Monday, July 7, 2008

State of the Market - 7/7/08

A big drop in oil prices caused traders to be optimistic entering into the week, and the market gapped up and opened moderately higher as a result this morning. They rose slightly from there and for the first half hour formed what looked like bullish flag patterns on the intraday charts. Those patterns didn't really materialize, however, and stocks kind of leaked their way lower through the morning hours and into the lunch hour. Around 12:10, the market fell off a cliff and moved sharply lower, turning the early gains into large losses in a matter of a few minutes. No news was on the wires at this time, but the sudden drop did cause a spike in both the VIX and put/call ratios. The USO, after touching support at $113, quickly reversed as oil did the same, and that added fuel to the fire in terms of selling. Stocks hit a temporary low around 1:00 but then basically just stayed in a range for the next two hours. Around 2:50, stocks were able to bust above the range and rally quickly, taking the Dow and Nasdaq positive for the day. It was a powerful bounce, probably caused at least in some part by short covering, but it did fade quite a bit into the close, and the market still finished with losses.

Technically, things continue to get worse, although the choppiness of the market right now makes it quite difficult to predict what is going to happen from day to day. The S&P and Dow broke to new lows today earlier in the session, but the late rally saved them from closing at new lows(but just barely). The Nasdaq and Russell 2000 are not very far from testing or possibly breaking through their 2008 lows, but once again put in somewhat of a bullish reversal. I won't mention the oversold stuff - that is quite obvious to everyone by now. We've had numerous reversals intraday for the last four trading days now, and that makes things confusing.

The Market Monitor numbers that I talked about this weekend continue to get closer and closer to extremes - two of the three main ones are already at very exteme levels but the main bullish/bearish ratio is still not quite there. Back in January, in order for this ratio to turn extreme, the market had to have its huge gap down on the 22nd. That was a mild capitulation day and that still may be where we are headed. The put/call ratio did stay high after spiking intraday and the spike in the VIX held up as well, so there was some fear out there, but the late bounce took care of a lot of that.

I didn't do much today early with my account - went golfing this morning, so I missed the open anyway, but I am not arrogant enough to think I would have shorted the opening gap. The shorts I have left (SOHU, VMW, HK) did OK today and I will continue to ride them lower unless we get some capitulation, at which point I would cover any shorts I had. I added a little to the SOHU and VMW short positions at the end of the session. Both PXP and DECK went lower today, which is frustrating to watch after getting stopped out, but I can't do anything about that now.

I thought hard about shorting a few of the commodities that are so beaten down right now at the end of the session as well, but felt it was worth waiting another day in hopes they bounce a bit more up to their 9 day moving averages. Right now, stocks like CLF, ANR, PCX, JRCC, WLT, X, CMP, and XCO (among others) look like great potential risk/reward shorts if they do bounce just a bit higher tomorrow or Wednesday. I would include some oils in this group but I am already short HK from $51. A small passage from Gary Kaltbaum's commentary this week (thanks to Bear Mountain Bull) stood out to me.

"Let me be clear on this, on Wednesday these areas were taken apart at the seams and some names were down on volume that was the highest ever. This was not Aunt Mary and Uncle Bob selling. This was the big boys getting the heck out of Dodge ... and for me, this is a major sell signal for these areas that have led recently. It is these monstrous volume breaks that I have studied throughout the years, and again let me be clear, this action is a major sell signal ... and for aggressive investors, potential shorts on their bounces up into resistance."

I will have some of these charts up later tonight, as I think they are very good short possibilities that still have a long way to fall. They have run a tremendous amount with a tremendous amount of "hot" money probably still in them. That is where my focus will be in the next few days.

This remains a very difficult market for most players, although clearly the only options remain shorting and cash. Today provided another example of how dip buyers can get destroyed in a bear market, but with all of these reversals, I can imagine a few bears like me have probably covered shorts early as well or are getting trapped by pressing their shorts on the downside with some of these intraday bounces. The last four trading days have had rather large intraday swings both up and down. That makes trading somewhat difficult. But things still are very bad - look at today with oil being down, and stocks could still just not get anything going, and the bounce they had in the last hour turned out to be quite pathetic.

I keep looking for signs of capitulation that might signal a longer term bottom, but don't see enough right now. In my opinion, a major one or two day washout is probably the best thing that could happen to this market, but we can't seem to get that. If we get some capitulation, the chances of a longer-term bounce is much, much higher than it is right now. I am on the lookout for more signs of that happening - as I said this weekend, I think we are getting closer each day, but I have no way of knowing when or if it will happen. My advice is to look for it, but if it never comes, just keeping taking shorts on any bounces to resistance if they present themselves, and please, don't be stupid and try to buy these dips. There is just no way of knowing for sure when if the next dip will be the last dip. If you don't like shorting, just stay in cash. Things will get better someday - probably just not in the near future. Best of luck Tuesday.

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