Tuesday, April 8, 2008

State of the Market - 4/8/08

Due to disappointing earnings reports by Alcoa and AMD, the market opened weaker today and things look bleak for the first half hour or so. However, as has been the case recently, the indexes soon found some buyers and took back most of the early losses as the morning progressed. This occurred in the face of even more negative headlines in the form of news that pending home sales fell to the lowest reading since the index was started. Bulls had to be encouraged to see that the markets continued to be unfazed by negative news headlines. The market remained pretty much in a holding pattern from lunch until the middle of the afternoon, when the Fed minutes came out and the indexes dropped lower out of their midday range. A late bounce took the market off its lows, and all indexes finished with medium-sized losses. Volume appears to be lower as well. Once again, today looks like a day that could have been much worse for bulls, but it wasn’t, and that’s important.

Technically, the two major indices bounced off of and held short-term support at the 2339 level for the Nasdaq and the 1359 level for the S&P 500(see charts below). They also got short-term support at their 9 day moving averages. I stated yesterday the key for me will be the type of pullback we will have, and based on today, the bulls definitely have reason to be happy. I still think we need to keep pulling back at this point based on indicators I see. This morning, I saw in my early scans that 30 stocks have been up over 50% in the last month. This is one of the scans in the Market Monitor and typically when the number gets over 20, it signifies unsustainable momentum, at least in the short term, and that a pullback is imminent. This is one of the reasons I felt we would start doing so today. However, as long as the selling remains contained like today, then I think a pullback here will turn out to be a buying opportunity, at least for the short-term. I will pay attention to the levels in the chart and if they can continue to hold, I will be very impressed.

S&P 500
Charts from Telechart2007, Courtesy of Worden Brothers, Inc.

Even though the short-term outlook is currently a bit up in the air, my longer-term outlook remains the same. In looking at the Fed minutes from today for a second, they reaffirm somewhat my belief that, right now, we are in the middle or end of a bear market rally that will still lead to lower prices at some point in the near future. I have heard numerous times over the last two weeks of how the stock market leads the economy and not vice versa, and how the negative headlines out right now don’t really matter because the market is a forward-looking mechanism of up to six months, and I understand and agree with all of these points. I have to think, however, that although the Fed cannot see into the future (that’s pretty obvious by their actions this entire decade, isn’t it?), they would not voice all of the concerns they did if this was to be just a slowdown or even a quick little recession. Some of the statements that stood out to me from the notes include…

Some members fretted over the possibility of a ‘prolonged and severe’ economic downturn.” - this is the first time I have heard this possibility actually acknowledged by the Fed.

“With the uncertainties in the outlook for both economic activity and inflation elevated” - Can anyone say “stagflation”, which Bernanke said won’t happen a few months ago?

"Further restriction of credit availability and ongoing weakness in the housing market," - After all of the strategies the Fed pulled out of their hats in the first quarter, the credit market is getting worse instead of better??? What about this bottom for housing we are always hearing about???

I think what this tells me is that no one, including the Fed, have any idea how bad things really are or how bad they are going to get, and this is the real problem. My thoughts are that there is hope out there that all of these rate cuts, the boost in liquidity from the Fed, the stimulus package, etc. will somehow be enough to bring us out of this economic downturn relatively unscathed. So hope has brought us off of our lows for the year, along with some extreme investor pessimism, but what happens when more economic data (earnings season, anyone?) tells us that the problems we have are much deeper, and will take much longer to solve? Perhaps we do hold here, this really is the bottom, and everything is going to be just fine. The Fed minutes did not give me those feelings, however, and I still have to go with my supposition that this rally we have had the past month or so will at some point lead to more selling and another leg down.

Based on today’s action, I plan on tightening my stops on the shorts I took yesterday and simply managing those positions. Bulls have a right to be happy after today – with negative earnings and negative headlines, we only saw light selling - but I would like to see us pullback further or simply move sideways for a few more days before feeling safe in taking some swing trades on the long side. If we start selling off in a more severe manner (which to be honest doesn’t look likely after today, but you never know), I am still willing to add to my shorts. I want some confirmation before doing so. Right now, it seems like we're in a little range here and perhaps we''ll break out later this week. Until we do, patience remains a good idea. Good luck.


LgSarge said...

Max I am a fairly new trader and happened upon your blog a few days ago. Thanks for the insight pertaining to the market and the charts showing what you see. That info helps to verify or question things I am looking at. May have questions down the road if you are open to them.

Mac said...

I am glad to hear you enjoy the blog. Feel free to ask questions and I will do my best to answer any and help you out.