S&P Shorts Need to Be Patient

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Includes: SDS, SPY
by: Joseph E. Meyer

The Dow and S&P have had quite a run, but this is probably not a time to short this market. Anyone waiting for this market to make a steeper, profitable correction downward will have to be much more patient.

There will be pullbacks and, all things considered, long-term investors should consider them as buying opportunities, but now is not the time to double down with leveraged exchange traded funds like the ProShares Ultra Short S&P 500 (NYSEARCA:SDS) if looking for fat pre-holiday gains.

Short-term risk is upside.

  1. The momentum of the rally is too strong and the rally is in tact; the market wants to go higher. Don't fight the flow or the Fed.
  2. The effects of quantitative easing are not fully priced into the market yet. Too many people trying to catch the top of this advance adding fuel to the upside.
  3. The Santa Claus rally is still ahead of us with a mild consolidation at first and then a surge into year end as money comes off the sidelines and becomes fully invested in the equity market.

Over the last month, the Spider ETF for the S&P 500 (NYSEARCA:SPY) has jumped from $114.99 on Sept 27 to $122.66 on Nov. 8, up around 6%. It shed less than half percent on Tuesday during intraday trade. Bears are not a dominant factor.

Everyone is looking for the top of this move and we could be very close to a reaction, but I believe any major decline when it gets underway will take place in the new year not now.

I would use close stops and reposition my long positions on any pullback prior to rallying to new recovery highs in the averages. The S&P 500's 200-day moving average is around 1,125 points and the 50-day is 1,153, which is still below where we were at Tuesday's close. If we violate the 200-day moving average, it will signal to me that the FED-induced rally could very well be over. Caution at that point would be warranted and anyone savvy enough to go short might want to start dipping into S&P shorts, but I would not advise going gang busters.

That's because I suspect equity markets will continue to rally sharply into year end and batter the shorts before we get any meaningful correction. I'm clearly not the only one who thinks equities still have some legs to finish this marathon bull-run.

The equity market, however, has priced in all the positive news, but has not even begun to price in all the negatives in the economy (See "NY Fed Data Takeaway: Housing to Find New Bottom", Nov. 8).

The negatives are still being downplayed as the market cheers the possibility of an extension of the Bush tax cuts on the rich. For example, there was this little ditty on MarketWatch this morning out of San Francisco: The cost of insuring debt, also known as credit default swap, for European sovereigns widened last week, with Ireland and Portugal at the lead, Fitch Solutions said in a report released Tuesday. Ireland widened to 24% and Portugal is at 22% during Nov. 1 to Nov. 5, contrasting with market trend toward tightening spreads. "Materially wider CDS is suggesting mounting concern over Ireland and Portugal's fiscal stability, with CDS on Ireland hitting an all-time high," said Jonathan Di Giambattista, a Fitch managing director in a statement. "

Remember, we have been hearing about European sovereign debt for over a year now. First with Greece and the theory that it was too small to fail, and then with Portugal and Italy and Ireland. Those three nations have never resolved their problems. These are all warning signs and whenever the market makes a move on them, it could be a move down, down, down. Building shorts against the market might be wise now, but dabble in and be patient for a longer leg down. Don't let the last 24 hours fool you. The Dow Jones Industrials are still trading close to their 200-day moving average of around 10,558 points.

Disclosure: No positions in SDS or SPY.