Hitting the wall at 1100

It looks like the confluence of resistance at 1100 for the ES proved to be telling event. The bulls pushed up into this area several times, albeit on light volume, but couldn't break out. After the 2nd or 3rd attempt, the bears smelled blood and took things down harder than we have seen in a while, but on high volume. This light volume rallying intermingled with higher volume selling is commonly recognized as distribution in the overall market whereby the smart money starts getting out while the less savvy blow off top and rally latecomers continue to hope for higher ground. It's interesting as well that this is happening in the face of increasingly positive economic news, or at least increasingly positive economic spin. There are many who continue to disbelieve the underlying strength of the recovery, and the market appears to be agreeing with them at the moment. In the very least, the TA crowd and HAL 9000 traders out there were definitely targeting 1100 as a sell point, if not outright manipulating the convergence and breakdown right there for maximum effect.

Reversals don't happen suddenly. It takes time for the tiny cracks in the foundation to creep and grow into a systemic problem. Sometimes this breakdown of structure is slow enough that it heals itself and things move on, which would essentially lead to a relatively small correction and resumption of trend. But other times, the cracks can't be stopped. They get bigger, and faster, and scarier until the inevitable collapse of the structure under its own weight.

Along with the price volume action of distribution, the de-trended oscillator is showing classic divergence signs as we pushed to higher ground. The oscillator peaks are getting lower and lower, and there is a case to made that the cyclic behavior which has been mostly positive since March 9th this year is ready to dip under the zero line and spend some time south of the border.

This would imply the general market will be going down for some period of time. These technical artifacts coupled with being 60% up from the bottoms, and at record heights above the 200 day moving average all support weakness in the days and weeks to come. Its just really hard to make the case for going up. Going down is the path of least resistance.

Christmas retail season and the next quarter will no doubt be a very key tell for the markets in general. Is the consumer ready to keep this recovery propped up? Or will the Govt step in again, and how much? Will Corporate earnings meet/exceed expectations, or will a veneer of stimulus based recovery be fully worn off by then? Will a whole new sector emerge as a leader? And will it be leading up and out, or at the vanguard of the next major collapse? I think its safe to say no one really knows. There's a lot of optimism out there which could be valid, but if we're not considering the worst as well, especially when it comes to situating investment funds, we could be in for a big and very ugly surprise.

That being said, optimism can easily catch fire even if we see a pretty decent correction here. There is lots of dry powder available to dump on this market and burn the shorts when they least expect it. We just need a good catalyst. Maybe Christmas retailing won't be so bad. Couple that with some job growth and decent GDP, and some of the indices close to their 200 day moving average, and the stage for another launch is set. Interestingly enough, the 200 day MA for the ES is tracking the positive channel bottom in the picture above. The slope of that line seems to be the long term regression trend of the S&P as well. It's all very orderly actually, even more evidenced computers are driving the whole thing from the 10000 ft view.

If you go back decades, the 200 day MA of the S&P has never experienced 2 points of inflection within a short span of a recessionary period (i.e. a local minimum). So there is a strong case to be made for bouncing at or near the 200 day MA line because history tells us that average should continue going up at this point. So that's the better odds bet. However, if it does roll over and turn south again soon, its time to get very short this market. A crash of unprecedented proportions would probably be upon us. And frankly, the global situation of tight credit, potential deflation, very high outstanding leverage on existing debt, as well as potential for continued real estate and bank failure makes me wonder whether this isn't the time we break the pattern. It's worth considering, especially if we start getting early warning signs from the market in the weeks to come.

No really knows what's going to happen, yet there exists a reasonable investment strategy for the choppy action here. The S&P daily chart is trending up and down reasonably well despite all the volatility. We've seen mostly up since March 9, but taking the opposing side as we cross under moving averages probably would have worked out positively at least flat, but not negative, despite being short lived. An investor who is allocating 20% of his money in S&P futures and 80% in cash equivalents will mathematically achieve 2x s&p performance for total portfolio in a bull trending market with virtually no hedging or trading at all. With hedging and compounded gains from dips, this number could be significantly higher.

With higher allocation into futures, the gains can be leveraged up at will. Each 10% of portfolio committed to S&P futures is more or less another 100% increment in portfolio performance relative to the S&P (from the point of entry), but that means the dips get bigger too, so hedging skill is even more important to even out the bumpy ride. The tradeoff of allocation vs. gain is one each investor has to make for himself according to his tolerance for risk and account value fluctuations. And of course, with futures, you have to be extra sure your position is not so large that a single unforeseen event won't wipe you out because P/L in the futures market is settled each and every day. A 10% market move against an initial S&P futures position wipes it out altogether, and if not sold at that point, threatens to cost more than the original position. Such is leverage, so there is definitely some risk. However, this is risk managed by countless traders and portfolio managers every day.

One can do the same in a bear trending market too, and potentially make 2x the absolute value of the movement of the S&P down. Recognizing when to switch from bear or bull is considered an art unto itself, but intelligent hedging money management should provide the opportunity to ride through the reversals and always be more or less with the long term trend.

The tale of two channels...

Which way? Which way?

On one hand, we have a very nice upward channel with the March 9th marking a true panic low, which by my reading, is a feature which extends well below established channel range trading. We have risen some 60% or so from that bottom and made many wonder what is driving it all. Its a very good question. My take is that the Govt has simply replaced the consumer which used to drive the Market until Oct 2007. It may not be over, but it can't last forever.

Now on the other hand, there is still a very major downward channel which frames the is entire bear market. The bear has been very beaten up recently, but it may not be completely dead.

The S&P is quickly approaching the upper trend line for the down channel, and the detrended price oscillator is definitely showing divergent tendencies indicating good grounds for weakness. On top of this, the dollar weakness, which few would argue has some significant role to play in the rally so far, is potentially at a turning point. We saw a bogus devaluation story this week, followed by supportive statements from the FED more or less confirming the dollar will be supported, and QE will be reduced when the economy improves. Since the FED has also been talking about how much the economy is improving recently, it seems logical to think they might be ready to support it soon.

And then there is earnings. INTC and GOOG on deck, and its going to be a big part of what happens in the next couple weeks. Good earnings could very well break the back of this downward channel and leave no where to go but up. The upward channel will prevail, and we'll know which lines to follow. But earnings could be also be not so great, or just not good enough.
There are hidden forces at work in the collective mind of traders at large, and a small crack in the dam can lead to a whole lot of damage. So we are far from out of the woods.

Collision with the upper line of the big down channel is a major crossroads for this rally. It's going to get interesting.

Big view S&P monthly log chart

Lower trend line support connects 1932 bottom, WWII bottom, 1974 bottom, and 1982 market bottom (and beginning of super bull market). So considering currency shifts & gold standard, inflation/deflation, political unrest and war, major booms and busts, and decades of plowing steadily along, this line has set the low bar.

Prior to the March rally, we were spitting distance away from this line. If we fall back to the low 700’s again this summer, the mid 500’s will definitely be my target. It will either be a once in a generation bottoming opportunity, or the sign of a major breakdown of US economic might.

I think its also safe to say the mid line is a pretty good place to expect some significant weakness if we do continue to rally up from here this year. It could take a year or 2 to get there.

Also notice how the 666 low is almost precisely a 61.8 % retrace from the 1982 low (100) to the Oct 2007 (or Sept 2000) highs. Pretty interesting.

ES channel

Here's the S&P e-mini futures (symbol: ES) channel in play since with th erecent rally. We hit support today after yesterdays big selloff and bounced yet again.

Can it last? Lots of people talking on both sides of this rally now. I think breaking out of this channel will be a big deal when it happens.

Oh...by the way.

The catalyst for the selloff. Chris says Hedge fund redemptions are cutoff this friday. So if you have deep pockets, but you are sick of your hedge fund manager partying in the hamptons while your pockets are getting progressively and significantly less deep, you may want to go to cash. These redemptions beget selling and margin calls which beget more selling and more margin calls and more index dropping and more panic and more redemptions until the market loses more in 2 days than any other 2 days since 1987 (happened last week).

Well all that will come to an end for the year this friday if our information is right. So significant selling pressure should subside.

It would be perfectly natural for saavy pro traders to participate in a final plunging of the market to celebrate and profit from this important deadline. If it weren't a historically awful bear market, it probably wouldn't make much difference. But in this environment, another 10-15% drop would be no problem.

Get ready for the bounce.

2 Pictures of interest:

The first is the big picture of s&p falling since mid may. This one lines up fibbonacci retrace levels with big movements in the s&p. The end point support prediction is the mid to upper 700's. I honestly think this is where we're headed soon.

Also take notice in the above plot of the steeply sloped lines on the right. That's a channel which setup Monday morning to guide a steep fall this week, and possibly longer.

I'd expect S&P movement to be repelled at edges and to be attracted up or down to the center, but generally in a twitchy manner with detail not unlike what we see here.

The edges are what counts. They setup reversals with elevated probability of success.

At some point, I'd expect a pretty substantial selloff. The descent of the s&p will be parabolic on a 5 minute candlestick chart, and the bounce from whatever bottom takes hold will likely be dramatic as well. I'd also expect the VIX to get close to its highs near 90, which seems to be the new panic level these days.

Some good options for bounce buys: I like 2x index etf's SSO, DDM, QLD, UWM, and also the 2x bank etf UYG. Also, oil is heavily beaten down. It has to recover at some point. Oversold is oversold. DIG is 2x oil etf.

There are inverses of all these to profit from the fall if you are so bold. SDS, DXD, QID, TWM, SKF, and DUG, respeectively. But you are absolutely playing with fire if you short without watching for the squeeze in this environment.

Have fun, and good luck!

S&P bottom?

Long term S&P: 50% retrace line is 1175

1 year s&p action. 1170 is channel bottom, and fib bottom too based on some previous reversals.