Is Divergence Pointing to a Bottom?

The world central banks are busy injecting liquidity into the financial markets and the financial markets are busy injecting liquidity into the pants of investors. Wednesday’s market was so bad about the only thing that can redeem it is just how bad it was.

For the third time we are at the precipice - 850 on the S&P 500 Index (SPX). I’m curious how this will influence the retail investors sentiment. If they will continue to be nonchalant or once again turn to historic pessimism.

We had 12 times the number of declining stocks to advancing stocks

on the NYSE. For the Nasdaq the ratio was half. Not surprisingly then, well over 90% of the volume flowed from declining stocks.

There are divergences popping up all over the place. The CBOE equity only put call ratio, for example, continued to act strangely when it didn’t even rise above 1.0 - in fact, since this waterfall down move began, it has managed to put in lower highs. First in mid September, then in early October and then now. Such a negative divergence would be bad news for the market, except for the fact that the options market has been absolutely crazy lately.

Another divergence that caught my attention was the Bullish Percent Index (of the S&P 500) compared with the S&P 500 Index itself:

Grasping at straws? Maybe. We are sitting at the ledge, peering down to who-knows-where. Paulson has just thrown up his hands, all but admitting that he has no idea what he is doing. Do you really expect the same person who oversaw this crisis in the making and who just a few months ago assured everyone about the soundness of the US financial markets to be the same person that would actually solve the problem?

We may even break down through the 850 “line in the sand” but even if we do, all may not be lost. Looking back through history, it isn’t rare to find lasting bottoms which occurred after a slight penetration of previous support levels. The most recent example would be the 2002-2003 bear market bottom.

Comments

[Moon Kil Woong:]

If the Dow goes below 8,000 you will see huge losses by hedge funds etc. that have essentially played the 8,000-8,500 volatility spread. In fact, many have put most of their eggs in such spreads. I assume they know if it cracks it doesn't matter because their funds will collapse. So why not gable it all. After all, it's not their money, only their job.

If it works out they will say, see how smart I am. If it fails they will say it's just bad luck. Does it sound like a compulsive gambler? Yup. Was their any reason for the late jump Thursday... nope. Welcome to the Casino.

2008 Nov 13 08:56 PM

[dano123:]

Your opening sentence is the best description I 've read yet of current events.

2008 Nov 15 10:50 AM