This week is very hard to predict with borderline technicals, fundamentals, and market sentiment. We could be facing a flat week this week up until Friday when the PCE inflation data is released. If this week is flat, it could be a good week for credit spread options including iron condors, which make money when the market trades flat.
Last Week Recap
In last week’s newsletter I said, “With all of the strong technical resistance in place, we could see a pull-back this week before continuing higher in July.” And that’s exactly what happened. The NASDAQ in particular ended its 8-week rally. But the pull-back was minimal, at only 1.3% on the week. The S&P had a slightly larger pull-back at 1.4%, with the DOW having an even larger pull-back at 1.7%, and the Russell seeing the largest pull-back at 2.9%. But despite the drop in the markets, the VIX also dropped 0.7% on the week, indicating that the market remains extremely bullish. For this reason, its fairly safe to assume that last week’s pull-back was not the start of a new bear market or even a market correction, but rather just a small dip in the overall extremely bullish run we’ve seen over the past 9 months, and especially over the past 9 weeks.
One interesting turn of events last week was the fact that the stock market sold off as Jerome Powell testified to Congress. This could indicate a shift in market sentiment where the market starts to take the reality of the economy and Federal Reserve actions more seriously, so a drop in market sentiment will have to be monitored closely. If market sentiment continues to fall, it could trigger a correction or even a new bear market.
The fear and greed index (https://www.cnn.com/markets/fear-and-greed) fell back into the Greed stage last week after two weeks in a row in Extreme Greed. But the drop was only minimal, as the Fear and Greed index finished at 74 – just 1 point shy of Extreme Greed. While this drop in market sentiment appears to be temporary – reflecting the slight pull-back in the stock market last week, market participants will need to monitor the Fear and Greed index for any signs of market sentiment continuing to drop. Should market sentiment approach the Neutral stage, it could indicate a fundamental shift where the stock market starts to focus on the economic conditions and upcoming recession, which in turn could trigger a correction or even another bear market. For now though market sentiment remains Greedy, indicating a continuation to the stock market rally over the past 9 months, and especially the past 9 weeks.
The volatility index (VIX) dropped again last week to finish at 13.44 – a new 52 week low. Further, the VIX hit an intra-day low of 12.73 last week. This is important because 12 is very strong support on the VIX, and very often when the VIX hits 12 it indicates a temporary top to the market. While the VIX did not hit 12 last week, any drop down to 12 this week could indicate a top and incoming market correction. What’s most interesting about the VIX dropping last week to close at 13.44 is the fact that the VIX dropped despite the stock market also dropping. This shows that options traders remain extremely bullish, and indicates that last week’s pull-back might be over, and that the stock market might continue higher this week.
On the daily charts, all 4 major indices are starting to show bearishness, as all 4 major indices closed on Friday with MACD death crosses. However the rest of the technicals remain bullish. With the MACD turning bearish, it’s unlikely the markets will continue higher this week. But with only the MACD bearish, and the rest of the technicals bullish, it’s also unlikely the market will drop. The most likely scenario is that the market will trade fairly flat, much like it did in April – the last time the MACD turned bearish – as shown in the yellow box in the image below. Investors must watch for the candles to drop below the 21 day EMAs however, as this would indicate a continued drop in the market rather than just a flat correction.
Despite some bearish cracks starting to show up on the daily charts, the weekly charts remain 100% bullish on all 4 major indices. And not just bullish, but overbought as well. The RSI on both the S&P and the NASDAQ remains at 72. Any number above 70 indicates an overbought market. The NASDAQ especially is in need of a healthy correction before continuing higher. A healthy correction would put the weekly candle back at the 10 week EMA, which indicates the NASDAQ needs to fall another 5% for a healthy correction to be completed. A 5% correction would keep the markets bullish and allow the bull-run that started 9 months ago to continue, while also correcting the overbought state of the stock market. It should be noted that a correction to fix the overbought state of the stock market could also take the form of the market trading flat for the next 4 weeks to give the 10 week EMA time to catch up to the candles. But history indicates this type of flat trading rarely happens, making a healthy 5% pull-back over the next 2 to 3 weeks more likely.
The big economic news this week will be the Personal Consumption Expenditures Index (PCE) report on Friday, which is the Federal Reserve’s preferred measure of inflation. The Core PCE will be the number to watch. Market participants expect Core PCE to drop 0.1%. If Core PCE fails to drop, this could cause the market to sell off on Friday. But if Core PCE drops by more than 0.1%, this could cause a stock market rally on Friday. Investors should also watch out for housing data on Tuesday and Thursday, and Jerome Powell speaking on Wednesday.
Here’s the full list of all of the economic news coming out this week as well as the time each report is being released: https://www.marketwatch.com/economy-politics/calendar
Here’s what time each Fed member is speaking this week: https://www.federalreserve.gov/newsevents/calendar.htm
Earnings season won’t start again until the end of next month, but for now we still have a few companies reporting this week. The most important companies reporting are Walgreens on Tuesday and Nike on Thursday.
Other Things to Know
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