Day Hagan Research Update




What the numbers say: A review of Sentiment, Trend and Breadth indicators.


Neil Leeson


March 31, 2017


If you have been watching the U.S. sector and industry shifts each day, you've probably noticed that investors are rapidly rotating between risk-on and risk-off assets. Our view is that most of the recent market action can be attributed to market sentiment towards political and monetary "noise." Therefore, it remains important to focus on what "is happening" and not "what should be happening." In doing so we are reiterating that for an objective view, our focus remains on sentiment indicators, closely followed by trend and breadth measures.

A quick look at sentiment suggests that, currently, investors are far less pessimistic today than they were just a few days ago. As shown below, the short-term NDR sentiment composite, much like CNN's Fear and Greed indicator, hit a new cycle low on 3/27/2017, suggesting (at least in the short term) that investors had become extremely pessimistic/fearful. A reversal from this low, back into the neutral zone, would be viewed as an indication of short-term bullishness.

But to be clear, this is not an indication that all is well with sentiment. If we look at longer-term measures of sentiment (next chart), you'll find that investors are still extremely optimistic, albeit not as euphoric as they were a few weeks ago. This longer-term sentiment measure suggests that we could experience more downside in the weeks and months to come, before overly optimistic measures reverse from extremes. This indicator may never get to extremely pessimistic levels, often associated with cyclical bear market lows, but until we see this indicator stabilize and move higher, at whatever level, we remain cautious bulls.

Breadth measures also suggest that caution is warranted. Typically in extended market moves, we experience multiple "breadth thrusts" (moves where the vast majority of stocks spike higher together) as the broad market appreciates. As shown below, we have not had a significant thrust since March of 2016 (table on chart). A new thrust signal on this measure would signal broader participation and a healthier market.

A shorter-term breadth thrust indicator that we monitor is based on the percentage of domestic stocks trading above their respective 10-day moving averages (next chart). As shown in the table, we have not had a breadth thrust reading of 90% since February of last year. And just like the longer-term NYSE breadth measure shown above, we would typically see multiple thrusts to confirm a healthy and expanding bull market. This would seem to indicate more of a churning market.

From a trend perspective, short-term trend measures have improved over the past few days. However, longer-term measures of price strength have actually worsened. As shown below, NDR's Big Mo Tape Composite (a measure of the broadness of the strength in domestic industry groups) has traded in the neutral zone since early last year. And as shown in the lower left portion in the chart, this measure has been "FALLING" over the past six weeks.

While the domestic markets lack the sentiment, breadth, and trend confirmation to be overly bullish, we have focused and increased our allocation to international market ETFs for Asia, Europe, and Emerging Markets.

One area we continue to favor is Europe. Below is the NDR trend model and chart for VGK, the Vanguard FTSE Europe ETF. Unlike other Euro-based funds, this ETF does have a substantial allocation to the U.K. (28.4%), a relative outperformer in the region. This developed European market fund also has broad allocations across multiple sectors and industries, providing favorable diversification. As shown on the charts, the fund's advance/decline measure of underlying stock breadth has been 1) in an uptrend (above 105-day moving average) since December of 2017, 2) relative strength versus the ACWI index has turned positive, 3) net 30-day highs over lows remains positive, and 4) the aggregate trend model (based on multiple trend-specific indicators) moved back into the historically bullish zone earlier this month.

Compare this with the more cautionary indicators on the chart of IWB, the iShares Russell 1000 ETF (domestic large-cap fund). As shown, 1) relative strength versus the ACWI has turned down for this fund, 2) the A/D line has flattened and moved below its shorter-term moving average, 3) net new highs over new lows have also been flat, and over the past few weeks we have seen several new 30-day lows made in Russell 1000 stocks, and 4) the model for this fund does remain positive, but has deteriorated over the past few weeks.

In sum, domestic sentiment, breadth and trend measures remain neutral at best. We would really like to see some type of breadth thrust to support our longer-term bullish outlook on domestic equities. Absent of a breadth move, we will remain cautious on domestic equities. However, we are becoming more constructive on international markets that have solid breadth and trend metrics coupled with favorable valuation metrics.

Have a wonderful week,

Neil Leeson
Day Hagan Investment Committee Consultant
Day Hagan Asset Management

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