Tuesday, February 22, 2011

State of the Stock Market - 2/22/11 - "Long Overdue"

The divergences finally came home to roost today on Wall Street, as stocks were taken to the woodshed and posted major losses.   I have been discussing this possibility for a few weeks now but had no way of knowing exactly when it would take place.   Today was the day I guess. The day started with a gap down and a sharp bounce, but when that bounce rolled over around 11:00, it was straight down.   Volume was heavier today giving the indices an obvious distribution day.

Technically, it's never good to see a gap-down below short-term support in the market, and it's even worse when secondary support is broken the same day.   That's what we saw on the Nasdaq today.  My main signal did flash a "sell" today, and one out of two of my secondary signals did the same (waiting on one more distribution day for the other signal to turn).   Although they are not 100% accurate (nothing is), I will respect them.  The S&P faired a bit better as it closed near support and right at a key long-term trendline, but it still wasn't very good.

Sector-wise, financials had a very bearish looking breakdown today and that does not bode well for the overall market either.   Commodity names are looking a little extreme/toppy to me as well here - SLV and XLE are two names that are strong but getting almost parabolic recently.   Watch these for a potential reversal (XLE may have actually put one in today).

Charts from Telechart, Courtesy of Worden Brothers, Inc.

Since I had the day off of work, I posted many of my thoughts and trades on Twitter today.  As a review, I was stopped out of all three oil positions today, but was able to make what gains I could at the same time.  I was out of HDY at $5.90 for a 15.5% gain, out of RES at $18.98 for a 3% gain, and out of BRNC at $8.16 for a 1% gain.   I was also stopped out of RRGB later at $23.76 for a 5.4% gain.

I did enter two short positions today via inverse ETFs and discussed both at one point on Twitter.  I tried to enter one individual short (LVS) but could not borrow any shares.  I saw many big cap stocks today flashing sell signals or showing short setups.  I shared some of these names on Twitter (CRM, VMW, BAC, LVS, AMZN) today.  This is worrisome from a longer-term perspective.  

Today was obviously bad but the key now is figuring out if it is going to be any different than January 28 or not.   That too was an awful day with the indices down about 2.5% on very heavy volume, and of course the market did nothing but go up from that point on for the next two to three weeks.  

As I showed this weekend, there remain a lot of negative divergences out there.   The rally has continued to narrow throughout this month.  Normally, this would lead one to think that a top in this area is a likely event.   Unfortunately, however, with all of the cheap money that has flooded this market since 2009, we aren't dealing with a normal market anymore. 

All in all, it's impossible to know whether this is the beginning of a major top or just a long overdue pullback in a market that was very extended.   We very well may be up 2% tomorrow.  So what's the correct play? 

Personally, I would always rather be safe than sorry, so I am respecting the strong possibility of further downside from here.  The action today was worse from a statistical perspective than January 28 (% loss, selling pressure ratio).  Remember that you can always get back in if today proves to be nothing (as I did starting on February 8).   However, if you hold on and we do correct significantly, you are not only going to give back hard-earned gains, but in many cases, those gains are going to turn into losses.   I would rather be cautious and miss a few points to the upside - I am fine with that. "Do no harm" is the motto you should be taking right now.

Good luck Wednesday - in my opinion, caution is the name of the game and I would not try to be a hero right now.  Shorting may work but I would be very, very careful trying buy these dips.  Actually, I just wouldn't even try.  If this was indeed a one-day event, there will be time to get back in.   Take care.


DrVanNostrand said...

I was watching the S&P support you mentioned MAC its a long term support line combined with the 20dma so if it can't hold then we might get a bigger haircut. The leaders of this rally didn't act well or close well AAPL and NFLX and many others like AMZN GOOG closed at their lows which is not what you wanna see but one day doesnt change a trend so I would caution against running large shorts at this stage of the game.

Mac said...

My short positions are not very large - majority of my account is in cash.

JP said...

My hunch is that the sell-off today was overdone, but I won't be acting on that until the market tells me so. I moved to 100% cash on Friday and am feeling very lucky that I did.

Thanks for the always informative updates.

Mac said...

Thank you JP.