Sunday, April 15, 2007

Friday the 13th

Friday the 13th didn't exactly live up to its spooky reputation this week, as black cats laid low all day.

Similar to the action on Thursday, sellers exhausted themselves early on Friday, Then, amidst a widespread view that the market sits perched at the brink of ruin, stocks rose for the rest of the day, Some credit CSCO's raised guidance. Others say earnings expectations are simply too low. Charles Kirk over at The Kirk Report even jokingly suggested that, with all the Monday morning takeover buzz, no one dares NOT be long going into the weekend.

All kidding aside, the market itself appears to be saying something else. Price and volume suggest that at least a part of the rise is a short squeeze.

On Wednesday, Michael Kahn at Barron's quoted the famous TA axiom, "In price there is knowledge, but in volume there is truth." The truth is, while the market has advanced sharply off the March low, volume has declined. This is the classic genetic marker of short covering, and it's not the more bullish sign of accumulation by institutional investors.

The chart below shows total NASDAQ volume graphed against a shaded Composite price. The blue line is the 50-day average of Composite volume. At the start of 2007 (green arrow), volume accelerated dramatically as the market shot up, a very healthy sign. Then, in mid-Feb, volume flattened as the market made a two-week climax run (a warning sign). Volume then took off and peaked as the market bottomed (red arrow). From there on, as the market rallied, volume has steadily slowed.

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Does the chart above mean the market is certifiably doomed? Not necessarily. The evidence suggests that only A PART of the low-volume rise is due to nervous shorts. There are clearly other things at play.

Skittish investor sentiment is certainly playing a role. I've described ad nauseum how the market is famous for rising with the fewest number of investors participating. As cautious investors sit and watch, aggro-types gobble up the stuff that's working. This rotation can be enough to spook weak shorts, and together the shorts and the aggros create a low-volume market rise. Materials, energy, and now healthcare and biotech are all under steady -- even heavy -- accumulation, while other chunks of the market wallow in despair.

Another sign that there's more to the low volume rise is the IBD100. The IBD100 has been solid since the March bottom, indicating that big money is still flowing into stocks with accelerating earnings. In 20 years of investing, this is one of the most reliable indicators I've found to track the market's short-term health.

On Friday, 57 of 100 stocks on the IBD100 moved higher, while a very impressive 26 stocks printed record highs. Also, while many IBD100 stocks are extended, over two dozen appear to be setting up for a fresh round of gains.

Except for volume, the daily chart below looks strong. For TA purists, the gap doesn't close until 2507. We're at some tough resistance and this index won't go straight up. However, price momentum is elevated, and there's a lot of TA buzz about what the positive MACD divergence may produce short-term.

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Another set of indicators that's hard to brush off despite the low volume are the market internals. Breadth, Up/Down Volume and New Highs were all strong again on Friday. Breadth and Volume broke to fresh 7-week highs.

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On the other side of the tracks are the Financials. While the Brokers are in far better shape, below are two looks at the Banks. The white candle on the daily chart isn't actually a white candle: it's a tourniquet. However, as long as the red line stays above the blue, it's not too late to save this group -- and probably the market.

The weekly chart shows hammers trying to pound out a floor. Regardless, the IT trend is still down. Lots of banks report next week, so we'll see. I still contend that the market will ultimately follow the direction of the BKX.

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Below are a few weekly charts.

The white hammer on NASDAQ weekly makes this an impressive chart. After gapping higher, stocks tumbled down to the 10-week line then reversed course to close higher. This is very bullish behavior, and the volume was the best it's been since the shakeout four weeks ago.

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I've mentioned Biotechs several times this past week, but after a sleepy Q1, the entire Healthcare sector has actually caught fire. Biotechs, Drugs and HMO's are confirming each others' moves in a rare showing of collective strength. Note that all three simultaneously are parked below record highs. There are a lot of good investing ideas in Healthcare these days.

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The other two groups mentioned several times this past week are Energy and Software. Energy is on an upswing, and Drillers have shown the greatest relative strength. Tech overall is very sluggish, but Software sits just below a 5-year high. Barron's had a nice write-up on ADBE this weekend.

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Despite the market's mid-week reversal for more gains, the AAII Bull Ratio shows that investors weren't impressed. Bullishness barely ticked higher, indicating a healthy level of skepticism still remains. This is good for the market.

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Finally, the TOF Ratio is in near-perfect position. Option investors have steadily moved into calls since put-buying peaked in early March, and the fact that the 21/50 crossover (Buy signal) continues to hold is very encouraging. Stoch (39) shows this has room to run.

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On one hand, the lack of institutional buying during this 5-week rally is an important negative. If volume doesn't improve soon, the market will quickly run out of steam.

On the other hand, volume is about the only TA signal that's a real negative. With TA, it's important that something's always wrong. This is TA's version of the wall of worry. Up or down, when every indicator is finally pointing in the same direction, that's usually a sign that things are about to reverse.

My focus this week is on index volume and the Financials. The performance of these two will likely tell the tale for the market short-term.

Longer term...well, May is just around the corner.

I hope your weekend has been fun, and that you have a prodsuctive week.




Bill Luby said...

Great collection of charts, dk.

On a somewhat related note, I don't know how long your NASDAQ time horizon is, but if you get a chance I'd be interested in hearing your comments on what Stephen Vita has to say about the long-term $NAAD charts in "Breadth/Schmeadth..." at The Alchemy of Trading



dk said...

Hi Bill...

Thanks for the comment, and Vita certainly makes great points.

First, I agree with him that it's way too early for tech. I have a ratio chart I follow that's probably worth posting with some notes about tech's "not yet".

Second, my time horizon is far shorter than 17 years! - lol. The current, short-term rhythms of both NAAD and NASI continue to be favorable for longs.

Third, with zero malice toward Stephen of course, there's arguably a mild amount of "torturing the data" at play here. Hidden in plain sight is the fact that if -- during the 17-year chart period -- you used cumulative NAAD as your only tool, you would have missed out on all but tiny sliver of the action. There's obviously comething else going on here. Fortunately, investors don't have to know what that is to trade profitably.

As always, thanks.