MARKET WRAP UP 05/26/10

In sharp contrast to yesterday, today we saw a strong gap up at the opening bell that was faded for the duration of the trading session, as the S&P 500 finished down 0.57% to close just under 1068.  Whichever reason you choose to finger as the culprit for the weak close, whether it be the weak Euro, Steve Ballmer’s negative macro comments, or an overall broken market, it is crucial as a trader to keep a level head.  Anecdotally, today I noticed many traders on television and around the internet grow extremely frustrated with the market’s inability to turn on a dime and hold its gains.

However, as I noted last night, even if we do, indeed, confirm yesterday’s bullish hammer, we will likely need a few days of consolidation to heal charts and stabilize the market.  Stabilizing a market that has endured the type of technical damage that we have seen over the past six weeks requires an awful lot of capital and patience by the bulls.  So, why not let others step in and do the hard work for us? If the bulls are unsuccessful in their attempts to heal the market, then they will surely be burned, as we could easily be consolidating before completing another leg lower.

In fact, if you look back at the bullish hammer that marked the bottom of the January/early February correction of this year, you will notice several choppy trading sessions after we printed that reversal candle.  To state it simply, the fight was on between the bulls and bears, and eventually the market resolved to the upside.  The best risk/reward strategy would have been to wait for the resolution, and only then allocate your capital to the long side.  Unlike the fast and furious “elevator down” nature of bear markets, a healthy bull market is going to give you better entry points.

It is also worth noting that just because we had a few choppy–and even down–days in early February, that did not negate the hammer that was printed on February 5th.  Similarly, today’s price action does not negate yesterday’s hammer. The updated and annotated daily chart of the S&P 500, seen below, should illustrate the similarities between early February and now.

This analysis should reveal why cash continues to be an ideal position for swing traders right now.  We are still relatively oversold, but we can most certainly form a choppy bear flag and break lower over the coming days and weeks. On the other hand, if yesterday’s bullish hammer proves true, we are still going to need to stabilize this market before moving higher. I might miss out on some quick money to the upside, but I am always looking at the potential rewards in the stock market through the prism of risk.

Hey, don’t take my word for it.  Listen to George Harrison. It’s going to take money, patience and time to do it right.

[youtube:http://www.youtube.com/watch?v=-_niy2ZM5Jo 450 300]

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MARKET WRAP UP 05/25

I would like to focus this post on two main issues:

1) Whether today marked some sort of intermediate term bottom, and

2) Whether we will see confirmation of today’s impressive intraday reversal by the bulls.

Both of those inter-connected issues revolve around the type of candle that we printed on many (but not all) of the daily charts of the leading indices and sectors.

In Japanese candlestick terminology, a bullish hammer often signals a trend reversal.  Above all else, the hammer  (on a daily chart) shows that the price drops significantly from where it was at the opening bell, yet rallies back towards the end of the session up near the opening price level.  Some key elements are: a prior bearish trend, little or no upper wick to the candle, and a small body at the top end of the hammer.

The updated and annotated daily chart of the S&P 500, seen below, should illustrate to you what a hammer looks like, based on today’s price action.

Note that in early February, that particular correction ended with a bullish hammer as well.  However, in order for us to find some enticing swing setups on the long side, we still need to see some follow through by the bulls in the coming days.  What we are looking for is stabilization in many charts of the indices and individual issues.  The most bullish scenario would be to see accumulation by the big institutions, which you should be able to see via strong buying volume, combined with charts building sound bases looking to catapult them higher up through tough resistance levels. Before we jump the gun, however, it is crucial to remember that we are still in a steep downtrend. We should not be making bold bets for anything other than a scalp, until we see more than one impressive day by the bulls.

It is also worth nothing that the market found support today right at the lows of February, in the 1040-1050 range. Although we made a marginally lower low, the bulls still presented themselves in a forceful manner. Thus, the issue of whether today marked any kind of intermediate capitulation remains to be seen in the coming days, but is indeed promising.

As I noted this weekend, the small caps and trannies have been showing us bullish divergences, as neither of them have closed below their respective 200 day moving averages.  Their updated charts, seen below, reveal continued relative strength.  This is particularly promising to the bulls, as both the trannies and small caps are historically market leading/confirming areas.

I suspect that all of these bullish divergences and hammers are causing those of you who have been waiting patiently in cash to lick your chops.  As I noted today, I sold off my remaining “swing scalps,” and I am back to siting in 100% cash, so I, too, am chomping at the bit to get involved for longer term swing trades. However, we still need to hold off for now.  That could change very quickly in the coming days, so the best idea I have right now is to assemble a watch list of charts that have held up well throughout this correction. If we see confirmation, I am eager to start posting extensive lists of individual setups for you again, as I did when we had a healthier market in late February, March, and early April.

Finally, note that the correction we have seen thus far has been more ferocious and technically damaging than any other selloff since the beginning of the March, 2009, bull run.  Therefore, healing the wounds on the charts and forming a healthier market for swing trading is going to take time, and require some tough work by the bulls.  Instead of exuberantly flying in off of the sidelines at a possible reversal, the better risk/reward strategy is to closely monitor the action, looking for signs of stabilization and accumulation.

If the follow through never comes to the upside, however, then we will still be in an ideal, heavy cash position waiting for a true bottom.

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MARKET WRAP UP 05/24/10

After the first several hours of a choppy and low volume trading session, the sellers eventually pushed us lower, yet again, into the closing bell. With the S&P 500 closing down 1.29% to 1073, we are witnessing a market that is frustrating traders across the board.  Not only are we too technically damaged to find decent long setups to ride for several days, weeks or months, but we are also currently too oversold to find good short selling entry points.

The updated and annotated daily chart of the S&P 500 should illustrate these points, seen below.

The good news, for those of you that have been holding high levels of cash, is that the number of traders trying to declare a bottom dwindles each day that we see another heartbreaking selloff into the close.  Thus, the market usually finds a bottom when the dip buyers eventually give up their shtick, out of frustration.  Danny’s latest post cogently summarizes the problem with being an aggressive buyer when the market corrects.

There are a few glimmers of hope for the bulls, as the selling volume today was weak.  Moreover, as I noted in my weekend post, both the historically market leading small caps and trannies have yet to break down below their respective 200 day moving averages. With that said, however, allocating your precious capital based on “glimmers of hope” is categorically not an investing strategy.

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“All commend patience, but few can endure to suffer.” -Thomas Fuller

MARKET WRAP UP 05/20/10

In Japanese Candlestick terminology, today was a picture perfect example of a bearish Marubozu, where the high price of the day on the $SPX was at the open, and the low price was at the close following a steady stream of heavy selling all day.  To state the obvious, the bears were strong and controlled the action from start to finish, as we closed down 3.90% at 1071.  What is most troubling about today’s action is that we saw no indication of any type of capitulation bottom. Rather, we saw continual and feeble attempts at dip buying throughout the day.  Each attempt at a bounce, however, was met with aggressive bouts of selling.  The selling pressure exemplified the shift in sentiment that we have seen over the past several weeks.

During the uptrend since March of 2009, we would go weeks without getting much of a pullback at all, as traders wanted to get long so badly that they were willing to chase performance to the upside.  It is fascinating to contrast that mentality to the one that we are seeing now, where traders view each bounce–however small it may be–as an excellent opportunity to sell longs and reinitiate short positions.

In fact, at one point late in the trading session today, I thought we were setting up for a tradable rally.  I became eager to deploy my 100% cash position to the long side, while (at around 3 p.m.) looking at this 1 Minute Chart of the $SPX:

Needless to say, the final hour obliteration of the inverted head and shoulders bullish setup drives home the point that patience and holding high levels of cash remain the best strategies for swing traders in this environment. Just as the failed head and shoulder bearish top in July of 2009 led to a hugely bullish move, the failure of this bullish setup could lead to further weakness, on a short term time frame (keep in mind this is merely a 1 minute chart).

Moreover, the daily, updated, and annotated chart of the $SPX shows how decisively we took out the crucial 200 day moving average today (see below).

With that said, allow me to couch the bearish nature of this post by clarifying two ideas.  First of all, the fact that we closed for one day below the 200 day moving average does not–in and of itself–mean that you should declare a bear market and short everything in sight. Throughout the 2003-2007 cyclical bull market, there were several times when we closed below the 200 day moving average, and they turned out to be great intermediate term buying opportunities in hindsight.

The second point to understand is that we are testing the 50 weekly moving average for the second time this month. On May 6th, a day of apparent chaos with robots sending billion dollar firms to $0.01 per share, the market found support precisely at 1065. That price happened to coincide with the 50 weekly moving average.  That reference point is still sloping up, and we are currently at that level again (1072), so it will be interesting to see if we have a similar type of reaction in terms of the market finding a bid there.

The weekly chart of the $SPX, seen below, should illustrate the significance of both the 200 weekly moving average in terms of resistance, and the 50 weekly moving average in terms of support.

I know that I have focused this post entirely on the S&P 500.  The reason why I have done so is because we are seeing indiscriminate, macro type of selling here.  The market could care less that $GMCR has an amazing group of products with fabulous long term growth ahead it, as with $CREE, $WPRT, $VLTR and $VECO. The charts of all of those stocks are broken.  When the broad market begins to stabilize, then we can go back to the fun part of swing trading by rewarding those fast growing firms with our capital, and having them reward us with huge gains.

For now, however, in order for us to bank coin at a later date, we need to preserve the coin that we currently have.

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Market Wrap Up 05/19

For the third time this month, we came perilously close to losing the 200 day moving average, as the $SPX closed down 0.51% to finish at 1115. The 200 day m.a., currently at 1102, is a reference point that is widely viewed as being the line in the sand, helping us to separate bull from bear markets. In fact, on this very website you will find one of the most successful trading systems around–Woodshedder‘s Power Dip System–which relies heavily on whether we are closing above or below the 200 day moving average. Thus, the significance of that reference point cannot be ignored by even the biggest of pocket protector economists.

Although we managed a decent bounce to close above the 200 day m.a., we have yet to see the bulls reenter the market with anywhere close to the same kind of vigor that they showed back in February, when the 150 day moving average was the key support level at the bottom of that correction.  Indeed, the longer we churn around this level, the more likely we are to eventually break below the 200 day moving average, which would likely beget even more selling.  The daily, updated, and annotated chart of the S&P 500 should illustrate these points, seen below.

One common mistake that traders make is to assume that the market will automatically reverse from a downtrend, and subsequently rally, after testing a major moving average.  These misguided traders often place limit buy orders at a given moving average, or aggressively buy via a market order the moment we test it.  I believe that this is a long term money losing strategy.  Keep in mind that moving averages are merely reference points that should be helping you gauge the underlying strength of the market.  Moreover, because major moving averages, such as the 200 day m.a., are being keyed on by so many traders, the more likely scenario is that we will not bottom there.

“When everyone thinks alike, no one is thinking.” -John Wooden.

Over the past week or so, I have shown you various charts of broken stocks and sectors.  So, you would think that shorting here would be a slam dunk.  The problem with that idea is we are oversold.  In fact, being oversold is the best argument that the bulls have right now.  Thus, aggressively short selling is probably not correct here.  At the same time, our rally attempts have been notably impotent. To go long for even a quick one or two day bounce does not seem worth the risk at this point, given the choppy price action.

Above all else, this is still not a market for swing trading.  Anecdotally, I am seeing many people eager to play a bounce, or call a bottom.  This goes back to the point I made yesterday, about the importance of not becoming emotionally attached to either the “this is 2004,” or “this is 2008 redux” camps.  Moreover, many traders had been expecting a pennant or tightening wedge to form in the coming days, as I noted in yesterday’s wrap up.  However, the violent price swings and uncertainty are going to have to abate first, before we can form any kind of constructive chart pattern.

Top Picks: Cash and Patience

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With the recent news driven nature of the market, a wedge has been drawn between various traders, commentators, economists, etc.. There are those who think that we are simply experiencing a healthy pullback that is part of the wall of worry just like we saw in 2004, during that cyclical bull market.  Those people insist that the headlines coming out of Europe and other parts of the world are blown out of proportion, and that investors should show some gumption and buy the dip.  The other school of thought is that everyone has their eyes wide shut at how bad things truly are, and how bad they will soon become. They believe that we are in for another round of a 2008-style deflationary crash…or worse. The wild price swings, increased volatility and selling volume all illustrate the unease and uncertainty with which the market has had in trying to reprice equities commensurate with the risks associated with Europe, China, etc..

Until we find out which group is correct, I believe it is best for individual traders to avoid becoming emotionally attached to either thesis.  The price action, volume, and other indicators have been doing a solid job leading us into holding a large cash position thus far, and there is no reason to expect the charts to betray us now.

The daily, updated and annotated chart of the $SPX illustrates the problem with trying to time an inflection point, as many traders did with the possible bullish hammer printed yesterday.

About the only positives that I see for the bulls are that we are oversold again, and we did not take out yesterday’s low, just south of 1115.  We are also still above the 200 day moving average.  Notice how the 1150 area (pink horizontal line) is turning into heavy resistance again, just as it did in January.

As I said earlier today, I see unfavorable risk/reward profiles to both longs and shorts at this point in time.  One possible scenario is that we narrow our current trading range over the next few days, forming a wedge or pennant that eventually resolves sharply one way or the other. Another scenario is that we will have an imminent test of the 200 day moving average–just above 1100– in the next day or two, which should offer a chance for a tradable bounce.

If we see any kind of dead cat bounce in the next few days, one area that I believe is setting up for a good short trade is the casino sector.  I mentioned $WYNN yesterday as showing a weak chart, and I believe $MGM and $LVS are comparable.

Despite the above short ideas, there is nothing wrong with taking a pass on making any trades right now.  This market is chopping up many overly aggressive and overeager traders, and you can be sure that the brokers are racking up huge commission fees with all of this volatility.

Michael Jordan often used to say that one of his keys to success was that he let the basketball game come to him. In other words, he stopped trying so hard to force good things to happen during the game, and he instead waited for good opportunities to present themselves before asserting himself.  The same can be said now–let the market come to you.

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