Volume and Volatility: How the "Slope of Hope" Is Failing the Market

On Saturday around noon, I plopped onto the couch with my dogs and grabbed the clicker to flip through the endless channels.

Eventually, I wound up on a just-started airing of "Ghostbusters," my least favorite Bill Murray movie. (And now many of you are mad at me. For what it's worth, "Caddyshack" is my favorite.)

In an odd bit of cosmic fate, a quote from the movie described exactly what I want to see from the market before I'm ready to buy bullish positions by the armfuls again.

First, let me make this known: I don't like winter. It's cold outside in Cincinnati, and my Saturday mornings and afternoons are suddenly vacant as college football takes a break between the regular season and bowl season.

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Of course, the annual Army-Navy Game was played this past Saturday. However, that was just one lonely football game floating in the space previously occupied by dozens of games, totaling nearly one hundred hours of football. But I digress...

This turn of events led me to re-watching "Ghostbusters" until said Army-Navy game started. Toward the end of the movie, the ghost-fighting team is in City Hall, trying to explain to the mayor that the city is headed toward disaster: fire and brimstone, forty years of darkness, the dead rising, et cetera.

Finishing off the colorful language to describe the peril, Peter Venkman (Murray) says, "... human sacrifice, dogs and cats living together, mass hysteria!"

And that's exactly what the market needs right now.

"Wait, wait, wait, CJ, you can't mean that seriously, right?"

But I do, and here's why...

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Lack of Interest Plus Blind Faith Equals No Speculation

In my last write-up, I explained how the market has been stuck in this arrhythmia of big swings with little to no control. All year, we've seen new all-time highs followed closely by year-to-date erasing pullbacks.

It's enough to give you whiplash if you watch it too closely. But we're experiencing this momentum for two very key reasons: low volume and low volatility.

Previously, I mentioned a lack of interest in the market. After a couple weeks, traders are out, unwilling to commit, which is creating the breakneck selling sprees we've been seeing. But let me add some context to this sentiment...

I use the cumulative average volumes for the  SPDR S&P 500 ETF (NYSE Arca: SPY), NASDAQ QQQ ETF (NASDAQ: QQQ), and iShares Russell 2000 ETF (IWM) as a proxy for "interest" in the market.

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In November, volume on those major ETFs was more than 32% lower than the month of October. (In case you're wondering, so far, December's volume isn't looking too hot, either.)

And that's despite the fact that November was the S&P 500's ($INX) best-performing month since August. Simply put, traders aren't interested. And this is leading to low-volume, high-volatility swings, which can be incredibly dangerous to uninformed traders.

For the most part, the market's money managers - the traders who spend their days gunslinging for returns by buying and selling securities at high frequencies - have run to the sidelines. The market's Wild West days are over for now.

But the ones holding on against all hope that the market just flat-out stinks right now are just investors holding onto blind faith. They think this market has no way to go but up, and they're wrong. In fact, more than anything else, this mentality is the market's worst enemy right now.

This is why the "slope of hope" is failing the market. Those blind-faith investors aren't enough to keep this whole thing afloat forever. Plus, as one of my Ten Commandments of Trading states, "Stocks are driven higher by speculation, not fundamentals."

Right now, the lack of interest in the market is telling us that there is little to no speculative activity. And the blind-faith investors aren't getting speculative. They're keeping their money in the market, but they're getting defensive as we see some cash flow into healthcare and utilities.

What we need is for the market to climb a "wall of worry." But there remains work to be done before we find a true bottom. And right now, it appears as though the majority of investors are willing to just sit around and wait.

Michael Santoli from CNBC has it nailed: These market declines are just "too organized."

We need "human sacrifice, dogs and cats living together, mass hysteria!"

We haven't gotten that this time around. The CBOE Volatility Index (^VIX) has hit readings at or just above 25 a few times over the last week, but nothing more than that. This indicates that investors have yet to freak out about the constant sell-offs.

Conversely, during the correction in February, the VIX hit 50 when the S&P 500 dropped 12%. But this time around, as the S&P 500 has dropped 10 to 12% on multiple occasions from its all-time high on Sept. 21, we've only seen VIX readings that are half the February high.

Only then, when we see that mass market hysteria and a seemingly insurmountable wall of worry, will we know that it's time to buy bullish positions by the armfuls again.

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About the Author

Chris Johnson (“CJ”), a seasoned equity and options analyst with nearly 30 years of experience, is celebrated for his quantitative expertise in quantifying investors’ sentiment to navigate Wall Street with a deeply rooted technical and contrarian trading style.

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