Monday, May 19, 2008

State of the Market - 5/19/08

Kind of a boring open today for the stock market, but that didn’t last too long. The indices popped higher about 15 minutes into the session and did nothing but rise throughout the rest of the morning. This action put the Dow and S&P 500 over their 200 day moving average, joining the Nasdaq. After resting sideways through the lunch hour, the market tried to break to new highs right before 1:30, but this breakout failed, which led to a flurry of selling, particularly on the Nasdaq, which fell 37 points in about an hour. The indices tried to bounce around 2:30, but just formed bear flags on the intraday charts and broke through those at 3:30. Only a very late bounce allowed the indices to finish off their lows for the day. Volume was not as heavy as Friday on the S&P 500 because of options expiration, it was higher on the Nasdaq, giving that index a distribution day.

Technically, much like last Wednesday when the Nasdaq first popped above its 200 day moving average but reversed strongly in the afternoon, the S&P and Dow both climbed above that average this morning, but the afternoon reversal put them right at this key average at the close. However, the S&P 500 did finish above the 1425 area that was resistance last week, and the Nasdaq did hold right at its 200 day as well. The Russell 2000 still has not been able to close above its 200 day moving average. This morning, the Nasdaq and S&P touched the top of the bearish wedges I showed this weekend, but then obviously reversed so it is possible we are due for a pullback over the next few days. As long as short-term and even medium-term support levels hold, however, I don’t want to get too bearish on the market right here. Look at last Wednesday – things looked very poor but then the Nasdaq climbed higher the next day.

Although they didn’t close well, these momentum stocks from China just keeping chugging higher. I hope you took notice of the three I pointed out last night – CHNR, CTDC, and EFUT all had great moves early in the morning. I entered CTDC soon after the open because it had the strongest action in the pre-market, but really it was just a guess between those three. I was stopped out later in the day because of the afternoon reversal for a 4.2% gain. CPSL had a great morning and I am very happy I took the position at the close Friday. I closed it out at $7.39, which gave me a 23% gain. I obviously made a mistake getting rid of it as early as I did, but that is how I feel comfortable playing these mo-mo stocks – they aren’t long-term holdings and I am just trying to catch some quick moves, which I was able to do. Ironically, I didn’t use a trailing stop on this – just watched it and sold it – but I would have caught more of the move if I did this. The late action today however proves what I have mentioned for the past several days - you need to tread very carefully with these type of stocks and make sure they are just short-term plays. They can reverse at any moment, like we saw today, and when they do, it is usually pretty ugly.

My other positions were mixed, but PSEM finally broke out and finished near its highs for the day, even with the afternoon reversal. Both OFI and DGLY put in some bad-looking reversals on higher volume, so I may decide to sell some of them, at least if they head lower from here. DGLY has a pretty clear support level from what I see and if it finishes lower than that, I will likely change my opinion and get out. I don’t like the volume on this move lower today.

I stated in my post yesterday that I was seeing many stocks start to go parabolic here over the last week, and that type of climactic action continued today. The lower-priced, lower-float stocks like CPSL and CHNR continued their torrid moves, and I have mentioned this is a possible warning sign for the market. More concerning is that anything related to shipping, solar, or energy was just ramping up at a frenzied pace, a pace that is unsustainable. I am not complaining, because I have been able to make some money off these stocks, but the moves that were being made in these stocks cannot continue at current pace for much longer, and today was proof of that. Stocks like DSX, DRYS, TBSI and CSUN had awful-looking reversals and prove that chasing stocks is not a smart thing to do. Are they done? I don’t know for sure – look at DSX and TBSI on October 11, 2007 – same bearish reversal, but they continued higher for the next five sessions in climax runs. That is certainly possible, and I didn’t think about shorting any of these yet, although who knows, maybe they are done here. The main point I take from the charts mentioned above is that things are very frothy out there, and it is very possible we are starting to put a top in here.

That being said, with as many shorts as there are out there, I would be surprised if we headed straight down from here. I think if we are topping, it will be a process, much like October 2007 was. The market still has to get those bears that are shorting every rally to cover and go long before it can turn lower for good, at least in my opinion. As always, the key will be volume and distribution – if we start getting some (and today we did on the Nasdaq ) then this rally will likely be over. If volume is soft on any more selling we have, then a pullback might just be a buying opportunity. Watch the short-term support levels I mentioned Saturday and see if the market holds them.

In some ways, today reminds me of that October 11, 2007 session, where, after moving higher on low volume for almost two months, stocks were up big in the morning but reversed hard in the afternoon as many leaders were getting very extended. Those leaders did continue higher for a week or two, but some distribution came into the market, and eventually those leaders topped and the market headed lower. The same scenario is certainly a possibility here. If nothing else, I would tighten my stops and be very careful in initiating any longer-term positions. I did not short anything today and will wait to do so, but will also start looking just in case things do turn lower. I will be back later with some charts. Best of luck.

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