Correction Inspection

The answer to the question posed last week in Digest Issue 5 "Reversal or Continuation? [Charts]" came the same day as the S&P 500 Index roared higher last Monday and closed well above resistance from the 200-day Moving Average. Then, after two higher closes, it pulled back again. The Market Review takes another look, as in back to the drawing board, followed by another long idea, this time for Baxter International (BAX) from Friday's Stock Trend Analysis in the Underlying Sentiment Analyzer.

S&P 500 Index (SPX) 4500.53 ended a tremulous week up 68.68 points or +1.55% making a round trip up and back down holding just above support from the 200-day Moving Average that it previously broke through last Monday. Last Wednesday's breakaway gap to the downside came close to making an island top. Should support from the 200-day Moving Average now 4444.23 fail to hold, it will then likely continue lower and retest the January 24 low at 4222.62.

From a trendline perspective, on January 19 it closed below the operative long-term upward sloping trendline that began at the March 4, 2020 low of 3723.34. It then quickly descended to close below the 200-day Moving Average. For the bulls, an even bleaker picture shows it closing below the alternate trend measure using the 50-day Moving Average even sooner, on January 13. Odds now favor a retest of the recent January 24 low at 4222.62.

CBOE Volatility Index® (VIX) declined 4.44 points or -16.05% last week ending at 23.22. Our similar IVolatility Implied Volatility Index Mean, IVXM using four at-the-money options for each expiration period along with our proprietary technique that includes the delta and vega of each option, declined 3.25 points or -14.39% to end at 19.34% vs. 22.59% on January 28 and the spike higher on January 26 to 26.67%, shown in the chart below, the day Jerome Powell spoke after the Federal Open Market Committee meeting. As equities and bonds adjust to the prospect of rising interest rates increased volatility reflects increased uncertainty.

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VIX Futures Premium

VIX futures premium ended Friday at 6.46%, coming back up into the yellow caution zone vs. -1.99% on January 28 in the red bear zone, with eight days before front-month February futures expire.

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The chart reflects the distance from the VIX to the futures curve computed from the two front-month contracts. Since most of the volume and open interest are in the two closest futures contracts measuring the volume-weighted premium relative to the standard 30-day VIX provides a good real-time sentiment indicator based upon actual commitments of large Asset Managers and Leveraged Funds.

Market Breadth as measured by our preferred gauge, the NYSE ratio adjusted Summation Index that considers the number of issues traded, and reported by McClellan Financial Publications. Last week's downside momentum slowed as it attempted to turn higher, advancing modestly two days before heading lower again as the downtrend continued. For the week, it slipped 35.05 points or -.38% to end at -584.41 and is still well below all of the recent troughs with the exception of March 24, 2020, at -1256.95 during the Covid shutdown period.

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Another Contrarian Idea

Presuming downward best describes the current path of least resistance for the SPX, consider this additional contrarian/rotation into safety idea.

As a regular feature in the Options Data Analysis and Rankers & Scanners sections on our front page display results from the Underlying Sentiment Analyzer included with all IVolLive packages, based upon the short- term market trend, which considers the Historical Volatility term structure, call/put ratio, exponential moving average, 14 day RSI (relative strength index), and the 21 day Chaikin Money Flow. Friday's pick confirms rotation into defensive sectors such as Health Care and Consumer Staples.

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Baxter International Inc. (BAX ) 86.71 gained 1.42 points or +1.66% last week holding up better than the Health Care sector. Our Underlying Sentiment Analyzer shows 7 upward buy arrows, 1 sell, and 1 hold. Baxter International provides healthcare products used by hospitals, kidney dialysis centers, nursing homes, and rehabilitation centers.

Strategy

Based entirely on technical indicators along with options and futures, Digest Issue 4 "Growling  Bears [Charts]" defined an oversold S&P 500 Index ready to rebound. It did, then after consolidating for a week, it briefly broke out to the upside before turning lower again. Rotation into value and income-producing stocks out of high valued high P/E stocks including large-capitalization favorites heavily weighted in the S&P 500 Index, appear on the brink of correcting or may have already corrected.

Should support from the 200-day Moving Average fail to hold and the S&P 500 Index retests the January 24 low at 4222.62 the decline would qualify as a correction, using the popular although arbitrary definition, having lost 12.37%. While some claim it was already corrected after reaching the January 24 low, it needs to retest the low before declaring an end to the correction.

Alternatively, last Wednesday's pivot at 4595.31 could be a counter Wave 2 of a larger Elliott Wave sequence with Wave 3 down underway as mentioned in Digest Issue 4.

Advocates of rotation into value stocks and sectors such as Consumer Staples, Utilities, Health Care, and Energy have been right since the start of the year. For the growth sectors, prudence suggests reducing or hedging long positions.

Remember: If you don't know what your edge is – you don't have one.

Summary

Last week just as the S&P 500 Index reversed from the January 24 low, it ended just as suddenly and headed back down to end slightly above support from the 200-day Moving Average. Declaring an end to the correction seems premature until it retests the low and market breadth begins improving. Until then rotate into value and dividend payers while hedging or reducing long exposure to growth stock and sectors.

Disclaimer: IVolatility.com is not a registered investment adviser and does not offer personalized advice specific to the needs and risk profiles of its readers.Nothing contained in this letter ...

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