Edition #221
Extremely Rare Stock Market Signal
Investors,
Continuing with the trend of 2022, asset markets are keeping investors on their toes and making extreme moves in both directions. At this point, we should be conditioned to expect the unexpected, particularly in an environment with increasingly dominant & looming risks.
Unfortunately, “risk” is one of the most misunderstood concepts in finance, often simplified and reduced to represent market downside. Instead, we should interpret risk as a two-sided coin — one that merely represents the likelihood of an outcome that we don’t expect. In this framework, we can extrapolate to paths of risk:
One that leads to more upside than we expect.
One that leads to more downside than we expect.
This simple but important distinction drastically improved my understanding of market dynamics and ability to manage capital.
At the present moment, I’m seeing an extremely elevated level of risk in the market. Risk assets, currently being led higher by the Dow Jones, could continue to ascend higher. On the other hand, this historic rally for the Dow Jones could have limited upside from here and therefore be unable to sustain upward momentum.
Looking at the Dow Jones, we can see that the index is trading at critically important price structure:
Historically, the index has used the 200-day moving average cloud as both dynamic support & resistance. The index closed slightly above this level on Friday, eerily similar to the “breakouts” that the market experienced in January, March, April, and August. Each of those occurrences failed to sustain further upside & produced new YTD lows.
The index is also closed at a proven resistance range, illustrated by the parallel channel. Each of these retests since the all-time high on 1/4/22 has rejected price lower, eventually retesting the lower-bound of the channel.
Could the index achieve a breakout this time? Yes. Could it get rejected here once again, based on the confluence of these two market signals? Yes.
The analysis in this edition of Cubic Analytics will be dedicated to exploring both avenues, in order to help you come to your own conclusions. In my weekly research, I identified a market signal for the Dow Jones Industrial Average that has only flashed eight times since 1988. The eighth signal just flashed this past week, indicating that forward-looking returns could be extremely volatile in the coming week and months. In the analysis below, I will share the signal & discuss the forward-looking market implications.
From a broader market perspective, this is arguably one of the most important studies that I’ve ever shared. I will also discuss underlying metrics for the S&P 500 and the market data that made me think most critically this past week.