At the Edge of Chaos: Liquidity Shows Promise as the Market’s Breadth Holds Up

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There are mixed signals developing in this market. On the one hand, there is the daily and highly chaotic price action, while, on the other hand, the market’s breadth and liquidity may be improving.

If you’re thinking that sometimes you just can’t win, join the club of investors who bet the farm on the Fed’s so-called “pivot” and got mauled after Chairman Powell, during his press conference, noted that the central bank is not “thinking about” pausing. In fact, Powell’s comments might be interpreted as saying that even if the Fed slows down the pace of tightening – such as dropping the next rate increase to 50 basis points – the central bank is likely to raise interest for a long time still.

Trade What You See

Last week in this space, I noted: “The stock market is probably pricing in a ‘pivot’ of some sort from the Fed. This is a risky bet, especially in a poor liquidity environment.”

Moreover, I added: “if you’re having a déjà vu flash, it’s because this rally looks a lot like the summer rally. On the other hand, we are entering the strong seasonal November to January period for stocks, which could favor an extension of what may turn out to be just another bear market rally.”

So, the Fed did a soft “pivot,” on paper, and the market got its hopes up and rallied. Powell, as usual, crushed stocks at his presser, which I reported wouldn’t happen since I could not find as being scheduled at the Fed’s calendar. Still, it happened and Jay Boy did his usual beat the market down routine.

Yet, over the next couple of days, others from the Fed noted they may opt to vote for a reduction in the amount of upcoming rate hikes, while adding that they may keep rates higher for a longer period of time than the recently-noted 2023 time frame.

So, in order to avoid confusion, it’s best to trade what we see. That means there is only one way to operate in this market: If an open position works, stick with it. Moreover, with persistent trial balloons out of China about a possible easing of their COVID zero policy, stay tuned.

Bottom Line

The Fed will raise interest rates again in December, and perhaps in early 2023. If the economy starts showing signs of a precipitous slowing, which it may well do over the next few weeks, we may still see an early reversal of the current rate hike cycle.

A lot remains up in the air. But interestingly, the stock market is once again betting that the Fed is almost done.

Welcome to the Edge of Chaos:

The edge of chaos is a transition space between order and disorder that is hypothesized to exist within a wide variety of systems. This transition zone is a region of bounded instability that engenders a constant dynamic interplay between order and disorder.” – Complexity Labs

Trading What We See: Biotech Starts to Flex Its Muscle

As investors fret about the Fed’s next move, there are some areas of the market which are starting to show a bit more strength than others these days. One of them is the biotech sector, as we can see in the price chart of the iShares Nasdaq Biotech ETF (IBB).

Specifically. IBB has recently, and quietly crossed above its 200-day moving average while the Accumulation Distribution (ADI) indicator suggests that short sellers are not particularly active. Moreover, On Balance Volume (OBV) is building a nice head of steam to the up side.

The key, as usual lies in the Volume by Price bars (VBP), which offers resistance at the $127-$131 area. A move above that key resistance level could launch IBB toward $135-$140.

NYAD Shows Staying Power. Liquidity Remains Surprisingly Decent.

The market’s breadth continues to show signs that we may be in the early stages of a meaningful bottom. When you add the fact that liquidity isn’t getting worse, you can make a case for at least a base forming in this market.

The New York State Advance Decline line (NYAD) has bullishly remained above its 20-day moving and seems to have a date with its 50-day moving average, as the CBOE Volatility Index (VIX) is now in a down trend. So, despite the intraday trend changes, money is moving into stocks, and the number of put options being bought has been reduced. When VIX falls, stocks tend to rally.

The Eurodollar Index (XED) reversed last week’s mini-swoon and has remained above 95. It’s not all that exciting for sure, but it beats a new low. This is hopeful, and may be a sign that the lack of liquidity in the market is stabilizing.

The S&P 500 (SPX) continues to flirt with its 50-day moving average, remaining rangebound between 3700-3800 with the 3900-4000 area becoming the new resistance band to watch if the current narrow range can be taken out. Accumulation Distribution (ADI) and On Balance Volume (OBV) are still not very encouraging.

The Nasdaq 100 index (NDX) is still a weak area of the market, with the 11,000-12,000 still proving to be very credible resistance. ADI and OBV here are worse than in SPX, where the energy stocks are exerting some upward pressure.

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Good news! I’ve made my NYAD-Complexity – Chaos chart (featured on my YD5 videos) and a few other favorites public. You can find them here.

Joe Duarte

In The Money Options


Joe Duarte is a former money manager, an active trader and a widely recognized independent stock market analyst since 1987. He is author of eight investment books, including the best selling Trading Options for Dummies, rated a TOP Options Book for 2018 by Benzinga.com and now in its third edition, plus The Everything Investing in Your 20s and 30s Book and six other trading books.

The Everything Investing in Your 20s and 30s Book is available at Amazon and Barnes and Noble. It has also been recommended as a Washington Post Color of Money Book of the Month.

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