Bull Trap or True Bottom?

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A week ago, we outlined a few indicators to help us pinpoint a treacherous bull trap. We also highlighted what a true market bottom might look like. Since then, the market has been rallying and risk sentiment has improved. Is this THE market low?

It’s time to put the checklists to work and find out.

Bull trap or the real thing?

The bear market checklist

Remember, the aim of the checklist is primarily to instill the discipline to watch market price action carefully, and be patient for that perfect pitch. A bear market could easily bottom with only 3-4 “checks” on the list.

  1. Duration: No check. We are still short of a typical bear market around 10-12 months.
  2. Peak to trough correction: No check. We are very close but not quite at the 36% drop often seen during bear markets – both Nasdaq and S&P 500 stopped short of the mark at the lows.
  3. Retest: No check. The bounce started from a new low and hasn’t retested it yet.
  4. Divergence with new stock lows: Mixed. There is some evidence this is improving: on the selloff yesterday, only 29 stocks in SPX and 84 in Nasdaq hit new lows, somewhat better than recently but not yet convincing.
  5. 90% upside day: No check. We would need to see 2 of these to have real conviction on the market bottom. None yet.
  6. TLI turning positive: Check. The aggregation across all TOGGLE insights has been remarkably spot on during the bear market and – after flipping into green on Monday last week – remains positive.

On balance, this doesn’t feel like the true market bottom yet. How about a Bull trap? Let’s run through the next checklist.

The Bull Trap checklist

  1. Low trade volume: No check. some encouraging news on this front. Volume has risen on two of the days during this rally.
The Bull Trap Checklist: Low trade volume
  1. Failure to rise above its key moving averages: Check. So far, major indexes haven’t cleared the 50-day or 200-day MA yet.
  2. No confirmation from a technical oscillator: No check. RSI did signal very oversold conditions at the start of the rally.
  3. Parabolic rise: Check. The rise has definitely been quite fast so far.
  4. Failure to clear resistance: Check. Prices haven’t cleared the resistance at 3,900 yet on SPX, previous low that may be setting up as resistance now.
  5. Unusually huge candlestick: Check. This one is in the eye of the beholder but Friday’s candlestick was definitely quite large relative to the sequence of upside days preceding it.
The Bull Trap Checklist: Unusually huge candlestick

Determining a bull trap rally from the end of a bear market is hardly science but having a framework can be very helpful in avoiding a sucker rally.

Risk sentiment has clearly improved, and a repricing of Fed hiking expectations surely helped. Since the last hike, markets reduced the additional expected tightening over the next 12 months by about 50 bps. That’s enough to give markets a breather but it’s very tentative: new inflation data could easily change this calculation.

Right now, the weight of evidence suggests this is a (tradable) bottom rather than a new bull market. We’ll revisit the checklist regularly to see whether or not this assessment changes.

Idea Spotlight: Electronic Arts

Volatility indicators for Electronic Arts reached a recent low and historically, this led to a median increase in price of 24.05% over the following 6M. TOGGLE analyzed 9 similar occasions in the past to produce the median projection and this insight received 6 out of 8 stars in our quality assessment.

Interested in EA stock? Check out what CNN Business has to say.

Idea Spotlight: Electronic Arts

Originally Posted June 28, 2022 – Daily Brief – Bull trap or true bottom?

Disclosure: TOGGLE

IB Global Investments LLC, a subsidiary of Interactive Broker Group Inc., the parent company of Interactive Brokers LLC, is a minority owner of Toggle AI.

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