The Writing Is On The Wall

The Dow closed decisively below 8000 today for the 6th time since October last year. It is clearly leading the way down. The Qs stopped at a 6 day trendline, so a bounce tomorrow is possible, but any bounce is not likely to last long. Today's action appears to be more than just a correction of the rally, but as bad as it was it may be premature to rule out one more attempt at a rally high. A break of 29.69 in the Qs, the January 2nd opening day of the year low, would confirm the downtrend. Any number of other methods could also be used to confirm the downtrend in the Qs: 1) a 3 week low at 27.96 (or 28.74 if not broken this week), 2) a macd sell signal, 3) a break of the lower trendline of the rally from the November 21 low, or 4) 2 days of higher lows which would create a fractal sell pivot followed by a break of the pivot.

I don't think the choice of method is all that important. What is important is recognizing that the intermediate term trend is aligning with the primary trend, and that is where the money will be made until we get a climax bottom.

Looking at the Dow, I see the two primary targets at 6400 and 5000, based on fibonacci extensions and long term moving averages. I really don't think 5000 is likely, so 6400 is the most probable bottoming area. 6400 is at the confluence of the 400 month ema, a long term trend line beginning at the 1987 low and is a fibonacci extension of the recent decline from the January high. If we happen to hit that area around March 10+-, then I will be exiting all short positions at that time regardless of whether or not other targets have been hit as the upside risk will be tremendous. The rally off of the upcoming low will most likely be similar to the rally after the 9/21/01 low and the 3/12/03 low, the kind of rallies that can wipe out a month's worth of gains on short positions in a couple of days. The point is: don't be greedy.

The most likely bottoming time frame should be March 10 to March 21 based on the 10 month cycle and Gann turn dates. Due to the large number of turn dates in March, it could be a violent bottoming process with several big swings before it gets off the ground. Either way, again it is best to be out of shorts during that time frame.

The only thing that would alter this outlook would be a collapse below 6400 well before March 10. If that were to occur, then the 5000 target would be the next most likely outcome.

Since today's action most likely signals the beginning of the final leg down, I exited my RIMM long position today for a modest gain of 16.6%. I see no point in waiting around to get stopped out at the three week low of 48.99 giving up all of the gains when it will most likely follow the Qs down. I am still long POT as it appears to have one more up leg left. Other than a couple of biotech longs that I intend to hold through the final leg down, I am mostly short. I have at least 3 more short stock positions to add and I will add to index short positions using one of the confirmation methods I listed above.

Good luck and be patient. This downtrend should last 3 or 4 more weeks.

Still Waiting

The Qs finally pushed above the Jan 6th high by a whopping 4c today. While this probably means that we will see at least one more push higher, it will probably come after a pullback. Several of the indexes today including the Qs had a narrow range day indicating a contraction in volatility. November 3rd was recent example of an NR7 day after a rally. The Qs broke out to the upside by 4% the next day, but then collapsed. We may see an immediate decline tomorrow or a similar pattern with a breakout tomorrow followed by a decline.

As the Qs have approached the January highs, the patterns in a large number of stocks are beginning to mature, which is a tell that there is not that much upside left without a correction first. A good example is AMZN which has hit its upper parallel trend channel for the last two days just above the 200dema.

It would seem obvious that the markets have priced in an $800 billion dollar "stimulus" bill and a another bank bailout, so it is hard to imagine what additional positive news would drive the markets higher. At this point we can be confident that this is a countertrend rally. The only question is how much upside is left. We are now 52 trading days from the November 21 low. For the past two years, the Qs have consistently turned at 55 trading days +- 2 days. We may see another one in the next 2 to 4 days.

Dave posted some interesting comments on gasoline and the refiners on my last post. I definitely see some potential there, but with regard to TSO, it appears that it may have completed 5 waves up from the November low and may have completed an ending diagonal 5th wave today at the 200dema. There is room for one more up down sequence to complete the ending diagonal, but it may be time to consider taking some profits. If this is the first wave of a new impulse or zigzag correction, there will be another good opportunity after a correction.

Pushed To The Limit

It looks as though the Qs may break above the January high next week, but it is not a certainty by any means. Today was a Gann turn date and as the previous dates have worked out well, we may see a selloff on Monday. If the Qs do break above the January highs, then the likely target is 34. If that happens, then the decline into January 20 was wave (c) of a b wave flat as I had thought. It is abundantly clear that the rally from November 21 is an upward correction with overlapping waves, but just because it is doesn't mean that it can't continue substantially higher.

While the Qs may be making new rally highs, it is likely that the broader indexes and the Dow will not. The question is what will it mean if the rally continues for another few days or weeks. Most likely, we will be returning to the triangle interpretation in the Dow. If the Dow is in a triangle then we are in wave C up with waves D and E to follow.

Trading in this environment is tricky at best. For trend followers it is the pits. However, adaptability is a requirement for the job and each trader must have a plan for how to trade in a range bound market. One option is to change to a hit and run style exiting with smaller gains after a 1 to 5 days. Another is to trade long and short trends with wider stops and smaller positions. Sometimes the best option is to be in cash. I know I would have been better off if I had remained in cash from late November. I don't like changing my overall trading style because one must then rely on discretion to determine when to change.

Nevertheless, I have kept a mix of long and short positions while trading half positions in the indexes. The longs are beginning to pay off while the shorts have not worked so well. At this point though I am not expecting to significantly increase long positions. If markets do head significantly higher over the next weeks and months instead of falling to a new lows, there will be plenty of time to get on board.

Qs Gaining Relative Strength

The Qs broke above the Jan 28 high yesterday and today failing to close above that level. Previously I said that this did not invalidate the bearish case meaning the potential for a near term resumption of the decline in wave 5 down of primary wave 1. This is true because the rally high of 31.63 on January 6 has not been exceeded and the current advance is likely wave ii up of 5 down. As long as the January 6 high is not surpassed the weight of evidence leans towards a resumption of the decline near term (within days). If the January 6 high is exceeded, then either the November 21 low was the end of primary wave 1 down, which I doubt, or wave 5 down will be delayed for another week or two.

An interesting observation looking back over the last year is that the QQQQ relative strength has peaked with each rally. What seems to be happening, as pointed out by Robert Prechter, is that the small speculators are becoming bullish relatively quickly after each bottom as demonstrated by buying the riskier high beta Nasdaq 100 stocks before there has been a true climax bottom. So, rather than viewing the QQQQ relative strenght as a bullish omen, it is probably a sign that a top in the Qs is near.

It is clear today that people want to be long before the employment report. Either they know something that I don't or this could be a good setup for a sell on the news event. Tomorrow is a Gann turn date as stated previously so the rally into the turn date also suggests tomorrow may be a down day.

The intraday pattern suggests that we will see another attempt to push the indexes higher before they roll over later in the day regardless of the report.

On a side note, today's action confirmed IBDs market rally call as the macd on the SP500 and Wilshire 5000 turned positive and the markets closed up on higher volume. Obviously, tremendous tension has built up that will be released one way or the other very soon. Currently I am not fully positioned for either direction, but weighted toward the downside.

EUR/JPY Leading The Way Down

Over the last few months, the direction of the EUR/JPY currency pair has been an excellent leading indicator for the US stock market. This morning it is moving down impulsively after completing a 3 wave rise yesterday. A move below 113 will confirm the downtrend and suggests that the next major move in US indexes will be down.

In The Squeeze

The above chart is a 2 day chart of the QQQQ with the 20 day 1.5 SD Bollinger bands in black and the 20 day Keltner channels in magenta. The first indicator panel is the 10 period rate of change and the second indicator shows if the market is above or below the midpoint of its 14 period range (14 period maximum - 14 period minimum).

This squeeze has been setting up for the last 4 weeks. We can expect that at some point in the very near future we will see an explosive move in one direction or the other. The 10 period rate of change is suggesting that the breakout will be to the downside. The range indicator is suggesting the opposite. The Dow and the Transports have already signaled a short breakout, but there is nothing that says those signals can't be false.

We are approaching the choke point. Either markets will continue to trade in a narrow range invalidating the bearish wave counts, or we will see a breakout within the next week. Today the Qs and other markets appeared to complete a 3 wave rise from yesterday's low. If so, markets should move down from the start in the morning. The Qs could move above the 1/28/09 high and not invalidate the bearish case, but anything beyond that will put the bulls in complete control.

The seasonal pattern indicates that the current rise is just part of a small countertrend and the larger trend should be down. However, the markets need not follow the seasonal pattern. Price is the final arbiter of the trend and price still says the trend is down. If this changes, we must change with it.

Working Lower

The Dow closed below the 8000 support level again and the Transports closed below the November low confirming the trend is down. However, it looks as though we will see one to two more days of rally in the Qs. Looking at a chart of the Qs it is actually beginning to look rather bullish, but I think this is a deception. A 2 day short squeeze fired off today in the Dow as the bollinger bands on the 2 day chart moved from inside to outside the Keltner channels and the Dow is below the midpoint of its 14 period range. (See John Carter's "Mastering The Trade" for details on this setup.) This squeeze setup has been developing since November and could be very powerful once the Dow begins to accelerate to the downside. This process may take the rest of the week, but there does not appear to be a catalyst to alter this outcome at the present time. Even the vaunted "Bad Bank" is probably already baked in so any positive response to news with that is likely to be short lived.

This month is the time to be looking for longs on the other side of the low and a number of stocks are building bases that look positive for March and beyond. Take a look at GMCR, SQNM, PETS, AMZN, RIMM, CPSI, QSII, AZO, HANS, ATHN, CMN, COGT, CEPH, TSYS, SAFM, EBS, OSIR, VRTX. These are a few that I like for later. I am currently long RIMM from early in January and I see no reason to exit just yet. It seems to be rising against the tide.

Patience. Patience. Patience. This narrowing trading range has eaten up 2 1/2 months, but we should soon see a strong trend or two.