VIX And Defensive Sectors React To Perceived Trend Weakness

Since early November 2020, the VIX has continued to decline and consolidate near the 22 level. Late in December 2020 and beyond, the VIX started setting up series-high price spikes – which indicates a flagging downside pattern is setting up. You can see this setup across the recent VIX highs drawn in MAGENTA on the chart below. Additionally, the VIX has “stepped” higher – moving from lows near 19.50 to higher lows near 21.00. This upward stepping base is indicative of a shift in volatility.

VIX SETS UP PENNANT/FLAG PATTERN

My research team and I interpret this data as a sign that trend weakness is starting to build after the strong rally that initiated in early November 2020. Although we have not seen any clear sign that the markets are about to reverse or decline, this move in the VIX is suggesting that volatility is increasing. The high price “breakout”, yesterday, in the VIX suggests the MAGENTA flag setup is nearing an Apex/breakout point.

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SECTOR TRENDS MAY SHIFT SUDDENLY

What continues to interest my team is the continued trend strength in certain sectors and the continued rally attempts in the hottest sectors. For example, electric vehicles, robotics, new innovation, and internet shares are making new all-time highs. This suggests that certain sectors may continue to buck the trend even if the US major indexes enter a period of sideways/downside trading.

(Click on image to enlarge)

Recently, the strongest major US sectors appear to be Discretionary, Industrials, Materials, Energy, and Financials. If we see Bonds, Utilities, and Precious Metals start to rally while some of these strongest sectors begin to weaken, we would start to become very cautious of any continued rally attempts in the near future. For example, if Energy, Financials, and Transportation start to decline, then we may be starting a shift in how the markets expect this bullish trend to continue.

Right now, we are seeing the VIX setup a Pennant/Flag formation that appears to be nearing an Apex. Once the Apex is reached, we’ll watch to see how the VIX reacts to any perceived market weakness. Our 2021 Market Predictions research article suggested we may see increased volatility in February/March 2021. 

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