Time to Tighten Risk – JSE Entering Bear Market

Several interesting changes took place in some of the core indicators that I track to gauge broad market health during the past couple of days which I’d like to share with you. The JSE indices provide a very warped view of the market due to their cap-weighted construction which assigns larger weights to large cap stocks. For instance, Naspers alone has a 23% weighting in the index, which essentially means the index is largely dictated by the price moves of Naspers. So, if you’re trading a broad set of instruments as I do, the index fails to provide a good read on the entire market. We resolve this by assessing market breadth which pays each counter in the universe the same weighting. There is a plethora of marker breadth indicators out there, but I have found two key indicators to be the most effective; and the changes taking place in these currently are suggesting tough times ahead.

The first indicator is the percentage of equities trading above their 200-day moving average. We know that a necessary condition for a price series to be in a bear trend (moving lower) is the current price to be trading below its 200-day simple average of prices. This is a mathematical fact. Therefore, if we determine the percentage of equities in bear trends (trading below their 200-day moving average) we have a very good read on the market. We can further expand this to include the global environment by assessing the percentage of major indices in bear trends, thereby gaining a macro view of the world economy. We use both these measures in our platforms to control risk, and recently some ominous changes have taken place.

First, form the 37 global indices we track, 55% are now in bear trends. This coming off a reading of more than 90% in bull trends all last year and the beginning of this year. That’s an important change. Second, 70% of liquid JSE equities (the top 60 ranked by liquidity) are now in bear trends. This off a reading above 60% in bull trends recently. Another important change.

The second indicator tracks the state of volatility in the market with an algorithm I developed called the “Synthetic Volatility Index”. Both the global and local environment are showing signs of volatility expansions, albeit marginal currently. But this can change swiftly, and I expect we’ll see such a change soon. A boost of volatility to the upside will throw the JSE firmly into bear territory.

In addition to the above, the JSE Top 40 Index dipped back below its 200-day moving average a couple of days ago, posting its third lower high. The fact that the index has not managed to move above the 200-day moving average may point to additional weakness.

It’s important to keep in mind that we do not attempt to predict the market, that’s a futile endeavour. We instead react to what the market is telling us; and currently our indicators are suggesting that it’s time to scale back risk. Our platforms are doing precisely that, moving progressively more into cash and focusing on high quality opportunities.

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**Past performance is not indicative of future performance.

Safe Trading,

PJ Sutherland


Passionate about generating and sharing quantified trading models that empower individuals to trade successfully. I founded www.sutherlandresearch.com to realise my passion.

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