4 Reasons the Markets Are Heading Lower Now

October 2007 was a turning point in the market. It was on October 10, 2007 that the S&P set its all-time high. Here we are almost two years later (and 34 percent lower) and the indicators are starting to look similar to what they did during that peak. The tremendous rally off the March lows has created a similar situation to the Fall of ’07.

Looking at a weekly chart of the S&P, you will see that the last time the 10-week RSI exceeded 65 was in October 2007. You might also notice on the chart below that the top in 2007 was a doji top. For those of you not familiar with candlestick analysis, a doji is formed when the open and close, for the time frame you are looking at are virtually the same. Even though the price was considerably higher and lower throughout the period, the price went virtually no where.

Click to enlarge:

The similarities between now and October ’07 go well beyond the technical indicators on the chart above. There are two other indicators that cause concern and they are both sentiment indicators. In the Investor’s Intelligence report for last week, the percentage of those surveyed that are bearish dropped below 20 percent for the first time since? You guessed it, October 2007.

Click to enlarge:

Not that we needed more ammunition for a bearish posture on the overall market, but there is more from the CBOE Equity Put/Call Ratio. The 21-day moving average for this indicator is the lowest it has been in the last six months. It could go back even further, but the chart I have access to only charts the last six months.

To summarize, we are the most overbought we have been in almost two years based on the 10-week RSI, we saw a doji on the S&P last week, and we are seeing the least amount of bearish sentiment in the last two years. The combination of these four facts causes me to be very cautious about the next few months. The probabilities are stacked in favor of the bears for the coming weeks and it is in your best interest to play the probabilities.

My advice is to lighten up on equity holdings or at the very least hedge your portfolio. You can buy puts on the Spyders (SPY) or if your portfolio is skewed toward tech, buy puts on the Cubes (QQQQ). If you don’t like buying options, buy an inverse ETF such as the ProShares Ultra Short S&P 500 (SDS) or the ProShares Ultra Short QQQ (QID).

Disclosure: No current positions in the SDS or QID

Comments

[bartpr:]

looking at the 10 and 20 week ma of the spy in 2007 and now paint a different picture of the state of todays market. it say it is too early yet to indicate a top. neither average has indicated any turn down. when the 10 week turns down follow how soon it recovers if it does not then worry.

relative strength is meaningless in calling tops and bottoms. it alon calls oversold and over bought.

Sep 01 08:30 AM

[expat in China:]

because Buffet is selling

he hate financial and he is tired of the politics

Sep 01 12:06 PM

[expat in China:]

I only reported the facts

Sep 01 12:22 PM

[doubleshortetf:]

Thanks for the clearly laid out points. Agree and has been accumulating QID, SDS and especially TWM as small stocks has heck of run (more than S&P and Nas) and Russel 2k is chock full of smaller banks facing failures and burdened with commercial real estate loans.

And it's great entry points for SDS/QID/TWM in terms of price now.

Sep 01 01:46 PM

[JD of OZ:]

I see many bloggers talking of SDS but no talk of SPXU (Proshares 3X inverse S&P 500). Is there a reason other than the lower liquidity of SPXU?


On Sep 01 01:46 PM doubleshortetf wrote:

> Thanks for the clearly laid out points. Agree and has been accumulating
> QID, SDS and especially TWM as small stocks has heck of run (more
> than S&P and Nas) and Russel 2k is chock full of smaller banks
> facing failures and burdened with commercial real estate loans.<br/>
>
> And it's great entry points for SDS/QID/TWM in terms of price now.

Sep 02 01:07 AM