Holiday Week Brings Few Breakouts
The
market held up over the holiday in a tight consolidation range made
up of several days of relatively quiet trading. As might be expected, the days
leading up to Christmas, including one shortened session, did not bring about
the five or six breakouts per day that we are looking for to get an all-clear
signal from the market. Both the Dow and
the S&P continue to fight with their 200-day moving averages, while recent
outperformance in technology and small caps keeps the Nasdaq just above its own
200-day. Ideally, the broader market
breaks out of its consolidation range on volume that outpaces what we have seen
this week. That would be the green light for adding longs to our portfolio at a
rate of more than two per week. Until then, we still remain very selective and
are watching for breakouts in fundamentally strong stocks, with special
attention to group relative strength. Our portfolio continues to do well based
on this conservative approach, and we would rather preserve our capital and wait
for the all-clear signal from the market before diving in headfirst.
On
a positive note, economically sensitive commodities appear to be building bases,
which is characteristic of discounting better times ahead. Lumber is rallying
off of a decent base, while cotton continues to consolidate between 35-40.
Copper is holding up at the bottom of its newly established range, which is
bound by support near 67 and resistance near 74. And bonds recently broke
through weekly trend-channel support levels, which marks the clearest return to
economic growth. When we see cotton and copper follow lumber’s strong lead, we
will feel more confident that the markets are discounting economic recovery.
Also, we will be watching the New Zealand and Aussie dollars closely, as they
appear to have begun the base-building process.
The
breadth and leadership numbers for the week are still positive, but not quite
where we want them to be at the beginning of a sustainable move. Top
RS/EPS New Highs vs. Bottom
RS/EPS New Lows for the latest week were 20/1, 16/2, 26/1 and 35/0. The week
saw 20 or greater new highs on the majority of the four trading days, but
leadership is still lacking without a strong showing of 100 or more new highs on
one day. Breadth and leadership for new lows is non-existent, which has been the
case for several weeks. Look for longs to reach 20 or higher CONSISTENTLY
in a week and over 100 on at least one day before becoming very bullish.
Breakouts
vs. breakdowns of four-plus-week consolidations on our lists for the shortened
week were thin at 0/0, 5/1, 2/0 and 3/0. This
amounts to 10 breakouts to new highs from solid bases — still far from our
idea of a robust market. There was one
close call this week in Quality Systems
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PowerRating), but no new trades as the
quality of breakouts deteriorated further. We need more breakouts by leading
stocks in groups with good relative strength in order to participate in the next
leg of the market without accepting too much risk.
Our
overall allocation remains DEFENSIVE with 68% in T-bills awaiting new
opportunities. Our model portfolio followed up weekly in this column ended
2000 with about an 82% gain on a 12% maximum drawdown, following a gain of
around 41% the prior year. For year 2001, we are now up about 17.94%, with a
heavy cash position.
For
those not familiar with our long/short strategies, we suggest you review my 10-week
trading course on TradingMarkets.com, as well as in my book “The
Hedge Fund Edge,” course “The Science of Trading” and new
video seminar most of all, where I discuss many new techniques. Basically,
we have rigorous criteria for potential long stocks that we call “up-fuel,”
as well as rigorous criteria for potential short stocks that we call “down-fuel.”
Each day we review the list of new highs on our “Top RS and EPS New High
list” published on TradingMarkets.com for breakouts of four-week or longer
flags, or of valid cup-and-handles of more than four weeks. Buy trades are taken
only on valid breakouts of stocks that also meet our up-fuel criteria. Shorts
are similarly taken only in stocks meeting our down-fuel criteria that have
valid breakdowns of four-plus-week flags or cup-and-handles on the downside.
In
an environment unclear directionally, we also only buy or short stocks on
leading or lagging industries according to our group and sub-group new high and
low lists. We continue to buy new signals and sell short new short signals until
our portfolio is 100% long and 100% short (less aggressive investors stop at 50%
long and 50% short). In early March of 2000, we took half profits on nearly all
positions and lightened up considerably as a sea change in the new-economy/old-economy
theme appeared to be upon us. We’ve been effectively defensive ever since.
Upside
breakouts meeting up-fuel criteria (and still open positions) so far this year
are: Possis Medical
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PowerRating) @15.3 (18.76) w/17.90 ops; Central European
Distribution
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PowerRating) @10.3 (12.58) w/9.9 ops; Ryland Group
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PowerRating) @64.3
(73.96) w/62.5 ops; and Urban Outfitters
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PowerRating) @21.9 (23.65) w/18 ops.
Continue to watch our NH list and buy flags or cup-and-handle breakouts in NH’s
meeting our up-fuel criteria — but continue to add just two per week, and
only in leading groups, until we get breakouts in the S&P and Dow.previous
columns), we’ll drop the “two per week only” advice on longs —
but until that happens, we’ll sit tight and let the market give us more
decisively bullish signals than we have seen to date.
On
the short side this year, we’ve had breakdowns from flags (one can use a down
cup-and-handle here as well) in stocks meeting our down-fuel criteria (and still
open positions) in: NONE. Continue to watch our NL list daily and to
short any stock meeting our down-fuel criteria (see 10-week
trading course) breaking down out of a downward flag or down cup-and-handle
that is in a leading group.
It
may not be exciting to wait out the market as it consolidates, but it may be
just what the market needs before giving us a real breakout. If the market is in
store for a retest, we are comfortable with our defensive approach and will be
patiently waiting for more positive action both technically and fundamentally.