Traders Are Still Nervous… But Should They Be?

Volatility is frightening many investors, but last week’s volatility was actually bullish. There is significant support for SPDR S&P 500 ETF (NYSE: SPY) at the September 20 low. On Both Thursday and Friday last week, buyers came into the market right at that level.

The 50-day moving average (MA) continues to be important to the price action. While SPY is below its 50-day MA, small caps are sticking close to their moving average, as the chart of iShares Russell 2000 Index Fund (NYSE: IWM) shows.

This is important because small caps have outperformed large caps in this selloff. Small caps are more speculative than large-cap stocks. Traders tend to buy small-cap stocks when they’re more confident about the bull market and are seeking more risk. The recent outperformance of small caps indicates that this group of stocks could be the market leader in the next leg of the bull market.

News Is Negative… And Traders Are Still Nervous

Sentiment continues to confirm my optimistic outlook.

The percentage of bears among individual investors reached a one-year high, according to the American Association of Individual Investors survey.

Source: AAII

As I’ve noted the past few weeks, the high percentage of bears following such a relatively small decline in the indexes shows how nervous individuals are. But it makes sense that individuals should be nervous.

If investors follow the news, they know that Congress is struggling to fund the government and, unless they raise the debt ceiling, the United States could default on its debt. Last week, the headlines told us that intraparty rivals were making it difficult to accomplish anything. Over the weekend, both sides seemed to say that compromise was necessary, and Congress is likely to do the minimum required in the coming weeks.

Investors are also worried about China… and Covid… and dozens of other stories. But the news has always been bearish. Newscasters have said things like “if it bleeds, it leads” for decades, and they continue to lead the news with stories that we now call clickbait. The only difference is that investors are now bombarded with news 24 hours a day instead of seeing it only at 6 p.m. when the networks provided everything they thought we needed to know.

…But The Technical Analysis Says Otherwise

In the short term, I want to ignore the negative headlines and look at my indicators, which tell me to remain cautiously optimistic.

ITV remained bearish for SPY but is at a high level consistent with short-term bottoms. It is leveling off and I expect to see a decline in the value of the indicator by the end of the week.

From its current position, with the indicator so far above the MA (blue line), it remains likely we should see a rally as ITV reverts to its average.

My Profit Amplifier Momentum (PAM) continues to offer support for my optimism. This indicator already reached its bearish extreme and continues moving back toward a “buy” signal. Last week, the indicator showed a bullish divergence when price reached new lows and the indicator was well above its previous low.

PAM is designed as a short-term indicator. It continues to show that bulls are fighting to reverse the downtrend and they seem to be close to winning the battle.

For the short term, based on my indicators, I’m still cautiously optimistic that we are experiencing a short-term selloff in a strong bull market.

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