McMillan Market Conmmentary: Thursday Evening 7/7

The stock market continued its bullish explosion this week. After a couple of days of mostly

sideways action, a favorable – but subsidiary – piece of economic news (a positive ADP

employment statistic) was sufficient excuse for buyers to pile in once again. As a result, the

indicators all remain on buy signals, although overbought conditions are beginning to appear.

$SPX broke through its previous down trend line last Friday, and has now overcome the

late-May high. All that remains is a test of the post-2009 highs at 1370. We would expect that to

occur soon. And we would expect it to be successful, as targets in the 1430 area or higherhave been

activated. The advance has been so swift that it is difficult to identify support. There is minor support

at 1330 to 1340 – the Tuesday-Wednesday range of this week – and below that, at 1320.

Equity-only put-call ratios turned bullish when they peaked and began to fall. The standard
ratio turned first, followed more recently by the weighted ratio. The fact that these buy signals are
occurring near the tops of their charts is generally an indication of a stronger buy signal.

There is plenty of room for these to run before one would deem that “too much” call
buying had taken place. So these are intermediate-term buy signals.

The total put-call ratio is nearing a confirmed buy signal. Even though the peak in its 21-day
moving average has only lasted for five days, it is virtually a lock to be the eventual 10-day peak, for
the ratio would have to average a whopping 1.19 for the next five days in order to exceed that peak.
That is unlikely to happen, so we are considering the total put-call ratio as a “buy” at this time.
Recall that it measures out a 100-point rally in $SPX on two-thirds of its signals.

Market breadth has been very strong during the rally, although it’s unusual that there has not
been a single 90% up day during this two-week rally. Breadth oscillators remain on buy signals, but
are now very overbought. The “stocks only” oscillator is +770 and the NYSE-based oscillator is
+635. Those are near-record numbers. There is both good and bad news in these high oscillator
readings. The good news is that it shows the advance is broad, and all new bullish phases should
be accompanied by overbought breadth oscillator readings in their initial stages. The bad news, of
course, is that such high readings indicate that the market needs a pause and so sharp, but short-lived
declines are possible at any time.

Volatility indices ($VIX and $VXO) are perhaps the most potentially problematic indicators.

$VIX has dipped back below 16 again, and in recent months when it does that (and then reverses upward)

a sell signal occurs. Most of those sell signals have been short-term in nature, but it is still an indication

of an overbought condition.

The$VIX futures have gained some premium during the rally. However, their behavior has

been a little different than we have normally seen over the past year or so: the near-term

futures have not fallen as far as the longer-term futures have. That is, the term structure

has flattened out somewhat. This is highly unusual during a market rally,but it means that

traders are no longer paying such high prices for longer-term $SPX options.Even so, there is still

a fairly large premium on the intermediate-term futures.For example, the November futures closed

at a premium of nearly 5 points to $VIX today – quite expensive by normal standards, but not so

much by recent standards. While it is understandable that a strong market rally like the current one

might deter traders from buying $SPX puts for protection, it also means that this indicator

(the term structure) is not overbought. It gets overbought when it gets “too steep,”

but its steepness is actually diminishing during this rally.

In summary, the intermediate term outlook is bullish as all indicators are on buy signals.
There are overbought conditions in $VIX and breadth, and they might generate some short-lived
corrections, but the general trend is higher.