Retest Still Under Way
So far
there is little evidence that the retest of September’s lows is over.
The market occasionally logs in big short-covering rally days, but
inevitably returns to the downside quite quickly. Global stocks are also in a
corrective phase, with even strong Asian and Eastern European stocks
consolidating. Only Thailand and Red
Chips are making new highs this week.
Recall that the 925-950 support
level is critical for the S&P, and should the market decline below this
level, it may set off an avalanche of sell orders by frustrated traders and
investors throwing in the towel to this bear market.
Such a decline would complete a MONTHLY chart head-and-shoulders top and
signal much lower prices to come, and probably an abortion of the global
economic recovery. We still put higher
odds on the market NOT making new lows, but let’s let the market tell us what
is ahead.
The dollar
continues to test the 110 support area and has just been able to sustain a
consolidation in this area. A high volume
weak close below this approximate area will be a breakdown of a weekly chart
one-year-plus double-top formation, and should be a signal to investors that
dollar weakness will continue to be a major theme in the second half of the
year. If this level CLEARLY gives way, it
will mean that investors will have to look at ways to defend themselves against
a weak dollar via gold, other currencies, and foreign market strategies.
Economically sensitive
commodities continue to inch higher, showing a pretty clear indication that they
expect the global manufacturing recovery to remain intact and even grow down the
road. Nickel is getting close to breaking a
multi-year weekly chart head-and-shoulder bottom, and tin
is close to breaking out of nearly a year-long double-bottom formation. Base metal stocks
would be a viable play for investors, especially since they have avoided the
wild run-up to overvaluation, as have most gold mining stocks.
Investors should watch the U.S.
and developed markets for some follow-through days on the upside accompanied by
much better breadth. Remember that our
own breadth tools have not flashed buy signals since the early 2000 top.
We will therefore be keeping our eye out for a 9:1 up/down volume day,
the 5-day moving average of advancing volume to be 77% or more of total volume,
an 11-day A/D ratio of 1.9 or more, or a 10-day A/D ratio of 2 or more to make
for a totally confirmed bull move.
However, it would not surprise
us to see a couple of follow-through days and no further breadth confirmation
that leads to a catchable, but slight, bull move similar to what we experienced
off of the September lows if this retest is successful.
Any kind of positive breadth signal MUST be confirmed by a substantial
increase in Top RS/EPS New Highs, as well as a sharp rise in close calls and
potential breakout trades in leading industries.
We hope that the last couple of
years have illustrated to investors following our methodologies how important it
is to wait for clear strong breadth in breakout opportunities on our lists.
We’ll just have to take whatever opportunities the markets give us.
A breakout by base metals, as well as a resumption of global growth and
new highs in EMs could give us more opportunities in Asian and Eastern European
markets down the road. Aggressive
investors could also be participating in Thai and Red Chip bull moves now.
From a psychological and
economic standpoint, the U.S. and developed markets need more evidence of
broad-based earnings gains so that earnings gains can begin to take over
from monetary stimulus as the fuel behind stock price gains.
Our macro analysis, along with study of the market’s reaction to
overvaluation historically tells us that although the market can ALWAYS DO
ANYTHING, we are probably wise to expect only a potential MINI bull move —
playable, a la 1965-1982, but
nothing like the bull moves of the 1982-2000 secular bull markets, for many
years to come.
Our US long/short strategy
continues to show reasonable gains with very low risk this year.
We’re making money at close to a 20% rate so far this year, OK, but not
exactly wonderful. Investors may have to
adjust to a lengthy period of global multiple convergence, where overvalued U.S.
stocks have trouble rallying en masse for many years, while certain sectors
present limited, but good opportunities, such as we’ve seen in the
homebuilding and regional banking industries this year.Â
Top
RS/EPS New Highs this past week improved
somewhat, but are still below 20 per day consistently with readings of 10, 10,
23, 23 and 15. However, we did have a
close call along with a valid trade in Mid-Atlantic
Medical
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PowerRating), in the leading HMO group. Wait now
for at least a couple of follow-through days before anticipating that this
retest is over. Bottom
RS/EPS New Lows continued to expand, showing strong breadth last week with
readings of 66, 92, 25, 55 and 79.
New Lows were not only consistently above 20, but showed higher overall
readings last week, signaling that downside pressure is growing.
The quality of new lows was better, as we had a few close calls and one
valid short trade in Ilex Oncology
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PowerRating).
There were only 16 breakouts out of four-plus-week consolidations on the
upside last week, and 43 breakdowns of four-plus-week consolidations on our new
high and new lows lists. Continued improvement in new
low numbers and quality will help tell us whether this is a retest of the September
lows or whether it is the beginning of a new leg down in an ongoing bear market.
Watch carefully!
Our official model portfolio
overall allocation remains VERY DEFENSIVE. We’re
now 100% in T-bills (including short sale proceeds) awaiting new opportunities,
and 16% invested in one short and one long (our short proceeds finance our long
trade). Our model portfolio followed up weekly in this column was up 41% in
1999, up 82% in 2000 and up 16.5% in 2001 — all on a worst drawdown of around
12%. We’re now up around 6.8% for the year 2002.  Â
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 the U.S. market, continue to
only buy or short stocks in 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:
Mid-Atlantic Medical
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PowerRating) @38.85 (38.76) w/33 ops. Continue
to watch our NH list and buy flags or cup-and-handle breakouts in NH’s meeting
our up-fuel criteria — but be sure to only add names that are in leading
groups, and now only add two trades per week once again until the market
environment improves.
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: Ilex
Oncology
(
ILXO |
Quote |
Chart |
News |
PowerRating) @13.76 (14.41) w/16.25 ops. 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 to the downside, but only add up to
two in any week (and only in the weakest groups) until market weakness is more
pronounced.
Sometimes the most critical
skill for a top trader is not trading itself, but watching the broad markets
very carefully and waiting patiently for a plurality of signals in the same
direction. This is like hunting.
A good hunter isn’t only a good shot, but also good at waiting for a
decent shot and watching and learning about his prey.
The market will give us numerous opportunities to make money in the
months and years ahead. But for now we
need to stay lean and watch carefully to see what develops and to wait for a
high-probability trading period in either direction.
Until that happens, we are carefully studying our prey, waiting for a
good shot to take.
Watch the plurality of
the markets in general for clues on how to move next.
Further indication of recovery will show up in commodity prices and
further rallies in developed markets, giving EMs a further push.
Deflationary and inflationary scenarios also need to be monitored.
As we’ve been saying in recent weeks, now is not the time to get bored
or fall asleep because of inactivity — it’s the time to watch the leadership
and breadth numbers closely to determine what lies ahead and how to position to
exploit it.