The GameStop saga last week increased the probability for more short squeezes as the "video game mob" targets more vulnerable stocks with high short interest, despite fundamental valuation. Last week Digest Issue 4 "Bulls Blowing Bubbles [Charts]" showed one easy way to indentify short squeeze targets when hunting for the next short squeeze candidate. Below are more all based increasing option implied volatility. First, the Market Review with thoughts about the correction underway.

S&P 500 Index (SPX) 3714.24 dropped 127.23 points or -3.31% last week after making a new closing high last Monday then a new intraday high at 3780.90 and key reversal on Tuesday before breaking down on Wednesday. Another breakdown on Friday confirmed the end of the upward sloping channel formed on the Pfizer vaccine day, November 9. Now slightly below the 50-day Moving Average at 3715.95 and well below the operative upward sloping trendline from the October 30 low, support between 3600 and 3550 could limit the decline to a 6% correction.

CBOE Volatility Index® (VIX) 33.09 spiked up 11.18 points or +51.03% last week. 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, added 9.34 points or +56.00% ending the week at 26.02%.

VIX Futures Premium 

This indicator quickly turned from bullish to bearish as the VIX spiked up well beyond the entire futures curve that's now sloping downward to the right. The volume-weighted premium for the first two nearest futures ended Friday at -7.74% in the red bear zone, vs. 16.58% on January 22.

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. 

Equity Only Put Call Ratio

After holding steady at .40 until Friday, it finally turned up and makes a sell signal on this daily chart ending at .58 after put volume increased 30% above Thursday. 

Setting the Stage

Market Breadthas measured by our preferred gauge, the NYSE ratio adjusted Summation Index that considers the number of issues traded, and reported by McClellan Financial Publications, turned lower declining214.83 points or -23.11% last week ending at 714.66; closing below the 50-day Moving Average on Wednesday. As the major equity indexes made multiple new closing and intraday highs, this early warning breadth indicator began declining in the middle of December.

While often early at market tops declining market breadth usually provides a good early warning signal especially when it crosses below the 50-day Moving average. 

Short Squeezes

Last week Friday's Top 5 highlighted 3 stocks with abnormally high increasing implied volatility. 

From our Underlying Volatility Ranker, this version using the Top 200 by options volume group expands it to the Top 10 by Implied Volatility Index Change, see column 3. Also, notice where some like AMC and IPOE are relative to their 52-week range, see column 5. While it includes VIX and XRT for reasons more likely due to directional positioning, others may represent short squeezes such as AMC.

Strategy 

In bull markets, the best strategy is to stay long equities and/or ETFs and then tactically hedge pullbacks as they begin developing since ordinary pullbacks can become corrections when something unexpected happens. Then corrections can become downturns when something else unexpected happens, and downturns can become bear markets when many unexpected things change medium and long-term fundamentals.

Although more important earnings reports are due this week markets could continue focused on short squeezes. However, since our indicators suggest a pullback began last week increasing hedges of long positions remains a prudent strategy for the second week.

Summary

With the equity markets fixated on the GameStop short squeeze, the S&P 500 Index pulled back enough to end the upward sloping trend channel that began with the November 9 Pfizer vaccine announcement and closed just below the widely followed 50-day Moving Average. Options, futures, and breadth indicators all confirmed the pullback. In the event short squeezes remain in focus, more candidates can be discovered by watching increasing options implied volatility.