Big speculators on VIX futures have their smallest net short position since June
“As long as the SPX is trading within the mid-November channel that I have been displaying week after week, this is a win for the bulls as the lower and upper bounds of this channel are increasing daily which means support and resistance levels are increasing daily … even if that is SPX breaks below its lower channel limit, another area with impressive support is between 4,050-4,100. “
– Monday morning outlook, June 1, 2021
The S&P 500 (SPX – 4,229.89) has not rewarded bulls or bears since a tri-star doji pattern in late April followed by a return to a channel that has existed since mid-November. The only exception was the most forward-looking short-term timers, which went bearish at the close of trading on May 7th and bullish at the close of trading on May 12th and / or May 19th.
The benchmark’s price move since mid-April can best be described as sloppy, with a series of short-term highs and troughs and some periods of sideways movement. There were also storylines, including a sector rotation, as well as a pretty impressive resurgence of “Meme stocks” as AMC entertainment (AMC), blackberry (BB), Gamestop (GME), and Bed, Bath & Beyond (BBBY), all of which are severely shorted. Additionally, in the midst of the chaotic marketplace, there were ample trading opportunities for those focused on individual stocks and / or sectors.
As of May 13th, all SPX closings have been on the channel I included in this comment. However, this could be seen as a win for the Bulls as I described last week. With that in mind, the bottom of this channel when it entered this week’s trading is 4,148, with the upward sloping 50-day moving average currently at 4,138. At the end of the week, the lower bound of the channel is 4,166.
The channel’s upward bound – or higher levels of potential resistance over time – is at 4,283, with the upper bound hitting around 4,300 centuries mark on Friday. Note, however, that last week the SPX failed to hit this year’s closing high of 4,233 in early May, which is another level to be prepared for.
“The Federal Reserve will shortly begin selling the corporate bonds and exchange-traded funds it amassed last year through an emergency loan facility set up to contain the economic fallout from the Covid-19 pandemic. The vehicle, known as the Secondary Market Corporate Credit Facility (SMCCF), held $ 5.21 billion in bonds from companies like Whirlpool, Walmart and Visa as of April 30. It also held $ 8.56 billion in exchange-traded funds that hold corporate debt, such as the Vanguard Short-Term Corporate Bond ETF. “
– The Wall Street Journal, June 2, 2021
The price movement of the SPX can be interpreted as resilient in the context of the message flow. In other words, the Fed has indicated that it will soon be time to talk about curbing mortgage and government bond purchases. Such talks were followed on Wednesday by a statement that the Fed will begin gradually selling corporate bonds and exchange-traded funds (ETF) launched last year to prop up credit markets amid the Covid-19 pandemic.
While the stock market has lost some momentum amid the Fed headlines, it may be daunting for bears that it hasn’t aggressively eased in response to these statements. In fact, the SPX is just three points below its all-time high from early May this week. This is important as some bears blame the Fed for manipulating stocks upward over the past year with its monetary policy and aggressive actions to keep credit markets viable. Even the specific stocks and ETFs mentioned in the Wall Street Journal excerpt above left the news last week.
Discussions about the extremely low interest in the SPX components ahead of a bear market in 2007, as well as notable corrections in 2011 and 2012, are still worth keeping on the radar as the Fed moves to be less supportive. If market participants decide that the economy cannot thrive in the face of a less supportive Fed, the technical backdrop for the SPX will deteriorate. As it stands, reopening the economy amid vaccine rollouts in the US and abroad seems more important than the Fed’s talks.
– Todd Salamone (@toddsalamone) June 3, 2021
On the volatility front, some graphs could point to lower volatility in the coming weeks. The Cboe volatility index (VIX – 16.42) fell below its 2021 half-year high at 18.60 after climbing above it Thursday morning. It wasn’t long after I tweeted the comment above that the SPX bounced back for the rest of the day and through Friday. As per the graph below, the 18.60 area acted as resistance last week, which is the first step towards making a new low in 2021. To hit that low, it has to drop below 15.38.
The graph below gives me reason to believe that lower volatility and higher stock prices are imminent. Notice in the graph below that large speculators on VIX futures have their smallest net short position since June 2020.
This group of traders is typically short in the VIX futures market so I am looking at the net short position versus the historical past. Since the positioning of this group is usually extremely wrong, one can plead for lower volatility expectations in the short term.
In other words, the VIX has moved up when this group had an unusually large short position on VIX futures. However, if they take a rare net long position or an unusually small net short position, less volatility tends to follow. Notice in the graph below that the VIX was down from June to August last year, amid a small net short position on VIX futures at the start of the decline.
Less volatility and higher share prices could seasonal traders with the “Sell in May and go away“-Mentality.
Todd Salamone is Schaeffer’s Senior VP of Research