I hope the new year is going well for you. I have taken a needed break from the markets and it's not really over, but I have slowly started following the charts again in recent weeks. I make no promises about posting and do not plan to post System numbers again until and if I get automated backtesting and calculations in place. For now, I just felt like sharing something.
My discretionary spending tool is at a VERY interesting juncture. The theory that seems to be working since I started watching it in 2007 is that SPX follows discretionary spending with about a 5-6 month lag.
On one hand, there was a monthly discretionary spending breakdown in September 2013. That suggests a strong likelihood SPX will form a major bottom in the first 2 weeks of April +/-. Why? 5 of 10 monthly discretionary spending breakdowns since 2007 led to 8%+ bottoms 26-28 weeks later which targets early April. The other 5 of 10 cases led to 8%+ bottoms 18-20 weeks later (4 cases were 20 weeks with QE1 making the 18wk case) with the 3 most recent cases also showing weakness of 4-6% at the 26-28 week mark. All 10 of the drops spanned 5-12 weeks. So, it appears consistent that SPX starts showing weakness 2-4 months after spending breakdowns and then completes a downtrend after 5-6 months +/-.
The most recent spending breakdown occurred in September 2013, so we can count 20 weeks and 27 weeks from October 1st to get an estimate of when the stock market will bottom from that breakdown and then count back 5-12 weeks from that to get an estimate for a top. 20 weeks was last week. 27 weeks is the week ending April 11th. SPX did actually form a 6% bottom on week 18, but only QE1 formed a bottom so quickly and none of the previous 10 downtrends were that small or that short. So, odds favor an 8% bottom in the first half of April with small odds of only another 5%ish bottom into that time period. If we assume the downtrend will span at least 5 weeks like the previous 10 cases, then a top needs to occur by the week of March 17th at the latest and likely next week or the following. Perhaps the ides of March will come into play.
On the other hand, there was a temporary 1-month spike in discretionary spending in October 2013 which has all been lost since then. That spike triggered an indication of an SPX top 20-24 weeks later. We are on week 17 from November 1st. So, there is an argument to be made that SPX will top near the week of March 17th to satisfy both spending indications. If so, Dow should make a new ATH along with SPX and Nasdaq which already have. But, then SPX would likely test the most recent 1738 bottom at a minimum. It just so happens the 200dSMA for SPX is at 1727 today rising about 1pt per day which would put it at 1750ish in early April allowing for a piercing of it and a retest of 1738 in 1 drop. That projection is nice and tidy. If SPX rallies into at least March 10th, I'd say it's odds of happening are good. March/April is a famous time period for market reversals especially since year 2000. However, there is another argument to be made that SPX will instead top at the end of its projected range after 24 weeks during the week of April 14th. That lines up with the end of the projected range for a bottom. So, in that scenario, SPX would likely need to top now or next week followed by a bottom spanning 5 weeks into the first week of April followed by a short-lived 2-week rally. That scenario is obviously more bearish with an 8%+ drop, a retracement and then another 8%+ drop.
In summary, discretionary spending paints 2 possible scenarios.
(1) SPX rally for about 2 more weeks followed by a test of the 200dSMA and 1738 by mid-April.
(2) SPX rally ends in the coming days followed by a drop into early April followed by a 1-3 week deadcat bounce and then another large drop.
Either way, the odds of an 8% drop into the first half of April are very high, although it could be from a higher level if the rally continues into mid-March and there is an outside chance it is only 5%. The conservative long-only approach would be to sell into this rally and buy back in after a 5-10% drop. The more aggressive approach would be to short the market into this rally and start taking partial profits after a 5%ish drop on down to 10% and possibly re-shorting in scenario 2.
I will also add that last month (January) triggered another discretionary spending breakdown, so there will be another major SPX bottom in either 20ish or 27ish weeks from February 1st which targets the week of June 16 +/- or August 4th +/-. If bearish scenario 2 occurs, this indicates that any subsequent rally will likely fail to make a new high or at least not break it by much. So, I'd say we are in for a flat-to-very-bearish 3-4 months starting in the next 2 days to 2 weeks. I can see a potential EDT developing in SPX that might lead Dow to fall short of a new high in the coming days, but EDTs sometimes turn into 1-2-1-2s which fits the 2 potential scenarios perfectly. Good fortune.
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