StockCharts Blogs - ChartWatchers

VOLUME TRENDS REVERSE; H&S PATTERNS EMERGE

In my latest article on October 18, I provided a very cautious tone but noted that volume trends remained strong - good news for the bulls!  Well, short-term volume trends now have turned negative, though the really key long-term price support levels remain intact.  A couple damaging technical developments make the end of week rally very suspect.  In the chart below on the NASDAQ 100 (or NDX), check out several annotations of significance:

 There's a lot of information on this chart to digest so let's address each item, one at a time.  First, notice since the March lows, we've seen the daily MACD break below its centerline only twice - once in early July and the other just recently.  The MACD centerline breakdown in July was accompanied by a breakdown beneath the 50 day SMA as well, just like we're seeing now.  The big difference though, in my view, is that the volume that accompanied the breakdown in July was extraordinarily light.  Recently, our breakdown has occurred with the heaviest down volume since the March lows.  This is a big red flag until it's resolved with a heavy volume breakout to the upside.

Next, notice the bearish head & shoulders pattern that has developed.  This pattern is not confirmed until we see a breakdown beneath the neckline on heavy volume.  Bottom line, the bears' work is not done yet.  It is, however, a beautiful symmetrical head & shoulders pattern, the easiest to identify visually.  Here are some of the key attributes of this head & shoulders pattern:

(1) Downsloping shoulders (from left to right) thus far, generally more bearish than upsloping shoulders
(2) Left shoulder peak = 1754.54
(3) Right shoulder peak (thus far) = 1733.22 (lower than left shoulder)
(4) Downsloping neckline, generally more bearish than upsloping neckline
(5) Left side of neckline = 1656.57
(6) Right side of neckline = 1652.44 (lower than left side of neckline)
(7) Distance between top of head (1780.83) and right side of neckline (1652.44) = the potential measurement on a breakdown, or 128.39 points
(8) Target on breakdown = right side of neckline (1652.44) minus measurement (128.39) = 1524.05.

The target on a potential breakdown is very interesting because it would represent a level that is less than 1% above the July breakout level that was never retested.  One of the basic tenets of technical analysis is that a price resistance level, once broken, becomes price support.  Usually such breakouts result in a later retest of the breakout level.  In the case of the July breakout, however, we have yet to see a retest.  This is the primary reason why I believe a short-term breakdown, if one were to occur, may only be temporary to backtest the July breakout.  I still view the July breakout level to the be biggest technical price support level on the various indices and sectors.  A head & shoulders breakdown could lead us exactly where we need to go technically, at least from a price support perspective.

The reason for studying the NDX instead of our other major indices is quite simple.  The NDX is comprised of many of the higher risk, higher beta names among the medium to large cap companies.  When market participants have an appetite for risk, the NDX begins outperforming the S&P 500.  We normally see this outperformance just before major bottoms are formed.  Likewise, the NDX usually begins to underperform the S&P 500 just before tops are reached.  So a quick review of the relative performance of the NDX vs. the S&P 500 can yield very important clues about how market participants view the market.  In our world at Invested Central, this is one of many "under the surface" clues we regularly watch to identify changing market conditions.

Below is a relative chart that dissects the performance of the NDX relative to the S&P 500.  Check out the chart and explanation below:

 A few items stand out and are explained as follows:

Point 1 - represents the peak of outperformance by the NDX, just one month before the market's major meltdown that kicked into full gear by mid- to late-September 2008.

Point 2 - notice that in November 2008, the NDX began to outperform the S&P 500, a few months BEFORE the S&P 500 actually bottomed.

Point 3 - outperformance by the NDX on a relative basis was significant from November 2008 to March 2009 as the S&P 500 bottomed.  Investors were showing their appetite for risk long before the market bottomed

Point 4 - By late April/early May 2009, this relative ratio was hitting levels that we're still failing to break above, a potential warning sign.

Point 5 - currently, this is the biggie.  As the major indices continue to break out month after month during this uptrend, why isn't the NDX outperforming?  I believe the appetite for risk is waning despite the higher equity prices.  If this relative ratio falls back beneath 1.55, it would signal a major shift in market sentiment.

Bottom line, the warning signs are out there and watching the price/volume trends turn negative short-term adds to our cautious stance.

Happy trading!

SAFETY FIRST

It's very easy to get caught up in the euphoria of this market run.  I'd be careful to do that.  Invested Central turned from aggressively optimistic to cautiously bullish in early May and we've maintained that more cautious stance since.  Call us conservative if you'd like.  We view it as a compliment.  After all, if we don't protect our capital, who will?  Does anyone believe the folks on Wall Street have our personal best interests in mind? 

 

As I've mentioned in recent articles, price/volume trends are bullish near-term.  That can be all you need to forge to higher levels.  But we cannot ignore some of the risks associated with the market.  I like to follow the equity only put call ratio ("EOPCR") as an indication of market sentiment.  Currently, the 60 day moving average of the EOPCR is at .59.  Since the CBOE began providing the data, this ratio's lowest 60 day level has been .56.  Low levels mark investor optimism and overconfidence and generally sends red flags flying high.  Take a look at the 6 year weekly chart of the S&P 500 (coming off of the 2000-2002 bear market).  I've plotted the two .56 readings that have occurred:

 

It's important to note that extreme levels of investor optimism doesn't have to send the market plummetting.  It USUALLY suggests that we've simply come too far too soon and that the market could use a pause, or breather if you will.  Those last two readings of .56 that were plotted above didn't have any long-term implications.  Rather, the market rested for awhile after complacency set in.  Once complacency was no longer an issue, the uptrend resumed.  We're still relatively optimistic and bullish the intermediate- to longer-term, though we have lines in the sand should the market begin to fall again.  Everyone should have their battle lines drawn.

 

We're not to that .56 level just yet, but getting closer.  For only the second time since the CBOE has been providing the equity only data, the DAILY equity only put call ratio has been at that .56 level for 10 consecutive days.  I do want to point out that it may take a few weeks of continued optimism for the equity only moving average to hit .56.  So we have to trade what we see.  That means continue thinking long for now with price/volume trends bullish.  If you're nervous about the market at current levels, taking a breather and sitting in cash is not a bad option.  The major point here and in my most recent articles is that while the market remains on a buy signal, we need to view the clouds on the horizon with caution.  There may be a storm brewing in the distance.

 

Happy trading!

Major Indices Hit Major Resistance and Fail

I've cautioned recently about the risks of being long in the market.  There were too many warning signs.  Yes, the market could have kept its head down and pushed to higher levels.  But that wouldn't have been the healthy way to extend the recent uptrend.  Many of the major indices failed at critical long-term resistance and now must regroup from lower levels as they approach key short-term support levels.  I'm featuring a few key indices/ETFs in order to highlight the importance of the resistance levels tested.  Check these out below:

I used the SPY chart above instead of the S&P 500 in order to reflect the gap resistance present on SPY that doesn't appear on the S&P 500 chart.  Notice how the price of SPY climbed almost exactly to the top of that gap before failing and rolling over to the downside.  Sellers were lined up at that level, knowing full well that a close above gap resistance would likely trigger more short covering and more technical buyers.  The failure on this first test should come as no surprise.  You can also see that the technology-laden NASDAQ and the economically-sensitive transports also failed at key resistance.  Given the recent overbought conditions, negative divergences on the MACD, and complacency readings on the equity only put call ratio, a pullback was very much needed.  In my last article, I indicated the record number of equity calls traded on September 16th and 17th.  Take a look at the NASDAQ 30 day chart below to understand why following this sentiment indicator is so important.  The combination of a very low equity only put call ratio AND the high volume of options traded suggested that an important top was forming, just as it did in early May.  While the top didn't occur exactly on September 16th/17th, the market had little fuel in the tank after the extreme complacency readings that were mentioned two weeks ago.

Many of the red flags that have tormented the market the last few weeks have been eliminated, making it easier for the uptrend to resume.  However, we must all be aware of the fact that the July breakout occurred from much lower levels and that the 50 day SMA may not necessarily hold as support near-term.  A final line in the sand should be drawn at the price level where June highs were eclipsed during the July uptrend.  That's your critical price support level.

Happy trading!

As Risks Rise, Discipline and Stock Selection are Critical

In a perfect world, we'd all invest every dime in winning stocks each and every trading day.  Unfortunately, I haven't seen that kind of trading world yet.  So as we approach each day, we must assess the risks in the market and determine an appropriate trading strategy.  At times, it makes good sense to go "all in".  But most of the time, the nature and size of our trades should be based on the risks inherent in the market.  I've discussed some caution of late and I maintain it.  It doesn't mean the market cannot go higher and that you cannot trade on the long side.  It simply means you should do so much more selectively and with stops in place.

The good news is that price/volume trends remain very strong and this indicator is the most important of all, bar none.  There's a laundry list of negatives that we must respect though.  The MACD has been negative on the daily chart across all of our major indices for the last 3-4 weeks.  There's also a negative divergence on the 60 minute charts, as the NASDAQ chart below shows:

 

Stochastics and RSI are both near-term overbought across our indices as well.  They could use a pullback to help consolidate recent gains.  Without a pullback, the overbought conditions last longer and generally encourage a steeper selloff when one finally occurs.  I'd prefer to see a little unwinding of these oscillators now rather than later.  Historically, we've entered the third worst period of the year on the S&P 500.  Only one week periods in October and July have produced worse results historically than the period we're in.  So far, this period is holding up well, but we have another week or so to negotiate before we can call it a success.

Finally, and perhaps most importantly, the masses are jumping into equity options on the call side.  This is a MAJOR warning sign to me as retail traders, unfortunately, rarely walk away with the pot of gold.  The Friday that options expire usually carries very heavy volume on both the equity call and equity put side.  I tend to follow the equity call and put activity on days other than option expiration Fridays.  In early May, I saw record levels of equity calls traded.  In fact, May 7th (this day marked the top for awhile) held the record for most equity calls traded on a non-option expiration Friday.  When longs start to believe the market cannot go lower, it does.  The May 7th record of equity calls traded was broken this past Wednesday, September 16th, then challenged again on Thursday.  I'm seeing way too much complacency in the market.  I've seen many in the media saying that no one believes the market can go higher, therefore it will.  While that's nice to say, I simply can't find proof of that by looking at options.  I'm seeing the exact opposite - equity option traders don't believe the market can go DOWN.  That ALWAYS makes me nervous.

Can the market go higher from here?  Absolutely, and without a trace of pullback too.  Overbought can stay overbought.  There are NO guarantees in the market.  Would I be "all in" expecting that continued bullish behavior?  Absolutely NOT.  The risks are too high.  I believe you have to be very, very selective in trading the market at this level.  While shorting has been a practice in futility for several months, the money has been made on the long side during this stretch.  I continue to look for the stocks with the very best volume trends, suggesting accumulation.  The best time to enter those stocks is either just as they make a new breakout on confirming volume OR on a pullback to retest a previous breakout level or a major moving average.  Personally, I prefer the latter as risks are better and more easily controlled.  One feature that we've added at Invested Central over the past 6-7 weeks is a Chart of the Day.  These charts are designed to be highly educational and they focus on finding candidates that possess many of the reward to risk characteristics that I look for.  You can check these charts out daily at CLICK HERE.

During our national radio broadcast, we discuss the Chart of the Day as well at 8:42am EST.  CLICK HERE to follow us LIVE on the air each and every trading day from 8:00am-10:00am Monday thru Friday.

Happy trading!

CHINA MAY HOLD SOME CLUES

China's Shanghai Composite index is swinging wildly in both directions, reminiscent of the 1999-2002 moves by the NASDAQ.  From a long-term perspective, you can clearly see that trends in both directions have been exaggerated.  Any time that we've seen impulsive moves in one direction or the other, we have seen follow through in that same direction.  From the mid-2005 to mid-2007, the impulsive moves were up while the corrective moves were down.  From the peak in 2007, just the opposite occurred with impulsive moves lower.  Take a look at the chart below and study the monthly swings in this index from mid-2005 up until now:

It's impossible to ignore that impulsive move down last month.  Thus far in September, the Shanghai is rebounding.  Will it last?  Well, some of the short-term strength was suggested by the MACD histogram on the daily chart, which printed a positive divergence on the latest move lower in China.  The chart below is a three year chart and it shows the positive divergence on the MACD histogram and a triangle formation to keep an eye on:

The MACD histogram measures the distance between the MACD (thick black line) and its 9 day moving average (thin blue line).  So while prices were falling on the Shanghai and the MACD found new lows as well, the MACD histogram indicated that the MACD was not dropping as fast as its 9 day moving average, an early hint of an impending reversal if you will.  I prefer to see the positive divergence develop on the MACD, but I do take note of divergences on the histogram as well.

The Shanghai gained over 100% off of its October 2008 lows and started its climb well before the S&P 500 bottomed.  I find the sudden drop in Chinese shares somewhat alarming and would feel much better about the S&P 500 if the Shanghai breaks out of its current triangle to the upside.  Could the recent fall in China be a precursor to another quick drop here in the U.S.?  Well, I wouldn't rule it completely out, though we must remain focused on the here and now, not what could be.  So long as the major indices in the U.S. continue their uninterrupted climb and key price support levels are not lost, then I assume pullbacks can be bought.  Personally, I'd like to see additional selling on the U.S. indices down to their 50 day SMAs, a drop that would in my opinion reset the MACDs near the centerline and provide a better opportunity for another upside move.  A breakdown below the 50 day SMAs on increasing volume should absolutely be respected.

Price/Volume trends have remained bullish for the last several months.  However, that did begin to change over the last week as heavy volume accompanied selling after good fundamental news had been reported - ie, Intel's (INTC) raised guidance, higher pending home sales, much higher ISM reading.  As I always like to say, it's not the news that I focus on.  It's the market's REACTION to the news that's important.  I am short-term neutral to slightly bearish, while bullish the intermediate-term.  September has finished lower 35 of the last 58 years on the S&P 500, the only calendar month to finish down more than up since 1950.  It is the worst month of year, bar none.  History can, and many times does, repeat itself, so tread and trade lightly.

Happy trading!

CAUTION IS ADVISED NEAR-TERM

Two weeks ago, I pointed out what appeared to be the early stages of a new trend of outperformance by the financials and suggested they might be primed for a move higher to rescue the stumbling stock market.  Right on cue, money rotated back into financials and we saw the Dow Jones US Financial Index rally nearly 10% in one week, breaking out above its May highs.  That spurred the S&P 500 to its highest level since mid-October 2008.  Therein lies the problem.  We've now retraced much of the collapse from late September and staying aggressively long at key resistance is not a good reward to risk proposition in my opinion.  The S&P 500 may ultimately break out and move higher, but let's deal with that when and if it happens.  For now, check out the resistance on the S&P 500 chart below:

 In addition to the price resistance, I've also plotted the 5 day moving average of the equity only put call ratio at significant short-term tops and bottoms in the S&P 500.  Any time this average drops below .60, a red flag is raised in my view.  It doesn't mean the S&P 500 will top as complacent readings have erred in the past.  However, it does make me aware of a possible short-term trend reversal.  Given the critical price resistance that the S&P 500 is battling right now, the significant number of net in-the-money calls that exist just one week before options expiration, and the rather complacent equity only put call readings of late (just hit .56, a 2009 low), we removed all exposure on the long side on Thursday and actually began shorting using a juiced ETF.  I feel the timing is right because we're at critical price resistance.  If the S&P 500 breaks out, it's a quick minor loss and we'll be back to cash looking for other opportunities.

Every month at Invested Central, we host a "max pain" chat the Sunday night before options expire.  This Sunday is no different.  Because there are so many stocks currently trading above their "max pain" levels, we'd like to invite anyone interested to join us as we discuss the theory behind "max pain" and its usefulness in trading during this one week free-for-all.  If you'd like to join us Sunday night, simply click here.

Happy trading!

FINANCIALS TO THE RESCUE?

During the initial phase of the market recovery, from the March lows to the early May highs, financials were a primary driver of the move.  Since that time, financials have lagged badly as sector rotation has caused money to flee to other, better-performing sectors over the last 8 weeks or so.  However, the relative outperformance that financials enjoyed in the Spring has returned of late.  Will it continue?  That's hard to say, but our first major clue is upon us.  Check out the following chart:

Should the sector break above key near-term price resistance, it would be prudent to look for companies within the sector primed to participate.  One such stock could be E*Trade Financial (ETFC) - for two reasons.  First, let's look at the one year chart:

More interesting, however, was the trading in the last 15 minutes on Friday as volume exploded on ETFC.  Check this out:

Over the last 90 days, ETFC has produced average daily volume of 47 million shares.  In the last 15 minutes of trading on Friday, ETFC traded 38 million shares.  Will there be news to account for such heavy volume?  It's impossible to say, but if technicals precede fundamentals......

Given the possible breakout on financials, I scanned the financial universe, searching for potential short-term trade candidates within that sector, to benefit from any additional strength in the group.  For the more aggressive active trader, I also used scans searching for small dollar stocks in the $1-$5 range that are showing increasing volume trends and other positive technical signs.  To access these trade candidates, complete with my technical commentary, click here.

Happy trading!

Semiconductors Continue As Relative Leaders

This first chart really says it all:

 Semiconductors are trying to break out on a relative basis.  They're trying to do it at a time when the major indices are attempting breakouts of their own.  A combination of a relative price breakout in semiconductors while at the same time breaking out across our major indices would be very bullish for equities, arguing for much higher prices.  Will the breakouts occur?  Tough question.  We'll need a catalyst.  Intel Corp (INTC) provided the boost necessary to jumpstart the SOX and send it to test previous highs.  The chart below shows us the nice price action in the semiconductor group over the past several trading sessions:

 The USD tracks the Dow Jones U.S. Semiconductor Index (DJUSSC) at a 200% clip.  The DJUSSC was up 16.74% from the low on July 8th to the high on July 16th.  The USD, designed to double those returns, posted gains of 35.69%.  That was actually slightly more than double.  It's the beauty of compounding returns.  Anytime you can identify a trend in an index, playing that trend with juiced ETFs makes perfect sense so long as you understand the leveraging nature of the beast.  When underlying indexes are in trendless periods, moving back and forth, these juiced ETFs are DEADLY.  The only time you want to hold juiced ETFs is when the trend is moving in the direction you're looking for.  When the trend stops, you must move to the sidelines.

On Wednesday, July 22nd, at 4:30pm EST, my partner John Hopkins and I will be having a LIVE webinar specifically designed to uncover the secrets of successfully trading juiced ETFs.  It is a FREE webinar.  We'll spend plenty of time detailing when you want in and when you want out of these highly volatile ETFs.  The longer you hold, the more "slippage" you'll experience as the juiced ETFs are specifically designed to follow at a 200% clip so long as a trend is in place.  Once the trend changes, all bets are off.  If you'd like to register for this FREE event, click here.

The bulls have been in charge since the March lows.  Specifically, the NASDAQ has barely cleared a key 38.2% Fibonacci retracement level from the October 2007 high down to the March 2009 low and is now approaching significant gap and price resistance levels as illustrated below:

 It is going to be very interesting to see whether the bulls can maintain control of the market as we enter into the worst period of the year historically (mid-July through late September).

Happy trading!

CORRECTIVE MOVE OR SIGNIFICANT DOWNTREND?

I believe it's the former.  Thursday's selloff after the June Employment report was a bit scary, particularly if you're only looking at the magnitude of the point losses.  But, in my opinion, no key support levels have been violated.  That means the beginning of next week will be worth watching.  We have been in the midst of an uptrend for the last few months and we are still in it.  We have a series of higher highs and higher lows off the March lows that has not been broken - yet.  Therefore, I say we play the trend at hand, which still is higher.

There were plenty of warning signs recently as to a short-term top - VIX hitting support, negative divergences on the daily MACD across the major indices, overbought conditions, light volume on early June highs, lack of participation from key sectors that led the rally since March, like financials and consumer discretionary stocks.   Those warning signs did, in fact, lead to a short-term top.

This begs the question - is the bullish move off the March lows over?  To be honest, that's a tough call.  I'd place about a 60-40 chance on the major indices putting in higher highs during July.  If it happens, it will most likely happen within the next two weeks as historical indications tell me that this period is the strongest in July, except for perhaps the last couple trading days of the month.  Once we get past mid-July, all bets are off as we enter the third most bearish period historically in the market.  Dating back to 1950, there's a one week period in July, just past the mid-point, where the S&P 500 has produced annualized LOSSES of 36%.  That trails only bearish periods in September and October.

The market has a lot of reasons over the next few months to sell off.  Historically, the worst time period of the year is from mid-July to late-September.  Since 1998, the S&P 500 has gained more than 1.5% during this period only once - in 2006.  On the flip side, we've seen losses in the range of 5%-16% during 5 different years.  Clearly, the historical trend has been towards losses during these summer months.

I can make a solid case for both bulls and bears, which is why it will be difficult to trade near-term.  If you're right, you can make some nice money.  But with the risk/reward up in the air, doing too much makes little sense at this time.  First, here are a couple charts that are quite bullish in my opinion:

On the bears side is the following:

For the very near-term, I'm buying the bulls argument (but not aggressively so) and will remain on the long side.  If key price support levels (primarily May lows) fail to hold, I'll grow much more cautious.  Further out, I'm a student of history and I tend not to argue with trends that stand the test of time.  Therefore, I'll remain cautious throughout the remainder of the summer, looking only for the best opportunities in terms of risk/reward.  You can click here to review our alert performance over the past several months.

Those who are ultra-conservative should probably be sitting in cash at the moment or long with one finger on the sell button.  Enjoy the holiday weekend!

Happy trading!

GOLD SETTING UP FOR MOVE HIGHER

There are lots of questions in the market regarding possible inflation, deflation, and general market weakness.  One way to hedge against all three is to play gold.  Below is a long-term weekly chart that shows gold in a very bullish inverse head & shoulders continuation pattern.  The current pattern is preceded by an uptrend, a requirement for an inverse head & shoulder pattern to be effective.  While there are plenty of fundamental reasons to include gold in your portfolio, the technical reasons may be even stronger.

Check out the 5 year weekly chart on gold:

Watch for a breakout on gold above 1000, especially above 1025.  The argument for a move higher grows stronger if equities weaken further or simply consolidate this summer.  In my last article, I pointed out that the market appeared to be topping and I produced a video detailing the reasons.  If you haven't seen the video, or you simply want to check out other videos that have been produced, click here (www.investedcentral.com/public/department57.cfm).  There were several factors that influenced my call, including a VIX that had hit key long-term support.  I believed the VIX would bounce off support and, in doing so, would send the major indices lower.  Support at and around 28 on the VIX is quite strong as can be seen below:

The primary trend in equities remains bullish in my view.  I believe the current move lower is potentially establishing the right shoulder of a reverse head & shoulders bottoming pattern as shown below on the S&P 500 chart:

I'm expecting a test of the 50 day SMA, possibly slightly lower, before another leg higher.  So, short-term I expect the market to be choppy to lower.  I do, however, expect another rally to new highs in the not-too-distant future.  Any further move to the downside will have to be evaluated as to volume, divergences, etc. in order to determine if the move down is something other than a corrective decline.  An impulsive move to the downside would need to be respected.

Happy trading!

ANOTHER LOOK AT JUICED ETFS

In February, I wrote an article discussing the fact that juiced ETFs (ETFs designed to double or inversely double the returns of an underlying index) do not perform as you might expect.  There was a huge response to this article and mostly positive feedback.  There are plenty of reasons why taking another look at juiced ETFs makes sense, but the inability to perform over longer periods is the primary one.  To give you a recent example, the Dow Jones U.S. Financial Index fell precipitously early in 2009, but since has rallied strongly reversing earlier losses.  From the January 6th high to the May 8th high, the index has been flat, but there was plenty of volatility in between.  Because this index is the underlying index for the UYG (Ultra Financials ETF) and the SKF (UltraShort Financials ETF) and it was essentially flat over a four month period, it was an easy point of reference to determine how the UYG and SKF have performed in tracking that underlying index over time.  Check out the 3 charts below:

till think it's a good idea to buy these juiced ETFs and hold them for monster gains? From the proshares.com website, here is the disclaimer on the SKF:  "This ETF is designed to meet daily objectives; results over longer periods may differ.  There is no guarantee that any ProShares ETF will achieve its investment objective."  There are a couple of words I'd focus on here.  First, and perhaps the biggest, is the word "daily".  Juiced ETFs are designed to track their underlying index on a DAILY basis.  That's it.  So long as the underlying index moves in a straight line - either higher or lower, the juiced ETFs will perform as expected.  As the underlying index experiences volatility, that back and forth movement is the cause of juiced ETF erosion.  The second word I'd focus on is "may" as in "results over longer periods MAY differ.  Throughout my studies, there is no question in my mind they WILL differ.
 
One of the primary reasons I decided to re-visit this topic was the sight of a "professional" on CNBC last week touting that he was "building" a position in URE (the Ultra ETF that tracks the Dow Jones US Real Estate Index).  You cannot "build" positions in juiced ETFs.  Every day that you hold these ETFs, your risks rise and your potential returns dwindle.  It doesn't mean this professional won't make money.  It simply means that risks grow every day the URE is held and potential "juiced" returns decrease.  Isn't the essence of trading the desire to generate above average returns with below average risk?  Building positions in juiced ETFs will have the opposite effect.  If professionals are trading these juiced ETFs incorrectly, it only stands to reason that thousands, perhaps millions of individual investors are doing the same.
 
So the next series of questions arise - are all juiced ETFs created equal?  Do they all lose value at the same rate?  Do some hold their values better than others?  Should you even consider trading juiced ETFs?
 
I want you to benefit from my study.  I studied the recent volatile period - from September 1, 2008 through May 6, 2009.  There were periods of chaos within this study, from the panic-driven selloff in October and November to the surge in prices off of the March lows.  I feel this is a representative sample to determine performance of various juiced ETFs.  Included in my study were the following indices (and their related juiced ETFs):
 
* S&P 500 (SSO and SDS)
* NASDAQ 100 (QLD and QID)
* Russell 2000 (UWM and TWM)
* Dow Jones US Financial Index (UYG and SKF)
* Dow Jones US Real Estate Index (URE and SRS)
* Dow Jones US Oil & Gas Producers Index (DIG and DUG)
 
To view this study and the results, click here.
 
Happy trading!

GO AWAY IN MAY? REALLY?

Ok, I understand the logic - partially.  In order of S&P 500 calendar month performance since 1950, May ranks 8th out of 12 and June ranks 10th out of 12.  However, both have produced positive annualized returns and in this period of very low interest rates, does it really make sense to pull that portion of your investments devoted to equities?  What's not mentioned by most who follow this theory, though, is that there are VERY bullish periods that fall within both of these calendar months.  Simply avoiding the market during May and June makes little sense given that the first handful of days in May and the last handful of days in May have produced annualized returns of 37.72% since 1950.  Compare that to the average annual return on the S&P 500 since 1950 of 8.46%.  By sitting on the sidelines, your money has no chance of working for you during periods where annualized returns are more than four times the average.  Does that make any sense?  The middle of May does tend to have neutral to bearish implications, but only on the S&P 500 does our historical meter, The Bowley Trend, actually turn bearish.

The part I find most disturbing regarding this theory is the perception that all equity investments suffer after the beginning of May.  Do these folks realize that since 1971 the NASDAQ has produced annualized returns of 13.85% and that NASDAQ prices have moved higher 23 of the 38 years over this period?  Does pulling your equity investments really make sense given the NASDAQ's relative outperformance during May?  By the way, June's annualized return since 1971 on the NASDAQ is 10.67%.

Now for the really good part.  Let's talk about the small caps, the Russell 2000.  In terms of the Russell 2000 monthly performance, only December has been a better month than May over the past 22 years.  The annualized return during May on the Russell 2000 since 1987?  How about 24.40%?  Do you still feel like May is an atrocious month for equities?  While I'll admit that May isn't the best month overall for equities, not even close to it, the facts suggest you might do more harm to your portfolio by "going away" than by staying.  There's some food for thought.

As for the current state of the market, it continues to perform as I suspected it would.  You cannot stand in the way of a significant market trend.  The bias remains on the bullish side.  The VIX, after breaking down from a triangle pattern, moved back higher to retest the breakdown as prices consolidated, then has moved lower.  A declining VIX is somewhat synonomous with higher equity prices and that's what I continue to look for and trade based upon.

Happy trading!

Tom

DIFFERENT STRATEGIES FOR DIFFERENT MARKETS

In my last article, I noted that I was "undeniably bullish".  I can tell you that nothing occurred these last two weeks to change my mind.  More and more corroborating technicals have lined up to suggest this current rally has legs.  Perhaps the most important of them all was the triangle breakdown on the VIX.  The first chart below highlights the triangle that developed on the VIX during the 2000-2002 bear market and the subsequent breakdown of that triangle and how the S&P 500 surged higher following the breakdown:

 From the moment the VIX broke down, the major indices began rallying.  And the rally lasted for quite some time, with few pullbacks along the way.  Last week, the VIX broke below triangle support at 38 or so, then broke down below long-term price support at 36.  The question now becomes - will the major indices rally off of this breakdown as they did in 2003?  I believe they will.  Take a look below at the setup of the market as the VIX breaks down from a triangle pattern once again:

 The sectors that need to lead the market higher out of bear market territory are doing so.  Financials, technology (semiconductors in particular), transportation, consumer discretionary - these are the groups we want to see moving higher.  Check out the relative strength in financials:

 It's important to recognize that market conditions have changed.  That suggests you should change your trading strategies as well.  Let me give you an example of how we've operated.  From October 1st through March 22nd, we alerted only 10 individual stocks, instead shifting to more conservative and less volatile ETFs.  During the same period, we alerted 24 ETFs.  We were in capital preservation mode, only risking capital when it seemed appropriate.  Over the last three weeks, we have alerted 25 individual stocks and 0 ETFs.  It's not that we don't like ETFs, we simply believe trading ETFs lowers returns in an environment where individual stocks are thriving on the long side.  Trade the best stocks within the best sectors, timing entry and exit points based on technical support and resistance levels.  Many technical indicators were useless for several months while emotional trading ran wild.  That has changed and technicals are now back in style and much more reliable.  To see the stocks we've traded, click here.

I would like to encourage those of you who trade "juiced" sector and index ETF's (eg, SKF, UYG, SRS, URE, etc) to review an earlier video presentation that details many of the common pitfalls of the juiced ETF trader.  Two items should be kept in mind at all times.  First, these juiced ETFs are designed to do their jobs for ONE DAY only.  They lose value over time similar to options (though not to the same degree).  Secondly, determine entry and exit points on the juiced ETFs based on your technical analysis of the underlying index.  Too many traders look at the charts of the juiced ETFs themselves, searching for key support and resistance levels, or trading them on 20 day EMA tests or 50 day SMA tests.   That approach will not work with any consistency because of what's been mentioned above.  To view this presentation, click here.

Happy trading!

UNDERLYING BULLISH SIGNALS STRENGTHENING

I am undeniably bullish right now.  My only question at this point is whether this is a very significant bear market rally or the early legs of a new bull market.  Believe it or not, I think it's the latter.  As pointed out in my last article, this rally is being fueled by two very influential groups - financials and semiconductors.  Wide participation in any short-term rally is necessary to justify any bull market call.  We are definitely seeing wide participation on this rally.  Breadth has routinely been 3 to 1 or 4 to 1 in favor of advancers on the NYSE and NASDAQ, and at times has grown to a 10 to 1 thrashing of the bears and beyond.  The S&P 500 followed the lead of the NASDAQ recently, soaring above its 50 day SMA on heavy volume, retracing to retest it on lighter volume, then surging to a new high.  The summer of 2007 was the last time that the S&P 500 was able to perform like that.  Look at the recent strength of the S&P 500 below:

The S&P 500's next price test comes in around 875.  However, if the VIX breaks down below key support in the 36-37 range, I believe the S&P 500 is heading a lot higher than that.  Take a look at the VIX chart below:

The relationship between the VIX and the current bear market is strikingly similar to the relationship between the VIX and the bear market of 2000-2002.  There were double tops, lower VIX readings on bear market lows, even descending triangles that, in the case of 2002, broke down and sent the market soaring.  I'm waiting for that breakdown to occur.  I'm convinced it's going to happen.  When it does, the next wave of buying will swamp the last one.  Click here to watch my video presentation, describing the reasons why I believe this bear market has ended.  The trading opportunities that are staring us in the face right now are astounding.
 
One word of caution:  The bullishness of late may require a price to be paid during options expiration week.  The number of call options bought in the last 4 weeks is absolutely staggering.  So enjoy this week while it lasts because tons of in-the-money calls may force a sudden drop in the major indices as we approach options expiration.
 
Happy trading!

LIGHT AT THE END OF THE TUNNEL?

The market performance the last two weeks was very impressive.  Was it simply a sequel to the bounces we saw in October and November?  That is certainly a possibility, but we saw a few sparks in this rally.  For instance, the volume that exploded in financials must be respected.  Perhaps more important, however, was the relative breakout in financials as shown below:

 

On the surface, the annihilation of financials on Thursday and Friday seemed to potentially crash the party.  I'd like to point out, however, that option expiration likely played a significant role there.  Let me give you a perfect example - Bank of America (BAC).  At Thursday's early morning high, BAC traded at 8.57.  There were hundreds of thousands of in-the-money calls ranging from strike prices at $3 all the way up to $8.  There were nearly ZERO in-the-money put options.  That left BAC quite vulnerable to downside action on Thursday and Friday and that's exactly what we saw - downside action.  BAC fell nearly 30% from Thursday morning's high to Friday's close, erasing $MILLIONS in net call premium.

Use this as a lesson.  If you're considering buying a stock during options expiration week, check out the underlying option activity.  Specifically, look to see how many in-the-money calls vs. in-the-money puts there are before taking a position.  More often than not, it will save you or make you money.

It was probably more than coincidental that Citigroup (C) didn't participate in Friday's financial selloff, instead gaining two pennies.  Max pain (the price at which in-the-money calls equal in-the-money puts) was situated between $2.50 and $3.00 and there were a TON of in-the-money calls at $2.50 to offset in-the-money puts at higher strike prices.  So it closed above the $2.50 level.  Coincidence?  You be the judge.

In addition to financials beginning to show relative strength, semiconductors also joined the fray.  In fact, we've seen semiconductors outperforming the S&P 500 since early December.  Check out the chart below:

 

Financials and technology (especially semiconductors) are two key components in any new bull market emerging.  Early signs are pointing to a possible reversal in market strategy.  For the last several months, it's been clear that the bear market was raging on.  While it's important to note that the end of the bear market has not yet been confirmed, the possibility is definitely growing.

WHERE'S THE FEAR?

Significant market bottoms generally share many key characteristics.  I like to see a spike in volume to get that last wave of selling in place.  During this "panicked" phase, it's also important to see pessimism rise to a relative level where we can be fairly confident that a rally can last more than an hour or two.  Obviously, oversold momentum oscillators like stochastics and RSI are in play at a bottom.  My favorite momentum oscillator - the MACD - can provide clues as to the duration of any potential rally.

On the Dow Jones chart below, notice that the MACD is pointing straight down on the daily chart.  It's unusual to see a long-term bottom form when momentum is so negative.  So at this point, if the pessimism ramps up to a point where a bottom forms, I'd only be looking for a short-term rally to follow.  In order to see a more sustainable rally ensue, I need to see this momentum slow and begin to reverse.  That's where long-term positive divergences come into play.  The market showed much more stability after the November lows and the positive divergence formed on the daily chart.  Check out the Dow Jones chart below:

 

While I acknowledge that market bottoms can be carved out without extreme pessimism, this type of pessimism usually does form during emotional markets.  I would certainly be much more confident about trading a rebound in the market if the pessimism reaches an extreme level first.  On the S&P 500 chart below, I've highlighted recent market bottoms, the 5 day moving average of the equity only put call ratio at that time, and the subsequent gains realized off of the panic bottom.  It's important to note that the average equity only put call ratio reading since the CBOE began providing the data in 2003 is .67.  The average since September 1, 2008 is .79, much higher due to the increased fear overall.  From these numbers, you can see that any move of the 5 day moving average above .90 should be respected.  Here's the chart:

 

For free educational videos of the put call ratio and how to successfully incorporate them in your trading strategy, go to www.investedcentral.com/putcall.html.

Happy trading! 

JUICING UP YOUR RETURNS

I receive a lot of questions regarding the "ultra" shares and "ultrashort" shares and how to effectively trade them.  In particular, there are always questions asking why those "juiced" ETF returns don't correspond to the indices they're supposed to track over time.  Let me give you an example.  Take a look at the two charts below.  The first is a five month chart of the Dow Jones U.S. Financial Index ($DJUSFN), while the second reflects the ProShares UltraShort Financial (SKF) during that same timeframe.  The SKF is designed to inversely track the $DJUSFN at a 200% clip.  In order to benefit from weakness in financials, you could purchase the SKF and profit to the tune of 200% the decline in the index.  Just keep in mind that a ride on Space Mountain at DisneyWorld will seem like a stroll in the park compared to an investment in the SKF, however.  :-)

On the line charts (line charts show only closing prices) below, take a look at where the SKF closed on February 20th vs. January 20th vs. November 20th.  It was lower each time.  But how can that be if the $DJUSFN is lower each time?  If the index is putting in lower lows, shouldn't the ultrashort SKF be putting in higher highs?  The answer is no - check this out:

On November 20th, the $DJUSFN closed at 167.95 and the SKF closed at 262.45.  On February 20th, the $DJUSFN closed at 143.56 while the SKF closed at 188.25.  So over the last three months, the $DJUSFN fell 14.52%.  Since the SKF is designed to inversely double the returns of the $DJUSFN, one would reasonably expect to see the SKF closing roughly 29% higher than it did in November.  Instead, the SKF has FALLEN from 262.45 to 188.25, or 28.27%.  It should have GAINED 29%, but instead it DECLINED 28%.  What gives?  Well, so long as the index moves in one direction or the other, juiced ETFs do a fine job of following at a 200% clip - generally speaking.  However, after several days of ups and downs in the index, the juiced ETFs lose their value and cannot fulfill that 200% promise.  For a fairly simple explanation, go to our website at www.investedcentral.com and click on "Trading the Juiced ETFs".  It's roughly a 15 minute demonstration showing why the juiced ETFs cannot keep pace over time.  If you like to trade juiced ETFs, it will be well worth the time.
 
Here's the bottom line.  Avoid the temptation to trade the juiced ETFs based on its technicals.  I've come to realize that the technicals associated with those ETFs are irrelevant.  Instead, determine your entry and exit points based solely on the technicals of the underlying index that the ETF is designed to track.  From that index, determine your target and apply those measurements to the juiced ETF.
 
Happy trading!

BERMUDA TRIANGLE - WALL STREET STYLE

We've seen this all before.  The sure-fire short setups get waxed as trendline support holds.  Then the bulls grow confident as the market soars only to get turned back by trendline resistance.  The cycle continues to repeat itself until we get resolution.  If you time your entries perfectly, the triangle formations can be powerful trading patterns, but patience and extreme discipline is required.

Right now, the market is faced with exactly that triangle mentality.  The triangle keeps squeezing with each high moving lower and every low moving higher.  At some point, something must give.  That time is quickly approaching.  The breaking of the triangle pattern doesn't necessarily dictate whether the bear market ends.  In fact, I would argue it doesn't matter at all.  It does matter whether the bulls can turn the recent upside action into something longer lasting, however.

Let's take a look at the unfolding triangles, first on the S&P 500:

Next, the NASDAQ:

There is one difference on the buying this time - it's the volume that's accompanying the move higher.  Any time we can get the price movement and volume confirmation, it's much more bullish.  We haven't broken resistance though.  Until we do, the volume is not as meaningful.  Whether we see enough bullishness to crack through triangle resistance is a story for next week.
 
The odds of reaching that first Fibonacci retracement (38.2%) area increases greatly if the major indices can break their current triangle patterns with heavy volume.  That's what I'll be looking for as next week unfolds.  Also, financials helped to spark the turnaround on Thursday morning and the rally has continued in that space since.  If and when that rally ends, it will likely signal the end to the overall market rally as well.
 
Happy trading!

IS THE DOLLAR TOPPING?

An interesting result of the government bailout of the financials and automakers, along with the huge economic stimulus package will be the long-term impact on the U.S. dollar. Can the dollar maintain its relative value as interest rates fall and deficits mount? Let's take a look at a few charts regarding the dollar and how we can profit if the dollar does plunge. First, let's take a look at the long-term picture of the dollar:

As you can see, the long-term trend in the dollar is down. Unless the dollar can pierce through the 92-93 area, the intermediate-term trend is down as well. Only the near-term chart shows any positive action on the dollar. And that rally is suspect technically as shown below:

A bearish head and shoulders pattern formed from October through December and broke down below the neckline with force. Should the dollar fail to navigate the near-term resistance (retest of neckline) and the longer-term trend resumes to the downside, gold is likely to be a primary beneficiary. Gold is one commodity whose long-term uptrend remains intact because of the long-term downtrend in the dollar. Take a glimpse at the long-term chart on gold:

The dollar and gold have an inverse relationship that's quite evident when you compare the two charts. During periods of dollar strength, gold weakens. However, dollar weakness leads to gold strength. So the question remains: What happens to the dollar as a result of the massive government bailout and the economic stimulus package? Answer that question correctly and you profit. It's as simple as that.

Happy trading!

WHAT LIES AHEAD?

In order to gain a decent perspective as to where we might go in 2009, it's always helpful to take a look at the past to see how we got here. 2008 was a horrible year for the major stock market indices. The Dow Jones, S&P 500, NASDAQ and Russell 2000 lost 33.84%, 38.49%, 40.54% and 34.80%, respectively for the year. It didn't matter where you put your money - nearly every stock index here in the U.S. as well as abroad suffered major financial and technical damage. It's not irreparable damage, but building a solid foundation for a future advance will be a key in 2009. Holding price support at the lows in the fourth quarter is paramount to building that solid foundation.

Clearly, the stock market suffered its worst annual loss in several decades. After all the selling and panic, especially towards the latter part of 2008, the Dow Jones finished 2008 23.66% below where it began this decade. The last time the Dow Jones lost ground during a decade was the 1930's, when it lost 39.64% over that ten year span. The Dow Jones would need to advance 31.00% to avoid having a losing decade. While anything is possible, that seems a tall order especially considering that the Dow Jones had already advanced 15.77% from the November 21st low through year end. Friday, January 2nd did get us off to a great start, albeit on light volume.

The U.S. stock market remains in a bear market. Despite the surge off of the November 21st lows, we must respect the longer-term bear market message. That doesn't mean we can't continue to advance near-term. In fact, I would be surprised if we didn't rally further during January. Historically, January is the best month for the NASDAQ and is one of the best months for the Dow Jones, S&P 500 and Russell 2000. Technically, if we look at possible Fibonacci retracements of the recent downtrend, we can attempt to pick a price point where the current rally may fizzle. Let's look first at the NASDAQ:

Here's the way the S&P 500 shapes up:

I do believe the market has moved from a very emotional, panic-stricken state to a more stable one. That's not to say we won't see periods of heightened volatility, but the initial shock that was felt in 2008 is behind us and so too is the enormous swings in prices from day to day. That should allow for a period of consolidation where momentum oscillators like stochastics and RSI can be used to more effectively time trades. Pay close attention to these indicators when they flash overbought and oversold conditions, however, because most likely trend changes will be sudden and perhaps without explanation. From the next chart of the VIX, you can see how the emotional roller coaster in the 3rd and 4th quarters of 2008 is finally calming down. Everyone can at least breathe a sigh of relief from that development.

I hope everyone had a very nice holiday season and here's to a healthier and happier 2009!

Happy trading!

Join Tom and the Invested Central team at www.investedcentral.com. Invested Central provides daily market guidance, intraday stock alerts, annotated stock setups, LIVE member chat sessions, and much, much more.

Advertisement:

MARKET RALLIES TO FIND RESISTANCE

I knew eventually we'd get a rally with legs. The recent long-term positive divergences across our major indices suggested a 50 day SMA test was on the horizon and that's exactly what we saw this past week. Key indices hit resistance and, not surprisingly, backed away on the first attempt. The bears have been in the drivers seat for the last few months. They were not going to be taken down without a fight. The battle was waged and the bears were victorious - for now.

The market has stabilized somewhat and that's a positive. I wouldn't go so far as to say it's stable, just that it's in the process of stabilizing. Thursday afternoon's selloff occurred with the VIX barely budging higher. That's a critical sign that the fear and panic that ruled the market and ruined portfolios is not a major factor currently. Resiliency is a word often associated with the market now. Horrible news is being routinely ignored. The Employment report last Friday was worse than anyone could have predicted. Yet after a quick morning selloff, the major indices rallied. On Thursday evening, the Senate rejected the House's proposal on a $14 billion bailout package and futures were bleak. Asian markets tumbled overnight and given the late day selloff on Thursday, US investors were worried that another steep drop was upon us. But futures improved into the open and the major indices mostly rallied throughout the day, finishing in positive territory and near the highs of the day. It's that old adage, "sell on rumor, buy on news".

I am beginning to rely less on sentiment indicators as the market appears to be moving away from the emotional level of trading that we saw for many weeks. I expect to see more back and forth action once a range is established. That should set up for very profitable trades using momentum oscillators like stochastics and RSI. During the recent downtrend, the daily RSI has remained primarily below 50. If conditions are truly changing, we should see that oscillator begin to move back and forth between the key levels at 30 and 70. In sideways, consolidating markets, the stochastics and RSI oscillators can prove to be the most useful indicators for entry and exit points.

Technicals precede fundamentals. They always have and they always will. If you can follow the price action, you can trade the market. Will the recent bullishness last? Yes, it's quite possible. In fact, I'm watching for the highs on this current leg up to define our trading range over the next several months. While January 2008 was horrific for equities, the December-January timeframe is historically quite bullish. Financials are trying to repair themselves technically, but hurdles remain. As you can see from the chart of the XLF below, it's attempting to ascend past key short-term price and moving average resistance as reflected below:

A move past key resistance will open the door to higher equity prices overall. Similarly, the SOX is also knocking at resistance's door as shown below in Chart 2:

These are two influential groups that will most likely need to participate in further strength in equities. Without them, this attempt could be futile.

I want to wish everyone a relaxing holiday season and a happy new year!

Happy trading!

LOOK UNDER THE SURFACE

This has been one ugly bear season. It cannot be compared to anything else seen on the S&P 500 since 1950. Not even close. But I'll say one thing - there's an awful lot of horrible economic news priced into this market right now. I am convinced that the worst is behind us. That doesn't mean we won't continue to see horrendous economic reports. This will be a holiday shopping season that every retailer in America had wished they could have skipped. We will see hundreds and hundreds of thousands of jobs lost in the coming months. As a result, home prices are nowhere near stabilizing yet. And without home prices stabilizing and economic improvement, banks aren't exactly sitting in the catbird seat either.

But the market prices these things in. That's why we've seen the NASDAQ drop 37.1% in the last 10 weeks. The S&P 500 and the Dow Jones aren't far behind, down 32.9% and 27.5%, respectively, during these last 10 weeks. The NASDAQ, from November 4th's close to the intraday low on November 13th, lost over 350 points, or 19.75%, in less than 7 trading days. Most technicians trying to time market bottoms using their trusty, dusty MACD's and OBV's and SUV's (oops, wrong story!), have erred miserably. They haven't worked with the precision most technicians have grown accustomed to. Instead, this wild market ride has been 100% about emotion. Sentiment indicators have worked like a charm. Two weeks ago, I commented that the VIX had just broken beneath its 20 day EMA for the first time in 2 months and that I was looking for a drop to 46. A couple days later, it hit 44 and change before bouncing again. Now the 50 day SMA on the VIX becomes an important level on a closing basis. Also, the put call ratio and the various moving averages that we use to identify "relative" complacency and pessimism have been of utmost importance in spotting key short-term reversals. Literally, on Thursday as we were wrapping up our noon chat and folks were exiting, I took a final look at the latest put call reading that was published at 1pm EST and it provided us with the final clue to start buying. The "equity only" put call ratio - during just one half hour reading - showed over 200,000 equity puts purchased and just 98,000 calls bought. That half hour ratio was over 2 to 1 in favor of puts, something I cannot ever recall seeing on the equity only reading. The market EXPLODED higher from 1pm on Thursday. Check out this 2 day chart on the NASDAQ:

We recorded the last few minutes of that chat session on our website for anyone wishing to listen to my shock and dismay following that put call reading! Reviewing sentiment indicators like the put call provides opportunities that otherwise would be missed using standard technical indicators and it's why it's such a huge part of our trading arsenal.

The MACD (dare I say!) has turned decidedly bullish on the daily charts. We have a long-term positive divergence in place as shown below:

The market appears to be at or rapidly closing in on a tradeable bottom. We believe the risk/reward is such that aggressive traders could look to enter long positions in increments during further weakness. Let's not forget, this Friday is options expiration and MAX PAIN!!!

As always, keep those stops in place!

Happy trading!

Join Tom and the Invested Central team at www.investedcentral.com. Invested Central provides daily market guidance, intraday stock alerts, annotated stock setups, LIVE member chat sessions, and much, much more.

HISTORY REPEATS ITSELF AGAIN AND AGAIN AND AGAIN

Previously, I've mentioned a favorite indicator of mine - The Bowley Trend. The Bowley Trend is an analysis of stock market history, dating back to 1950 on the S&P 500 and 1971 on the NASDAQ. It identifies discernible bullish and bearish trends that have emerged over time and provides additional clues as to the direction of equity prices. I use The Bowley Trend to corroborate technical signals.

I mentioned in a July article the 2nd worst historical week of the year. We just experienced a major league beating during the absolute worst period. The most interesting aspect of October is that the worst historical period is followed immediately by the best historical period - amazingly, the bearish switch is turned off and the bullish switch is turned on, literally overnight. Consider the following annualized returns since 1971 on the NASDAQ:

October 22: 15 up days, 11 down days, annualized return -64.98%
October 23: 8 up days, 16 down days, annualized return -89.82%
October 24: 11 up days, 16 down days, annualized return -66.26%
October 25: 9 up days, 19 down days, annualized return -66.85%
October 26: 12 up days, 15 down days, annualized return -110.15%
October 27: 11 up days, 15 down days, annualized return -110.28%

Pretty darn bearish, I'd say. Now consider these bullish numbers from a period that immediately follows the above bearish period:

October 28: 17 up days, 8 down days, annualized return +132.02%
October 29: 16 up days, 10 down days, annualized return +68.14%
October 30: 13 up days, 13 down days, annualized return +46.85%
October 31: 17 up days, 9 down days, annualized return +105.77%
November 1: 16 up days, 12 down days, annualized return +62.41%
November 2: 16 up days, 9 down days, annualized return +144.07%
November 3: 16 up days, 10 down days, annualized return +84.13%
November 4: 15 up days, 9 down days, annualized return +54.94%
November 5: 21 up days, 5 down days, annualized return +153.46%
November 6: 15 up days, 11 down days, annualized return +43.91%

Quite a reversal, huh? This historical tendency was a contributing factor for Invested Central turning bullish on Monday, October 27th. The Bowley Trend shorts indices during bearish historical periods, goes long indices during historical bullish periods and remains 100% in cash during neutral periods - neutral periods are defined as periods where there are no discernible trends. During October alone, The Bowley Trend posted an incredible 27.44% return, over 45 percentage points higher than the actual negative return of 17.73%. Perfectly on cue, the major indices reversed course at the close on October 27th. Folks, I don't make this stuff up, I just report the facts. It is periods like these that has enabled The Bowley Trend to nearly triple the "buy and hold" returns of the NASDAQ since 1971. And it's as simple as following a calendar - the dates do not change. It's also why we provide this indicator to our members each day, it's that important.

Technically, the market is recovery mode. We've got a long way to go and the depths of this recession will be great. I've identified near-term support and resistance for the Dow Jones on the following chart:

From the above chart, I've identified a key price resistance level on the Dow Jones near 10,400. I believe the current range on the Dow is from 7800-10400 and that's where we'll trade. Should the Dow approach that resistance on lessening volume, be very cautious, and possibly consider shorting if you have a propensity to short. The volatility index, or VIX, is finally taking a breather. Take a look at the two VIX charts below. The first shows where we were in early September and my analysis then vs. where the VIX stands now and what it's signaling.

Expect volatility to remain high, but lessening from the ridiculous levels over the past several weeks. Traders will need to remain on their toes, capturing profits when available and keeping appropriate stops in place to avoid big losses.

Happy trading!

Join Tom and the Invested Central team at www.investedcentral.com. Invested Central provides daily market guidance, intraday stock alerts, annotated stock setups, LIVE member chat sessions, and much, much more.

IS THIS THE BUFFETT-BOTTOM?

Warren Buffett said he was buying stocks this past week. Should you? Well, it depends. If you buy stocks on a regular basis as part of a disciplined strategy - say in your 401(k) plan - then keep buying. The idea of buying stocks over the long haul is not only to buy when the market is soaring, but more importantly, to also buy when the market is falling. The key element is your time horizon. If you don't need the money for the next 5-10 years, then you stay invested and keep buying.

Here's the problem. Fewer and fewer of Americans buy and hold. We've seen many of our strongest companies buckle. Most financial companies have been brought to their knees during this financial crisis and the crisis is threatening to take many other sectors with it. American International Group (AIG) was thought to be a darling among Wall Street analysts. We don't need to detail the woes of AIG, just suffice it to say that no company is immune to failure. So if you're of the buy-and-hold mentality, remain diversified.

I am not of the buy-and-hold mentality and never will be. Technical analysis is where it's at. When the first signs of technical weakness appear, beware. Let sectors regain relative strength before committing back into the group. This very simple strategy avoids major carnage and it's the major carnage that wrecks portfolios, not the minor losses from timing a trade incorrectly.

Charts 1 and 2 below highlight, in hindsight, two major sector breakdowns in our market over the last few years. Both are heavily responsible for the technical damage the entire market is suffering right now.

We need housing to begin to show signs of improvement before the major indices are likely to recover.

While I have tremendous respect for Warren Buffett as an investor, he will admittedly tell everyone that he can't time market bottoms. I will wait for more technical signs before becoming aggressive.

Over the course of the last 3-4 weeks, the only trades that Invested Central has considered have been ETFs and they've been few and far between. Options expiration and max pain provided some super opportunities last week as the number of net in-the-money puts was 3 to 4 times the amount we had ever seen before. Coincidentally (sarcasm intended), the market soared on Monday and gapped up on Tuesday and we headed for the exits. We are 100% in cash at the moment and plan to stay that way in the near-term as the gyrations in the market are nauseating.

During markets like this, capital preservation is Job #1 for traders.

Happy trading!

Join Tom and the Invested Central team at www.investedcentral.com. Invested Central provides daily market guidance, intraday stock alerts, annotated stock setups, LIVE member chat sessions, and much, much more.

SEPTEMBER WEAKNESS SPILLING OVER

Two weeks ago, I said to buy the bottom. Sometimes, you're just wrong. I was wrong. Technical analysis is to the study of price action to increase the odds of predicting future price action. It's not an exact science, there are no guarantees, and there are times when you just have to tip your hat to the other side. So far, that's been the case. The market fell precipitously this past week, closing at new lows across our major indices. Volume was increasing late in the week, though it wasn't as heavy as we saw a couple weeks earlier. We can argue that it was the fault of Congress for acting too slowly. Others might argue that the bailout bill itself is the problem. From a technical perspective, the reason for the decline doesn't really matter. We're only concerned about what happened technically with the price action. We must always respect the combination of price/volume breakdowns, regardless of what other technicals are indicating. From the following monthly S&P 500 chart, you can see that we are as oversold now as we've been since the bottom of the bear market in 2002. Monthly RSI has moved below 30 and stochastics are approaching single digits, something that never happened in the 2000-2002 bear market.

We knew that September was historically weak and this past September certainly did nothing to disprove that notion. Since 1950 on the S&P 500, September is the only calendar month that has moved lower as opposed to moving higher. It is also the only calendar month that has negative annualized returns over the past 58 years. What many market participants don't realize is that Mondays are - by far - the worst day of the calendar week. Since 1950, the annualized return on Mondays (on the S&P 500) is a negative 16%. While I've done no study, I'd bet that psychological forces have a lot to do with it. But what's interesting is that if you had simply avoided trading on Mondays since the May 19th top (or shorted), your performance would likely have been much, much better. Consider the following: Since May 19th, we've had 17 Mondays, 12 of them the S&P 500 has moved lower. Of the 5 that have moved higher, only 1 (September 8) moved up more than 1%. Of the 12 down Mondays, 9 moved down more than 1% and 6 moved lower by 2% or more. Perhaps most astonishing is that the S&P 500 has lost 327.40 points since the close on May 19th, dropping from 1426.63 to 1099.23. The cumulative point losses on Mondays total 328.27, 100% of the decline. For comedy movie buffs who have seen Office Space, the stock market has had a REALLY "bad case of the Mondays".

Join Tom and the Invested Central team at www.investedcentral.com. Invested Central provides daily market guidance, intraday stock alerts, annotated stock setups, LIVE member chat sessions, and much, much more.