Sentiment and small-cap stocks crush massive decline with 1-2 punch | Exchange places with Tom Bowley

Listen, we all know what NASDAQ, Magnificent 7 and technology have done and are doing. There is no need to beat a dead horse. Those who see the incredible rally in these three regions as somehow bearish think so. How does the perpetual bear approach work? I’ll skip this part of the market and discuss two other extremely bullish developments.

emotion

When the long-term 253-day SMA of the Stock Put/Call Ratio ($CPCE) experiences a significant change, either higher or lower, it is a sign that the prevailing sentiment is reversing and the S&P 500 is likely to reverse. Maybe it has already started. That’s not my opinion, it’s historical fact. Please take a look at this chart and let me know if you interpret it differently.

Human emotions go up and down, and nowhere is this more evident than with money. As we lose more and more money, we feel worse about stocks and the worse we believe things will get worse. This creates a huge imbalance between the call and put options being traded, with the latter trading at higher and higher rates until emotions boil over. This typically coincides with an S&P 500 bottom. The opposite also happens. As the stock market trades higher and higher, another major imbalance arises in the number of call and put options being traded, with the former dominating in a very important way. what’s the matter? CPCE’s 253-day SMA fell to a low coinciding with the S&P 500’s high. Of course, in my opinion, we are nowhere near the bottom of the CPCE or the top of the S&P 500.

I have some really bad news for those who believe the stock market will peak and decline sharply from current levels. We have just begun the process of dispelling the absurd levels of fear associated with a cyclical bear market in 2022, and the S&P 500 is headed even higher. Don’t take this literally. There may be setbacks and occasional corrections along the way, but the path forward is higher.

small hats

One asset class that has significantly underperformed over the past few years has been small-cap stocks. But the group is starting to show more signs of optimism. IWM (an ETF that tracks the small-cap Russell 2000 Index) is already looking much stronger on the longer-term weekly chart, breaking its previous triple top and testing the rise of the 20-week EMA before rising again. New highs. This is the number of charts that start in an uptrend. Check out IWM:

The green shaded area highlights the 18-month period of pure consolidation. Whenever we see price action consistently moving above and below the 20-day moving average, there is no direction or trend. I find it a three-step process.

1. Price breaks through resistance line
2. Successful 20-period EMA test for pullbacks
3. Breaking another record high

Phase 3 of the process was completed last week. Look at the chart again and see the different behavior of the weekly PPO. This time, IWM is finally maintaining its upward price action as its bullish momentum accelerates. Additionally, the weekly RSI has remained above 60 for extended periods of time, which rarely happens during sideways movements.

In the short term, I have been pointing to a bullish cup with a handle pattern and IWM has either broken through or is on the cusp of a breakout.

There are so many upsides that I think the odds of a bigger rally from here are overwhelmingly in favor of the bulls. The buildup is quite evident. Inside the black rectangle on the price chart, we break down how IWM traded during the trading day. Any weakness we’ve seen has typically occurred before the opening bell and 11 a.m. ET. From 11 PM to 4 PM ET, IWM rose significantly. This is what drives the AD line (acquisition/distribution line) higher. Check out IWM’s AD line in the bottom panel above! When we saw the bottom of the S&P 500 in mid-June 2022, this was the intraday movement we saw in SPY and QQQ, and the AD lines there also started to surge. Now we have Manipulation 2.0. This time only in small caps. Get ready to explode from higher heights!

The cup with handle pattern adds to all the other bullish signals and suggests an initial reading around 225, 10% higher than Friday’s close.

How do we prepare for this coming higher movement? Well, we haven’t seen a small-cap stock this strong since 2020. I believe some of the individual small-cap names will see huge upside in the coming months, and I plan to feature three of them in my FREE this week. EarningsBeats Digest Newsletter. Tomorrow it will be a sub-$5 billion software company with revenue easily beating consensus forecasts and EPS beating estimates by 50%. There is a long-term double bottom and the stock price is currently trending upward. In my opinion, we are just getting started as we are still more than 50% below the all-time highs reached in 2020 when small caps dominated.

To see this stock on Monday and two other quality small-cap candidates on Wednesday and Friday mornings, click here to subscribe to EB Digest. It’s completely free, no credit card required, and you can cancel your subscription at any time!

Happy trading!

tom