Thursday, May 13, 2010
The steamroller has hit a wall...
Between February 9 and April 23, the stock market rose on 37 of 52 trading sessions. It only fell on 15. It was one of the most powerful intermediate-term bull markets ever, and it resulted in a top-to-bottom gain of 15% in 10 weeks.
The market was so strong, it brushed away the Goldman Sachs lawsuit like a loose hair. It treated the Greek debt problem like a humorous anecdote.
Then, last Thursday, the market plunged 8% in five minutes. Financially speaking, this plunge wasn't important. The market rallied back immediately and ended the session only 3% lower. On a long-term chart, you can't even see the dip.
The real damage was to sentiment.
The plunge generated a sudden spike in fear, rupturing the market's optimism. With optimism destroyed, the big problems returned to the foreground...
Last week, traders were able to ignore Greece. Now, they think it's going to destroy the euro. Last week, they laughed at the SEC's lawsuit against Goldman. Now, they're worried a huge overhaul of financial regulation will destroy banking profits. Last week, China was the strongest economy on the planet. Now, it's a bubble about to burst...
In short, the plunge caused traders to remove their rose-tinted glasses and now they see threats coming from every direction.
Here's a six-month chart of the S&P 500...
First, notice the price action. The three-month uptrend since February is over.
Now, look at the bottom section, with the black and red bars. This shows trading volume. The red bars represent volume levels on days the S&P fell, and the gray bars show volume on up days.
The red bars are much taller than the gray bars. This shows volume is much greater on days the market falls than on days when the market rises.
On Monday, for example, the S&P 500 rose almost 4%, its best one-day performance in over a year. But volume wasn't even close to the levels it reached when the market was falling last week.
This volume action is the classic mark of a downtrend. Why? When the market falls, the bears get much more excited than the bulls do when the market rises. It suggests there's more enthusiasm in the market for selling than for buying.
Bottom line is, the bearish price action taken with the large selling volume offer strong evidence of a major trend change in the stock market.
But this is not a recommendation to sell everything and put all our bets on a downturn.
As I told my Penny Trends subscribers, we're at a critical juncture. The signs are ominous, but we need to wait for confirmation before we get aggressive on the short side. Here's exactly what I'm looking for...
If the S&P closes above 1,217, I'll assume the rally that started in 2009 is still alive... I'll be particularly convinced if I see a similar amount of volume on the buy side as we've recently seen on the sell side.
On the other hand, if the S&P 500 closes below 1,110, I'll assume the trend has turned down and start adding positions that profit in stock market declines, like inverse ETFs and short stock positions.
In the meantime, I recommend you avoiding putting on new trades. Watch your stops on the trades you hold. Give the market another week to either confirm or reject a new downtrend, and trade accordingly.
Record gold surge... price nears $1,250 an ounce, up for 6th straight day.
Baidu rockets to fresh 52-week high after 10-for-1 split... "China's Google" up 88% this year.
Monsanto plummets to new 52-week low... Barron's says weeds have become resistant to company's Roundup spray.