October is poised to be a negative month for stocks, which would mean a three-month losing streak for the S&P 500—the first time since early 2016. Before that, you would have to go back to May-September 2011, the time of the S&P credit downgrade of the U.S. economy, and then back to the 2007-08 financial crisis, to see such a period. Although $SPX is set to close lower by about 1.6% since the end of July, the broad market index is still only about 2.2% off its all-time high.
Rough Seas Ahead?
Figure 1 shows a daily Market Forecast chart for the S&P 500. Notice that Market Sentiment (orange) continued lower through October and has been trending down for two months now. How do stocks perform in a falling Market Sentiment environment? One way to think of Market Sentiment’s direction is that it provides stocks their path of least resistance. Currently, that path looks to be leading lower. Looking at the S&P 500 over the past two months, we have seen 22 down days and 18 up days. By comparison, when Market Sentiment rallied between July and mid-August, there were 18 up days and only 12 down days. Also note the intermediate posture was strongly bullish (above the 80th percentile) during the summer months but has produced multiple bearish postures intertwined with only weak bullish postures in September and October.
Mixed Sightings—or a Bullish Signal?
The Market Forecast indicator on the monthly chart for $SPX (see figure 2) is showing a positive development heading into November. As you can see in the daily chart above, the losses over the past two months have been minimal compared to the last extended bearish Market Sentiment run earlier in the year. The monthly chart below shows a bearish momentum line (below the 20th percentile). There have been a number of times over the past few years where the short-term line (red) dipped to oversold levels, and led to bullish bounces in the index.
With the election just around the corner, and with stocks threatening support levels, investors may be reluctant to be too bullish. But the oversold momentum line combined with the strong intermediate trend (green) is a bullish intermediate confirmation signal, which could lead to higher stocks by the end of the month.
Keep in mind, Market Sentiment on the monthly chart sits at elevated levels—similar to the summer/fall of 2007. This context would suggest any upside to stocks by the end of the year may be more limited than the usual post-Market-Sentiment-low bounce you see on daily charts.
Stocks have been stuck in a sideways range since June, the time of the Brexit vote and its aftermath. Investors then waited for the Fed’s rate hike decision in September, priced in an expected hike in December, and now we sit in anticipation of national election results in early November. The sideways range has a slight bearish bias that produced a long-term bullish trade signal. This pattern reflects the potential for stocks to break out to the upside during the last two months of the year, but such a breakout may be muted compared to previous long-term bullish runs.
Want More Market Forecast?
Market Forecast is a proprietary tool on the thinkorswim® platform. Learn more about this tool with David Settle's instructional videos using the paperMoney® platform on YouTube.