist.com

Disclaimer: ©McMillan Analysis Corporation is registered with the SEC as an investment advisor and with the CFTC as a commodity trading advisor. The information in this newsletter has been carefully compiled from sources believed to be reliable, but accuracy and completeness are not guaranteed. The officers or directors of McMillan Analysis Corporation, or accounts managed by such persons may have positions in the securities recommended in the advisory.