The Odds in the Financial Sector: Damned If You Do, Damned If You Don't

It's a good thing email inboxes can't make noise. If they could, mine would be screaming so loudly that nearby companies would complain.

"Where's the darned rally?" would be the most commonly yelled question. "I thought markets were supposed to take a break after going in one direction for so long," wrote one subscriber. "Don't we just have to, have to, have to get at least a short-term bounce somewhere in here?" asked another.

Unfortunately, we don't "have to get" anything, although I believe the odds are good for a short-term bounce. The odds have been good for a while, though, most recently at the former bottom that we bounced off twice before crashing through on Wednesday.

Still, let's look at which way the odds say you should trade the financial sector at this juncture using ProShares leveraged funds. The 2x fund is UYG and the -2x fund is SKF. They're among the market's most active issues these days. Yesterday, UYG traded 290 million shares. Microsoft (MSFT) traded only 140 million.

Take a look at this chart:


Would you buy that thing? If the answer is no, because you see it's (A) above an RSI of 70, (B) has an MACD almost off the chart, and (C) has gone parabolic, then you are bullish on the financial sector. That's the SKF chart, the one that goes up as the financials go down. If you think that chart is dying to drop, then you think financials are dying to pop.

You would also think the 2x fund would give a corresponding signal that it's ready to rise. Does it? Have a look:


There's ugly, and there's ugly, and I think we just found the latter. If charts were dates, that one wouldn't be dancing with anybody at the Wall Street Ball.

In its defense, it'll soon be easing the pain or feeling no pain. The bottom of the chartable area, which is to say zero, isn't far now.

Which brings up an interesting point. Can a leveraged index ETF hit zero?

No, but it can feel like it. When the Nasdaq lost 78% in the dot com bust, 2x vehicles lost around 98%. ETFs don't go to zero, but they can get close. Take any number and keep subtracting 5% from it forever and you'll never hit zero. Once an ETF gets close to zero, its management company would likely run a reverse split to get it trading at a reasonable level again. For instance, if it gets down to $1 and you own 5,000 shares, after a 1-5 split you'd own 1,000 shares valued at $5 each. Fun.

Back to the two charts. Both are giving point-and-figure sell signals at the same time, providing you with the market's version of damned if you do and damned if you don't. The rationale for SKF's P&F sell signal is "Long tail up on Nov. 18." For UYG, it's "Descending triple bottom breakdown on Nov. 18."

Where are the odds? With UYG. It's due for a bounce and SKF is due for a drop. If overseas markets are any indication, we may get that bounce today. Japan rose 2.7% and London is up 1% as of 5:00 a.m. Wall Street time.

Comments

[Michael Shu...:]

Charts are fine -- but the off balance sheet assets that will probably end up on bank balance sheets -- the major banks - say something solvent - the major banks are technically insolvent if not illiquid. The crash this week is justified if you look at the town hall presentation by Citi - page 21 -- it shows many hundreds of billions of potentially toxic off balance sheet obligations hitting their balance sheet.

2008 Nov 21 12:08 PM

[Alan Young:]

Both could be true. SKF could correct today (it's still making new highs as I write) and drop 10%--but that will be no consolation for anyone still holding UYG a day later. You still have to deal with the fundamentals eventually.

2008 Nov 21 02:46 PM

[hoodamac:]

the charts/analysis dont work with these etfs together. take a look at historical prices. skf when it was back at 150, uyg was 18? if skf goes back to 150 uyg will now be around 7. dont trust my numbers here, i am just throwing them out from memory. Look at it yourself and you will see. there is something worng here.

2008 Nov 21 05:59 PM

[dc1:]

Thanks for the post. Very informative.

2008 Nov 22 11:04 AM

[notsosmart:]

history no longer applies.phony AAA rates on worthless paper invalidate all the graphs,maps,charts,etc... was all a scam. dj should never have gone to 14,000.tulips & houses.

2008 Nov 22 03:06 PM

[sf94127:]

The market is so abnormal, chart analysis and history have little value especially for etf's like these. You can only daytrade them; holding skf or uyg overnite is a huge risk; believe me I know from experience with these two.

2008 Nov 22 04:07 PM

[sf94127:]

UYG and SKF seem to mirror closely per centage wise, especially over time windows of a few days. Even at this low level for UYG; if it goes up +25%, skf will go down close to 25%. I have seen a few days where they did not track that well but most time they correlate IMO.


On Nov 21 05:59 PM hoodamac wrote:

> the charts/analysis dont work with these etfs together. take a look
> at historical prices. skf when it was back at 150, uyg was 18? if
> skf goes back to 150 uyg will now be around 7. dont trust my numbers
> here, i am just throwing them out from memory. Look at it yourself
> and you will see. there is something worng here.

2008 Nov 22 04:10 PM

[sunnyday:]

We all know what eventually happens after a parabolic run. The long term trend however, is for lower....much lower. S&P 600 here we come.


On Nov 21 12:08 PM MICHAEL SHULMAN wrote:

> Charts are fine -- but the off balance sheet assets that will probably
> end up on bank balance sheets -- the major banks - say something
> solvent - the major banks are technically insolvent if not illiquid.
> The crash this week is justified if you look at the town hall presentation
> by Citi - page 21 -- it shows many hundreds of billions of potentially
> toxic off balance sheet obligations hitting their balance sheet.

2008 Nov 23 08:02 AM