Market direction is not as easy to predict as many analysts would have investors believe. If it was, everyone would have benefited enormously from the bear market collapse of 2008. I remember in early 2008 that many analysts and market timers were announcing that the bear market was over and market direction was up. Not only did they get that wrong, but the bear market was actually only starting to show its teeth. This was not quite my outlook in the summer of 2008. My market timing technical tools pointed out many times that the market direction was definitely lower. I was careful when selling puts during the bear market, not so much because I was worried about stocks being assigned, but because I knew that as volatility spiked higher, option premiums, particularly put premiums would move higher as market direction kept plunging and I wanted to keep as much cash as possible available if that should happen.
Market Direction and Volatility In Bear Markets
I never expected the market direction would be so severe but it is important to remember that in fierce bear markets, stocks are torn apart and many lose 50% or more of their value. But when market direction starts falling, volatility climbs and it is then that I get excited about the opportunities that are ahead. As market direction continues lower and volatility moves higher, some put premiums simply go through the roof. This is for a few reasons including the market makers themselves. They are worried that the market direction is not going to level off but instead fall even lower and they are not as concerned about put sellers as they are about put buyers.
When the market direction heads down and stocks begin to implode market makers will push put premiums to ridiculous levels to protect themselves from large losses. For example Microsoft stock in 2008 was trading for much of the year between $26 and $29 dollars, but by May I could see the gradual erosion of Microsoft stock. Every few days put premiums kept rising. On July 2 the market direction turned nasty and Microsoft Stock opened at $26.90 and fell to close at $25.88. That was a move of 3.8% in one day which for Microsoft Stock was fairly uncommon. The Put Option premium for the July $23.00 put went from .50 cents in the morning to $1.90 by the close of the day. Yet $23.00 was 11% lower. Buying protection for stock holders is incredibly expensive in bear markets but it offers terrific income opportunities for put selling.
I sold the Microsoft stock $23.00 put option for $1.75 to earn this incredible put premium and because both the Ultimate Oscillator and the Fast Stochastic showed a bounce was at hand. The Fast Stochastic was at an incredible 0.03 which marked a low I rarely see except in panics. Sure enough the market did bounce but volatility was only getting going and was to get a lot worse in the fall as the market literally fell apart after Lehman Brothers collapsed. You can see my Microsoft Stock chart from that day below.
Events Impact Market Direction
I mention this info about Microsoft Stock to show that it can often be a single event that will alter the market direction course. Just as the collapse of Lehman Brothers pushed market direction lower, good news can push market direction higher. Apple stock after hours announced their earnings for the past quarter and they were spectacular. Apple stock itself has fallen about 13% as of today’s close and on Monday and today it broke the 50 day moving average, which technically is not usually a good sign. Instead it is often a sign that the uptrend is over in a stock. But in after hours trading this evening, once the earnings were released the stock moved up 6%. In recent days many analysts have discussed that Apple stock is over-valued and point to the recent weakness in the stock as a sign of the overall market direction as moving lower. Basically they believe Apple Stock is acting as a market direction indicator and will lead the stock markets lower.
But as of today’s close, Apple Stock was extremely oversold and already due for a bounce. You can see this in the Apple Stock chart below. The earnings news should provide the bounce needed and I would expect much of the market may follow the market direction higher. It’s only a gut instinct at this time, as my market timing technical indicators are still unsure of market direction. This is probably because my market timing indicators are based on today’s close and cannot take into account the Apple Stock earnings.
Personally I do not believe that Apple Stock is a market direction indicator. Instead I think the NASDAQ itself is the market direction indicator and as such if the NASDAQ can move back up, the overall stock markets may follow the move higher.
Market Timing Technical / Market Direction Indicator
Below is today’s market timing technical tools which I use every day for market direction indicator predictions.To read the market timing technical indicators an investor simply compares them against the previous few days. I have marked the changes on the chart below. It is still a mixed picture, but this may change after tomorrow’s market close. Right now the readings show Momentum and Fast Stochastic as rising which is natural since they would be among the first to reflect today’s move higher in the S&P. MACD is still negative but the MACD Histogram is still rising which could signal market direction is moving back up.
However the ultimate oscillator is falling lower which is being confirmed by the slow stochastic which again is correct as the slow stochastic should support the ultimate oscillator readings in either direction. The rate of change is only marginally lower and as such is more flat than lower. This leaves us with a mixed outlook which is not unusual at all.
The important aspect of the market timing indicators today with their mixed report is that they are not showing market direction as lower. Much of the day I surmise the stock market was in a neutral mood waiting for Apple Stock earnings results which would explain the mixed outlook.
Market Direction Summary
With the market timing technicals presenting their mixed outlook on market direction, I believe this is not bad. If anything it shows there is still strength in the market. Remembering yesterday’s market timing column in which I pointed out that despite all the doom and gloom in the media the S&P 500 is actually not down by very much, I think I will be following my instincts tomorrow as I do believe the market can move higher from here. That move up could last more than a few days if there is no further bad news or certainly nothing further out of Europe.