Monday, July 30, 2007

A Well-Timed Bounce

Investors bought the dip on Monday, with a few even shrugging off last week's selloff as merely "a flesh wound".

This could prove true of course, but it would be rare to see Monday's 14% decrease in volume mark an important bottom. In fact, Charles Kirk put together a list of stocks appearing on his Stock Screen Machine that bounced at their 50-day over the past 3 days. Of these 19 stocks, just 10 did so on heavy volume.

The IBD100 produced even skimpier results. On Monday, the index outpaced the market with an impressive 2.2% romp as 85 of 100 stocks posted gains. But volume was suspiciously thin for such a move. Just 20 stocks printed accumulation, while a sluggish 74 stocks saw volume lower than on Friday. This isn't the action you want to see after a big selloff, and it's a sign that institutional investors are cautious.

Investors skewered the NASDAQ perfectly on the 61.8% Fibonacci retracement on Monday. However, the Composite is dangling in mid-air between the 50- and 200-day, hardly a place known for its stability.

Most pedigree bottoms start with a giant up day -- at least 1.5% -- on massive volume (FYI -- Investor's Business Daily is calling Monday Day 1 of a new rally attempt). Then, four to ten days later, this is confirmed with a similar, big volume follow-through day. Without these two steps, the failure rate for bounces is very high. In fact, no bull market in US stock market history has ever begun without a follow-through day. This is why there's so little need to be hasty.

MACD is now negative, while Monday's action was technically an inside day. This means that the short-term downtrend is still intact, but tomorrow is another day -- and the odds for more upside are high.

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For the first time in five months, the 5-10-20 Timer flipped to a Sell on Friday. This is an IT indicator -- not a short-term one --and of all of the mainstream timers, it has one of the more reliable track records.

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By now, most investors have discovered the cruel truth that ProShares inverse ETF's don't move in precise, mirror inversion to their indexes. However, Monday offered an unusually bitter demonstration. While the RUT bounced just 0.8%, TWM tumbled (oops) -3.5%! That's 4.4X strength -- in the wrong direction.

Regardless, even with Monday's anomaly, TWM has been very generous to investors. While the RUT is off 8.4% from its July high, TWM has vaulted 19.8%! That's an advantageous 2.35X performance.

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A few months back, Shanghai was an obsession for US investors. What a difference a few months makes. On Monday, Shanghai notched its second all-time high in the past three sessions, and no one noticed. Obviously, this time it's different.

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It's impossible to generalize, but many investors have fallen into one of two camps. The first believes that the bull market is still intact, and that stocks will soon recover to new highs. From a pure data standpoint -- economic and market-based -- this view has a lot going for it.

The other view holds that the market's most destructive threat lies just off camera. The proof of this is less tangible and more future-weighted, but the indirect signs are unmistakable: a soaring VIX, epic New Lows, options shenanigans and a record selloff.

The truth is that -- as of now -- we really don't know which one is correct. When someone says they do know, you may be learning as much about that person as you are about the market. The data is clear, but the outcome isn't. This is what corrections are for -- to help shake out the truth.

Should be a lively day of trading tomorrow, and unfortunately I'll be in a long meeting for most of it.

See everyone after the close.

best

dk

8 comments:

Jason said...

thanks for the post! I really enjoyed your previous write up

One question - how do you mark on your stockchart?

Bill said...

Don't be fooled by low volume relative to the selloff; think about volume in a bigger context and ask what the volume was compared to the 260-day average (over a year of trading).

Volume was 40% above average for the SPX and INDU, and 19% above average for the COMPQ. Institutional investors are buying; volume cannot be that elevated without them.

Tom said...

Fabulous opening picture!
T

dk said...

Jason....
With a Stockcharts chart, just click on "annotate", and a java applet opens that allows for markups. To save the annotations, you need to be a member

Bill....
Thanks, Bill. Good points.

Tom....
Thanks for stopping by, and glad you enjoyed picture.

Ajay said...

Excellent analysis...

thanks a lot.

The Word said...

You said:
The first believes that the bull market is still intact, and that stocks will soon recover to new highs. From a pure data standpoint -- economic and market-based -- this view has a lot going for it.

The other view holds that the market's most destructive threat lies just off camera. The proof of this is less tangible and more future-weighted , but the indirect signs are unmistakable: a soaring VIX, epic New Lows, options shenanigans and a record selloff.

If I read between the lines, it suggest that the bears are right. The market is a discounting mechanism and therefore bulls do not necessarily only use current (known) data to justify their position. Both camp need to make future projection to justify their positions.
Most probably a useless comment

Bill said...

Statistically speaking, a soaring VIX, record selloff, and epic new lows are signs of a bottom.

One should probably check their premises against actual, historical data.

dk said...

Thanks, Bill. I appreciate the advice.