Near Term Overbought

The traditional McClellan Oscillator closed at 239.53 today which generally portends some sort of pause or pullback. Will we see a wild swing on the 18th as I indicated could occur on the anniversary of last year's September swoon and reversal? We will know soon enough, but with new NYSE 52 weeks highs expanding everyday, it is still hard to see how it could mark a final top in the rally.

The Qs traded as high as 42.48 today just shy of the 43.30 resistance level I have noted in the past. They don't have to hit that level, but have reached it much sooner than I expected. If that level was going to be the rally top in October, I would not have expected it to be seen so soon. If the Qs are able to take out 43.30 by early October, then all bets are off for a serious correction this fall. There will be pullbacks of course, but breaching that level convincingly would put the markets on a solid upward trajectory. I will be watching this level very carefully.

As a reminder, 43.53 is the 23.60% RT of the 2000 to 2002 decline in the Qs, 43.60 is the 61.8% RT of the 2007 to 2009 decline, and 43.30 is the July 08 swing low. So this represents a serious resistance level. Once broken, the Qs would be clear to make a run on the 07 high at 55.07 and the 38.2% RT of the 2000 to 2002 decline at 58.24. I know alot of traders may think that is crazy talk, but how many thought the Qs would be at 42.48 back in March of this year? Keep an open mind. The trend is still up.

AMZN Building A Base

The above chart of AMZN shows a very nice 5 wave advance. AMZN is currently working on a 2nd wave base that could take a few more weeks to complete, which should lead to a substantial move in the latter part of this year and 2010. EBAY has been in the news the last couple of days, but it is lagging AMZN in the sense that AMZN completed its first wave advance earlier.

The second chart shows how simply looking at the monthly 6 and 12 period emas can keep you on the right side of the trend. The weekly 6 and 12 period emas would have gotten you out of a long position in 2007 almost a year before the monthly trend turned negative. Following the monthly would have prevented a lot of whipsaws.

A Nice Close

While today's volume was light, I think the big take-away from today's action was GE closing decisively above its 200dema on higher volume. My observation from the last two weeks is that while the indexes are steadily grinding higher, leading stocks are taking turns at the point. This is perhaps giving some traders the impression that the trend is not as strong as it really is. A shakeout may be just a day away, but don't get caught in the misguided short crowd.

I had (made) an opportunity to sit down with one of my 13 year old sons this weekend and show him some interesting things on the charts. He is a math whiz, 3 grades ahead of his peers, and he asked me how I know what the stock market is going to do. I told him, the fact is - I don't. I have learned a great many methods for predicting turning points and cycles in financial markets, but they are not the basis for my trading. They only inform my trading. I explained to him that the key is not what we think the market is going to do, but what is it doing. I then showed him how we calculate exponential moving averages and a monthly chart of the SP500 with 6 and 12 month emas. I pulled out a 60 year old book I found at a yard sale that described how to determine the secular trend, and explained that is what we are doing with the moving averages. We then calculated the return from 1991 to the present of going long on a positive cross and short on a negative cross of the moving averages. It worked out to about 22% annualized with just 4 trades. He got it right away. Why bet on a bet, when you can just bet.

I know that it is hard to believe given what I just posted a few days ago about so many traders losing money, but it really is that simple, almost. Of course there is all of the mechanics of position sizing, risk assessment, targets, etc, but those can be learned.

Now, I am reading almost daily that the market is topping, that it is time to get short, ad nauseum. But take the time to look at a chart of the SP500 with the 6 and 12 emas on it without any other indicators. First look at the monthly. The 6 is just about ready to cross up the 12. Then look at the weekly. The 6 is greater than the 12 and pointed up. Then look at the daily. The 6 is greater than the 12 and pointed up. Sure, I'll grant you that momentum may be waning a bit, but with stocks like GE breaking out on a rotating basis, are you sure you really want to short this market?

Wild Swing Anniversary - Shakeout Coming?

The above chart shows the period around September 18 and 19 last year. On those two days, the SP500 experienced a swing of 11.6% from low to high. Oftentimes there is a repeat or an echo of significant swing points one year later. I am not saying that we will see the same kind on extreme swing. Actually I doubt it because those tend to happen in bear markets not bull markets, but nevertheless we could see a shakeout attempt later in the coming week. If it happens, the key will be to sit on your hands. One big down day will probably not change the trend from up to down. We would need to see follow-through and continuation to the downside. So, if we do get a shakeout, expect an equally surprising reversal to the upside. If that doesn't happen, we will re-evaluate.

Economic Anecdotes

Today has been an interesting day. In conversations with business colleagues today, the general refrain was business stinks. An architect I do engineering work for said that he's giving it 3 more months. If there's not enough work by then, he's calling it quits and looking for other work. The accountant for a large HVAC contractor that has worked for me in the past told me that their scheduled work has fallen off a cliff in the last 3 months. It will be down 75% year over year by October. These guys do large multi-family and apartment complexes all over the southeast. Last year business was booming as developers were building apartment buildings in expectation of big demand from all of the people losing their homes. I guess there wasn't as much demand as they thought. Everyone is moving in with Mom and Dad. And lastly, a close friend that runs another HVAC firm breathed a sigh of relief as he was able to land a contract that will get them through another two months.

If I were to base my trading and investing decisions off of these conversations, I would be heavily shorting the market. But that would not be the best idea. The fact is that there are other forces impacting the market and we cannot rely on coincident economic reports or anecdotes to make our decisions. The best information we have is the price of a market, and today the price of the stock market indexes continue to grind steadily higher. Until that changes there is no reason to fight it.

I must admit that I have tried to short a few stocks since May with limited success. When the market gives an opportunity, I don't mind testing the waters with a couple of short positions, but they just haven't worked. At some point they will and I'll know that it is time to increase short exposure. Until then I keep watching my long positions go up, and hope the economy will too.

A Look At Fib Levels

While there appears to be continuing skepticism about the upside potential for the stock market rally, the stock market indexes are holding nicely above their respective Fibonacci retracement levels.

The Qs closed today at 41.48. The retracement levels are:

50% - 40.06
61.8% - 43.60

The SP-500 closed today at 1044.14. The retracement levels are:

38.2% - 1014.14
50% - 1121.94

The Dow Industrials closed today at 9627.48. The retracement levels are:

38.2% - 9422.10
50% - 10334.03

At this point, it would appear that the SP-500 will continue to move higher toward its 50% retracement level at 1121.94 representing a 7.45% gain from the current close. The Dow would gain 7.34% if it hits its 50% level, and the Qs would gain only 5.11% if they make it to the 61.8% level.

That brings up an interesting problem. So far the Qs have outperformed with a gain of 61.84% from the March low, while the SP-500 has gained 56.59% from the same low. If the Qs were to maintain the same level of outperformance and the SP-500 hits the 50% retracement level, then we would expect the Qs to top at 44.84, which is higher than the 61.8% level for the Qs.

So that leaves us with three possible outcomes: 1) the Qs continue to outperform and move above the 61.8% level of 43.60 to 44.84 or higher as the SP-500 and the Dow move up to the 50% level, which would be quite bullish long term, or 2) the Qs begin to lag the SP-500 and the Dow so that they all hit their respective retracement levels together, which is not likely, or 3) the Qs top out first and then the SP-500 and Dow top out later, or short of the their 50% retracement levels.

I tend to think that it will be either 1 or 3. At the moment, I would assume that case 1 will prevail until we see evidence to the contrary. Today's advance on increasing volume is encouraging.

Constructive Day, But Not Much New

Until we break out above the August highs, there is not much to add to previous comments. However, today's action was very constructive as many leading stocks advanced strongly. In typical Murphy's Law fashion, all three of the laggard stocks that I sold yesterday gained more than 6% today. This may not be such a good sign, though. Oftentimes some of the laggards will pop as the market nears a top. I continue to expect volatile action over the next two weeks, but will remain bullish as long as the August lows hold.

Dave has posted some interesting comments on gold (see the September 4 post). The sentiment picture on gold is difficult to read as different surveys offer differing views. However, overall I think the sentiment picture is leaning toward the skeptical side. From a seasonal viewpoint, we can expect a strong rally in September to early October followed by a pullback into November and then another rally that could last into January or February. This picture fits nicely with the potential for a stock market top in October with stocks going down into January as gold tops out. I am looking to add to my DGP position tomorrow.