CNBC’s Jim Cramer on Tuesday broke down a trusted technical analyst’s findings in the chart action of the S&P 500 and volatility indexes to gauge the market’s next movements.
The “Mad Money” host took a pointer from volatility expert Mark Sebastian, founder of OptionPit.com, who cautions that the recent upside in the market is likely ephemeral.
“The charts, as suggested by Mark Sebastian, the big fear — a total collapse of the economy and the stock market — I think has been taken off the table,” Cramer said, “but that doesn’t mean we’re ready to roar. Instead, he’s expecting a choppy market that may give you another leg down as the ugly economic data keeps rolling in.”
The CBOE volatility index, known as the VIX, has been trending downward since mid-March, coming from its peak above 82 to under 46 at Tuesday’s close. In that same time period, the S&P 500 has risen nearly 12%.
The VIX, which typically runs inverse to the S&P 500, is dubbed the fear gauge and is used to forecast market volatility, measuring risk against investor sentiment. Looking at action in both indexes last week, the S&P dropped 5% and the VIX declined more than 10 points for an 18% decrease.
Cramer said that is a telltale sign for Sebastian that peak volatility has been reached and fear is easing.
“Most of the time, when the VIX moves in a tandem with the S&P, it’s a sign that the trend could be about to reverse itself,” the host said. “So when they’re both going down at the same time, Sebastian thinks that’s usually a great buy signal.”
Yet, the S&P 500 surged 7% in Monday’s session, followed by a mild dip to 2,658.85 on Tuesday. Despite that big rally, the fear gauge fell just roughly 1 point on Monday and ticked up again Tuesday, a sign that the rally is fleeting, Cramer said.
He pointed out that the VIX never fell below 43 during the session, even as the S&P 500 was up more than 3% at one point.
“Here’s the problem for Sebastian: It was a good sign when the VIX nosedived along with the S&P 500 last week. It meant the decline in stocks might be temporary, but by the same token, it’s worrisome when the market explodes higher and the VIX does next to nothing.”
The action reminds Sebastian, who is a risk management expert, of the volatile environment of 2008 when the VIX climbed above 80 months before the market bottomed during the financial crisis.
The same, Sebastian suggests, could apply this time around, Cramer said. The fear gauge peaked near 83 in March of this year. The fear has been taken out of Wall Street, but stocks are not ready to put in a “sustained rally,” the host said.
If 2008 is any indication, the market could go through more turbulence until summer, in part because of more negative economic information, Cramer said.
“But, and this is a big but, if VIX doesn’t spike the next time the market rolls over, Sebastian recommends doing some buying into weakness,” Cramer said. “In other words, there’s no need to chase stocks after this week’s rally. You can afford to be patient and buy the dips.”
“No need to feel any FOMO here,” he said.