This trader's 'core' bullish position washes out as major S&P 500 supports break down

By Lawrence G. McMillan

McMillan: Investment picture has changed and investors need to adjust their view now

We are exiting most of our bullish positions.

The U.S. stock market, as measured by the S&P 500 Index SPX, has broken down below support at 5,050. That changes the investment picture to a large extent.

The 5,050-5,180 area had been a strong base for the launch to new all-time highs in late March. So, the fact that the market has not been able to stem the tide of the selling that began with the CPI number two weeks ago and has continued with geopolitical worries is significant. Once that 5,050 area was broken, some fairly heavy technical selling came in. The S&P 500 has now closed below 5,050 for two consecutive days (April 18 being the second day), and this officially eliminates our "core" bullish position.

There is resistance at 5,150 and at the all-time highs near 5,260. The next support level could be the filling of the gap on the S&P 500 chart at 4,980. Then 4,800 is a major support level, dating back to the 2022 highs more than two years ago.

The S&P 500 closed below its -4<SIGMA> "modified Bollinger Band" (mBB) on Thursday. That is the first step toward perhaps setting up a McMillan Volatility Band (MVB) buy signal, although it is not at all a guarantee that one will occur. The first step would be a "classic" mBB buy signal, which will occur when SPX closes above the -3<SIGMA> Band. But there needs to be further upside improvement after that in order to generate the full-fledged MVB buy signal. We will update the conditions in each week's report, as these can sometimes take a while to set up.

A number of indicators are generating new sell signals, and the market is already oversold in certain ways, so some short-term buy signals are possible too. Let's review the indicators.

The equity-only put-call ratios are still moving higher at a fast pace. Thus, they remain on sell signals (for the stock market) and will continue to do so until they roll over and begin to decline. It took a while for them to begin to accelerate to the upside (they had been more or less drifting sideways at very lows levels on their charts). But once they did, the selling in the stock market became much heavier. These tend to be intermediate-term in length - lasting several months, especially when they emanate from such low levels on their charts. As one can see from the accompanying charts, there is plenty of room for them to move higher now.

'Oversold does not mean buy.'

Market breadth has been very negative, especially over this week. So the breadth oscillators remain on sell signals. They are also in deeply oversold territory. But "oversold does not mean buy." Even two or three days of positive breadth might not be enough to generate buy signals from these oscillators. We follow two breadth oscillators, one using NYSE advance-decline data and the other using "stocks only" data (i.e., all optionable stocks - more than 6,500 now). These two oscillators have widened (NYSE is stronger than "stocks only") to the point where it is an oversold condition of its own. When these two oscillators converge, a short-term buy signal (approximately one week in duration) will occur, but that convergence has not yet taken place.

New highs on the NYSE have finally succumbed to new lows for two consecutive days so this indicator - which has been almost continuously bullish since last November - has been stopped. This is not a sell signal, though. New lows would have to number more than 100 for two consecutive days in order to generate a sell signal. Thus, this indicator is in a neutral status.

VIX VIX has risen during the recent stock-market selloff, although it seems to be doing so only grudgingly. But eventually it rose enough to 1) generate a trend of VIX sell signal, and 2) go into "spiking" mode. The trend of VIX sell signal was generated at the close of trading on April 16, when both the 20-day moving average (MA) of VIX crossed over the 200-day MA. Thus, with both VIX and the 20-day MA of VIX above the 200-day MA, that is a trend of VIX sell signal. These can be of intermediate-term duration. This signal will remain in effect unless VIX closes back below the 200-day MA, which is now around 14.85.

The other significant development is that VIX entered a "spiking" mode - an increase of at least 3.0 points over any three-day or shorter period, using closing prices. The stock market can decline sharply while VIX is spiking, but eventually a "spike peak" buy signal will take place. That would set up conflicting VIX signals, but this has happened before, and we typically trade both signals.

The construct of volatility derivatives has come under pressure as well, although it is still clinging to a somewhat positive bias toward the stock market. First, it should be noted that the April VIX futures expired, and May is now the front month. So, we are concerned with the price of May vs. June: As long as May remains below June, that is bullish for stocks. June traded about 0.30 over May as of April 17. The term structures of the VIX futures and of the Cboe Volatility Indices continue to slope upwards too, so that is also a positive factor for stocks. There were some minor oversold conditions, such as the nine-day VIX (VIX9D) rising above VIX, but the major oversold conditions that would set up short-term buy signals (such as VIX rising above the three-month VIX, VIX3M) have not occurred.

In summary, we are exiting most of our bullish positions after a long and profitable run upward on most of them. Last week, we took bearish signals from breadth and the equity-only put-call ratios, and we will trade new signals as they occur - bullish or bearish - going forward.

New recommendations: Recap

For the past few weeks, we have made some conditional recommendations that have not all been filled. The remaining one is a longer-term potential buy signal from Walgreens Boots Alliance (WBA). We're keeping this recommendation open but will not restate the reasoning behind the trade.

IF WBA closes above $22.50, then buy 4 WBA June (21st) 22.5 calls in line with the market.

New recommendation: Trend of VIX sell signal

As noted above a new trend of VIX sell signal has occurred, since both VIX and its 20-day MA are above the 200-day MA.

Buy 1 SPY SPY May 24 at-the-money put and Sell 1 SPY May 24 put with a striking price 20 points lower.

Stop out of this spread if VIX closes below its 200-day MA for two consecutive days. Currently the 200-day MA is at around 14.85 and rising slowly.

New recommendation: Potential 'spike peak' buy signal

This buy signal would take place if VIX closes below 16.56.

VIX has gone into "spiking" mode. A "spike peak" buy signal will occur when VIX closes at least 3.0 points below the highest price that it reached while in "spiking" mode. So far, that VIX intraday high is 19.56, achieved on April 16. So, if VIX does not exceed 19.56, then this buy signal would take place if VIX closes below 16.56.

IF VIX closes at least 3.0 points below its recent highest price (currently 19.56), then buy 1 SPY May 24 at-the-money call and sell 1 SPY May 24 call with a striking price 15 points higher.

If this trade is established, then it would be stopped out if VIX later closed above its previous high.

Follow up:

All stops are mental closing stops unless otherwise noted.

We are using a "standard" rolling procedure for our SPY 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 2 SPY May 3 520 calls: This position was initially a long straddle. It was rolled up, and the puts were sold. This is, in essence, our "core" bullish position. Roll the calls up every time they become at least eight points in-the-money. Stop out on a two-day close below 5,050 by SPX. The S&P 500 closed below 5,050 on Friday and that stops out this position, ending a long run of our "core" bullish positions, dating back to last November.

Long 1 SPY May 3 520 call: This was also originally a long straddle. The put was sold, and the call was rolled up several times. Sell the call now that SPX has closed below 5,050.

Long 3 TLT TLT May 17 90 puts: We will hold as long as the put-call ratio sell signal is in place for U.S. Treasury bonds.

Long 1 SPY May 3 520 call: This call was bought in line with the new highs vs. new lows buy signal. It was rolled up several times. Sell this call now since new lows have outnumbered new highs for two consecutive days, stopping out this long-running buy signal that dates almost continuously back to last November.

Long 0 QBTS (QBTS) Apr 19 1.0 calls: These calls were stopped out on April 11 when QBTS closed below $1.75.

Long 4 CSX (CSX) May 17 37.50 puts: We will hold these puts as long as the weighted put-call ratio for CSX remains on a sell signal.

Long 2 DKNG (DKNG) May 17 46 calls: The stop remains at 43.40.

Long 4 RSI (RSI) May 17 5 calls: We will hold without a stop initially, in order to let the takeover rumors play out.

Long 2 MCD( MCD) May 17 275 puts: We will hold this position as long as the weighted put-call ratio remains on a sell signal.

Long 1 SPY May 3 513 put: We will hold these puts as long as the breadth oscillators remain on sell signals. Roll down to the May 3 at-the-money puts. Roll down again if the put becomes eight points in-the-money.

Long 2 SPY May 31 516 and short 2 SPY May 31 486 puts: Hold this position as long as the equity-only put-call ratios remain on sell signals.

Long 3 AEYE( AEYE) May 17 12.5 calls: Stop out if AEYE closes below 10.90.

All stops are mental closing stops unless otherwise noted.

Send questions to: lmcmillan@optionstrategist.com.

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04-20-24 0859ET

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