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Some Notes About Observed Market Activity

Being new at this stuff, I'm grateful for tips, links and constructive comments that further my education or correct erroneous drivel I may be passing on to other newer participants like myself.

My original title for this article was "Some Notes About Observed Market Activity".

SYNOPSIS: The rising wedge of the S&P500 from the March 2009 low and the long-term down trend from the October 2007 high have come together and been violated. The trends now standing are only the resistance line of the rising wedge and an "ascending channel". Characteristics have been seen that may indicate the near-term trend. After a little background, these items are discussed.

BACKGROUND: On Friday, November 20th 2009 Jonas Elmerraji published an article "Why The Market's Set to Move Lower For the Rest of the Month". I believed that prediction correct. The S&P500 had a regular trend of going down near month-end.

I think his call would have held had the dollar not tanked Thursday 11/26. As we all know by now, an inverse linkage between the dollar and the markets has been in effect for several months. But belief that the dollar drives the markets is challenged by Cliff Wachtel in "The Must-Know Connection Between Stocks and the USD"  on November 27 and is well worth reading.

Regardless, I tend to prefer more context for chart work. The article by Jonas, being so short-term oriented and lacking much context, left me hungry an hour after I finished it.

So, on Sunday 11/22, I started work on this article using the Friday 11/20 charts. As time progressed and I added more detail, I realized some readers wouldn't be comfortable with the complexity and "clutter". It might be confusing to my intended audience, newer folks like me. It was becoming visably difficult to isolate pertinent information.

This meant I had to fire up GIMP, and learn it again as I developed the chart(s), so that I could present them in a more useful "layered" fashion.

I hope it was worth it to someone besides me - I always enjoy (re-)learning stuff, so it was worth it for me in spite of the hours it took.

That's why it took me so long to get this out the door. My charts are now based on 11/27 closing.

Please remember that I'm an amateur and relatively new at *all* this stuff.

I've been working hard to learn, especially how to more effectively use technical analysis of charts. But I'm still learning so be sure and do your own investigation if you decide to act based on anything I present.

SUMMARY: My longer-term trend lines for the S&P500 have been broken, have converged and left only short and medium-term trends as a guide for now. By all rights there should be a break down, beyond the normal (now) early month bottom.

I think that's not going to happen yet.

The rising wedge support trend line was established July 8 2009 and the support was broken only one time, beginning October 28, and immediately reversed and was back above support in 5 trading-days. That support line is exhausted now. There's a strong chance that the new "ascending channel", shown on the charts, straddling and paralleling the previous rising wedge resistance line, is showing the near-term future.

Sans a major catalyst (Dubai Default Debacle Dust-up?), cycles have been taking about a month, with the top coming shortly after mid-month and the low appearing very late in the month or early in the first week of the next month. It appears most often to be weekend related. The repeated mid-month highs may have to do with options expirations and short covering more than anything else.

Cyclic bottom-to-top moves seem to be running up 7+%. Top-to-bottom is now around -5.6% but has been increasing in magnitude. However, this may be nothing more than repeated returns to support at 1020-1025 from higher tops, which would make the percentage down magnitude increase.

The fact that it kept returning to those levels probably says something, but I'm not experienced enough to hazard a guess.

CONCLUSIONS: I can't bring myself to guess a trend now because of the mentioned congruence of the long-term down trend from October of 2007 and the rising wedge all coming together now and trading occurring above them. If I can see the "ascending channel" hold another cycle I might risk believing in a continued uptrend within the channel.

If it holds, traders can gain by taking advantage of the 7% or so moves up and the moves down in these cycles. The question will be whether or not the down move is constrained by the "ascending channel" support line, or the 1020-1025 support level seen in the last two cycles, or somewhere else like 980.

Regardless of the Dubai default risk that cropped up Friday 11/27/2009 and caused a noticeable drop in the market, I don't believe we can count on that indicating any longer-term trend. This is because of the loss of trend lines mentioned above and, as with many short-term stimuli seen over the last several months, "catalysts" are soon forgotten and new daily concerns drive sentiment and trading.

Carter Worth of Oppenheimer stated a couple weeks ago a retrace back to (maybe) as low as the 980 range is on the horizon somewhere. But he wouldn't put a time-frame on it - days, weeks or months is all he would venture.

I believe only a major "catalyst" of some kind, like a sudden strengthening of the dollar eliminating the dollar "carry trade" or a substantially worse-than expected report in such as unemployment, GDP, housing (we know its coming, don't we?), etc. will cause a major change. Results of legislative action, like health care, could also provide the "catalyst", but it should be a couple of months in the future yet since extended senate debate is needed. Reported 4th quarter corporate top and bottom line deterioration or improvement might also provide a "catalyst", but that is now a couple months off. If CRE defaults (does Dubai count?) start to come earlier or stronger than expected we could see the reversal, but most of these are predicted to start hitting in 2010.

NOTES: The first chart is basically an attempt to note differences to the chart from Jonas and put more history behind it. I also explain some differences in construction that may be significant. (Click chart to enlarge).

Bare Overview SPY/PSX 20091127Click to enlarge

I normally track SPY as a proxy for the S&P500 and this chart is based on that. However, numbers and derivatives I present are based on the $SPX values as a convenience for the reader. This seems appropriate as the SPY develops tracking errors of almost $5 at times and can't be relied upon to track correctly. Visually it makes no difference for our purpose.

On longer-term charts I tend to use closing values rather than intra-day highs and lows. So the chart from Jonas will vary from mine based on that alone.

My blue support trend line touches 3 points early in its development whereas his ignores one of those early points and touches only the initial, first and latest subsequent lows. I choose to not adjust my line until I can see that the trend slope established by my three "touch points" is violated longer-term. As you can see, the latest break down immediately reversed and broke above the trend line in just 4 days, confirming to me that the support trend line was still in effect.

Because the Jonas chart's support trend line touches at the initiation and the first and last following lows only, a lower angle of incidence is seen than is seen on my chart.

This provides a possible important difference in the forecasting that might be done from the charts. With my support trend line, the resistance and support trends together are more suggestive of an "ascending channel". The trend lines on the chart from Jonas would be more divergent as they are projected into the future.

One aspect that the charts agree upon is the apparent development of a "monthly cycle" in the price action. This might be due to new attentiveness to reported data since the market is so "nervous" about an expected pullback. It could also be something as simple as folks locking in profits after a "decent" run-up.

Last, the "failure zone" is nothing more than normal support and resistance levels and we have seen many before. Of more interest to me is the activity as we move around and through these levels. A simple violation alone is not of much interest to me. I need to see volume trends, chart patterns, past activities, etc. To that end I've added 7 more levels down.

TRENDS AND LEVELS: With the context issues in mind, I was interested in "fleshing out" the chart that Jonas had provided. This dates and ranges chart shows some items of interest to me. (Click chart to enlarge).

Dates and Ranges SPY/SPX 20091127Click to enlarge

Note we have a rising wedge (normally an interruption of a longer-term down trend), denoted by the green trend lines that have crossed at the upper right of the chart. Normally this condition would indicate a good possibility of a return to the longer-term down trend. But the long-term down-trend from the October 10 2007 high is below the former rising wedge off the March 2009 low. We broke above that down trend November 9th and have been trading above it for 12 days now (as of 11/27).

Since we are at end of month, we could easily go below that long-term down trend. But after a few days we should see the trading move above it again.

This trend line could now be support, albeit a downward trending support line. It could provide for a very orderly retracement with trading around that line as the market gracefully settles. On Friday, November 27 2009 this support seems to sit at 1085 while the S&P500 was at 1091.38.

My bet for the near-term is that the down trend will not define the trading, but that ascending channel will define the action after the normal monthly cyclic low is completed.

It would be normal, I think, to see volume taper off while folks wait to see if a major break down occurs. We have seen recent volume trail down again.

But you'll note that while we've been on this extended bull move there has been some improvement in the volume seen at the bottom of the chart from the last part of October through the early part of November on rising prices. The volume tailing down near the end of the month has been normal of late and doesn't, by itself, cause me to get too bearish at this point, especially considering the trend line effects on volume I just mentioned above.

Notice down the right side of the chart, under each yellow horizontal line, are the levels of that support or resistance and a percentage improvement from next lower one. There are a couple of those levels that are "iffy" levels at best, but I decided to error on the side of inclusion rather than risk omission of something significant.

What I notice about these levels is an orderly compression of ranges as the market rose. Considering the "nervousness" of the market, this seems rather rational (a refreshing change, I must say). For me this is an indication that folks are just being prudent and quicker on the trigger to lock in profits. As long as we get some buyers coming back in the next cycle to help support prices I don't expect a major break down.

If charts are truly an indicator of sentiment and are inclusive of all data (I don't know that I believe that), this tells us that traders and investors have not become significantly more bearish in outlook. In fact it is telling us the opposite: folks are willing to take a little more risk in the market.

To feel *strongly* about a trend here is difficult for me because:

  1. There seems little *apparent* relation between fundamentals and the market.
  2. There seems to be a fairly consistent inverse relation between dollar value and the market, although the percentage moves seem unrelated, and I don't know what the dollar is going to do.
  3. Trading volume for SPY for the last 10 days has averaged 153.3 million per day. Today it was only 126M shares even on a down day with the "Dubai Default" risk and month-end near. This is not substantial indication of a sudden surge in risk aversion.
A summary of what I'm thinking right now is there is a reasonable chance that the market will trend up for a while yet, although there will be pull-backs, I'm sure. I feel that way because of reports (valid or not) of:
  • improved housing data (recently weakened, but more tax stimulus on the way),
  • improved corporate reports on top and bottom line,
  • improved unemployment reports,
  • improved GDP,
  • expected (by some) continued weakness of the dollar.
It doesn't seem to matter that most folks that I follow feel these results are totally unsupported by reality.

UPWARD MOVES: On this chart of up moves I removed the support and resistance range and added some information about the moves up we've seen since the March lows. It shows the magnitude of moves in absolute and percentage terms. (Click chart to enlarge)

Up Moves SPY/SPX 20091127Click to enlarge

Above the bars each up move shows data points for the $SPX value, the point and percentage move from the prior bottom in the cycle.

What are the things I notice most from this chart?

First, upward moves off the cycle lows have gone from +5% in May to over 7% for 4 of the last 5 cycles. The average is about 6% rise off the reversal in the last 7 cycles and 7.2% if only the last 5 cycles are used. Visually we can see that the last 3 are around 7.5%.

I consider this useful to know if we are in nimble mode. We don't want to set our stops too soon in the month nor too tight if we expect normal (now) behavior. We want to set trailing stops near the middle of the monthly cycle and tighten them up a little to harvest most of the gains that are available. Of course one could sit in front of the tube all day and "play it by ear". Harvest might be greater this way but one could die of boredom.

Next, beginning in the middle of August, for the first time in a while, we saw volumes begin to rise as the uptrend progressed. The trend held in September and the early part of October, although not as strongly as the other two months.

This is the first time I felt that real folks were trading and investing rather than the super-computers just playing with themselves and each other. I considered this the first signs of an increased willingness to engage risk and a perception that risk has abated somewhat.

Is this the "setup"? Will the market suck everybody in and then turn, damaging the greatest possible number (again)? I can't say. But I do feel that since the market is sentiment-driven and the reported data that *most* folks rely upon have been properly distorted to the positive side, there is a good chance that sentiment can carry us upward, overall, for another month or two at least.

Last, November reversed this trend by displaying falling volume as prices rose. I believe this may have been pure nervousness in the market causing buyers to take a wait and see approach as they knew what the trend lines were showing. With sellers not panicking to get out of their positions, a natural effect might be higher prices on lower volumes.

Maybe buyers need to be re-assured that the downturn is still somewhere in the future?

It could have also signaled the end of activities by professionals. Freya had mentioned tax selling, taking profits, etc. as normal activities during this period. Other talk had been about hedge funds getting ready for redemptions in October (increasing volume), quarter end for some wall street firms was wrapped up, etc. Ending such activities might have caused the volume drop off as they were completed.

What about that nasty section on the extreme right of the chart where all the trend lines seem to be holding a meeting? No real thoughts other than the trends off the March lows are now out of play and either the long-term down trend or the "ascending channel" will hold sway for now. I'm sure we'll see a new trend emerge shortly.

DOWNWARD MOVES: The down moves chart is similar to the prior chart except that we track changes on the way down in the cycles instead of going up. (Click chart to enlarge)

Down Moves SPY/SPX 20091127Click to enlarge

There are two things of note here. First is the fact that the bottom of each cycle is tending to be in the early part of the first week of a new month. There is a disturbing trend for down moves, on a percentage basis, to increase. If the upward moves stay fixed in the 7.5% range and the down moves continue to expand their range to around 7% and up, we will see the 980 levels come into play. However, as mentioned earlier, this increased range in down moves may just be a return to the 1020 support levels off higher highs.

We have two recent tests where the approximate 1020-1025 level support held regardless of the percentage down move. And both were on decent volume so we can't just attribute it no trading going on. I think this also implies that we are not headed much lower right away.

A possibility I'm looking for is that the blue trend lines defining the "ascending channel" will contain the downside but I wouldn't rely on that until we see it happen.

TORTURE: For the masochists among you, the Full Monty chart is provided. (Click chart to enlarge)

Masochistic SPY/SPX 20091127Click to enlarge

I hope this has been useful for someone and welcome any constructive comments.

Disclosure: long various equities and short covered calls. No position in any instrument related to market indexes at this time.