Friday, September 2, 2011

The Rally the Past Two Weeks Has Been Unconvincing

No one wants a bull market more than I do. They are far easier to trade and only a Grinch enjoys seeing their friend's and neighbor's 401(k)s taking massive hits. I want to be long America.

But I can only place trades based on what I see on a chart and what I know about the state of the economy. Neither fundamentals nor medium-term technicals are bullish and September and October are setting up for more fireworks on the downside.

The bullish case seems to center around two subjects: corporate profits and the Federal Reserve promising more candy to the markets.

The latter requires little discussion here as common sense tells us the previous rounds of governmental stimuli and Fed injections did nothing but exacerbate the mess in which our country finds itself.

As for corporate profits, while they have indeed improved since the initial economic crisis, this is likely already manifested in the rally in equities. But investors pay a premium for equities not just for profits but also for growth. And without growth, there is no reason P/E ratios can't go down to very low levels.

Corporations have hoarded cash and have not grown as witnessed by persistent unemployment. To climb on a soapbox for a moment, this is a highly myopic strategy on their part. The only way to spur growth is to reinvest profits into business expansion and hiring more people. There will be no pulling out of this near-Depression until the American middle-class is working in decently-paying, full-time jobs and can spend a little to fuel the economy. And hopefully save a little of their paychecks this time around. Wouldn't the long-term benefits of spurring growth and getting Americans working again be worth a few pennies per share to a corporation's investors? Sadly, I am not holding my breath.

Now, on to the technicals:

Two weeks ago on my blog, I warned that the first wave breakdown from the head-and-shoulders top on the S&P chart was likely complete and a retracement back to the neckline was probable. There was significant data pointing to this scenario; MACD Histogram divergence, a graveyard doji pattern and 38% Fibonacci support from the March 2009 lows.

This proved to be correct but I am looking to switch back to a short position soon as the rally has been unconvincing. It looks to be an Elliott Wave A-B-C correction of the first wave down. The next wave should be the deepest and longest. The Volatility Index chart confirms this as it is showing a bullish flag continuation pattern which is decidedly bearish for stocks.

There is also little room left for the rally to run. There is a heavy band of resistance in the 1260 area where the neckline, downtrending moving averages and the 62% Fibonacci support of the recent move all reside. Please see the charts and notes below for reference.

If the bulls can break above the 1260-1280 area I will reconsider my thesis. There is no place for bias in trading and one must always be nimble enough to exit when the market proves him or her wrong.

As always, this is for informational and educational purposes only. I am not an investment advisor. For full disclosure, at the time of this writing I am completely flat in my account but looking for an entry to short the SPY.

All charts courtesy of

The Big Picture:

And the daily:

Finally, the VIX:

Thank you for taking the time to read this update! I wish you all a good night and safe and happy trading.

1 comment:

  1. great charts and I agree with you. Everything has played out according to your predictions so far. So my question is to you, do we break support? And if so, how far down do we go? I am looking at the next level of support around 1000-1040 which would take back the whole QE2 rally. I am looking to put a short on if we breakdown below 1120 which i think is going to happen.