Money flow is starting to noticeably diminish in major American markets including the S&P 500.
If we examine historical records, we notice that there is a repeating theme of divergent money flow and higher stock prices. Once stocks reach overbought levels on weekly charts, they frequently reverse strongly. Analysis of the last pullback in the S&P shows daily money flow divergence and then a 12% correction. If we extrapolate a similar reaction on the weekly charts, the correction could be 2.5 to 3 times larger. This suggests a correction in the 25 to 30% range, which is bear market territory. While we do not expect and immediate reaction to the downside, the signs are there that something is not right under the hood of the market.
Confirming our view is the sell off in risk adverse assets such as gold in recent weeks. Gold stocks in particular have a very interesting set up with strong divergence and extremely negative sentiment. Given this combination in both markets, it is our view that a strong sell off in the market will cause money rotation into risk off assets like gold, gold stocks, and bonds quite soon. If historical precedent is any guide, the reaction in gold stocks should outperform the December 2015 to July 2016 run up where GDX more than doubled in seven months.
All that is required at this point is a trigger event.