Bulls Hold The Line - For Now

Includes: SPY, XLF
by: Kingsley Anderson

It looks like the other shoe dropped this week. Just when everyone thought that we may have heard the last of the financial sector’s woes, more bad news hit the wires. The question is how many more shoes are left?

For a time, the market shrugged off negative news. Starting last week though, the market was oversold and there was just too much negative news from the banks for it to ignore. For the time being, the bulls have held the line. Although there is still strong evidence to indicate a market bottom was established in November, that does not mean one should stay married to that opinion should conditions change.

The question that is constantly asked is “will there be a retest of the November lows?” The breaking of support this past week on all of the major indexes (8500 on the DJIA, 850 on the S&P 500, and 1500 on the NASDAQ) makes that more event more likely. However, all three also bounced back off support Thursday on noticeably higher volume- a slightly reassuring development.

Past studies of bear markets tells us an actual touching or undercutting of the November lows is not absolutely necessary. Some have pointed out the possible formation of an inverted head and shoulders pattern developing on the S&P, Dow Jones, and the NASDAQ. While this may ultimately occur, at this point it is mere fanciful thinking. The pattern would not be complete until the neckline is breached (see the charts below). Until that occurs, anticipating the move is a pure gamble.

The price action on Friday was also questionable. The candles formed by the DJIA, S&P 500 and NASDAQ (I will not bore anyone with the names of the particular candlesticks) demonstrates that buyers’ hearts are not into this recent reversal. Indecisiveness was further punctuated on the NASDAQ by the failure to pierce the 50 day moving average.

As can be imagined, there was a dramatic rise on the “Fear Index,” a.k.a. the VIX. The VIX cut through resistance at 45 and has now backed off after running into resistance in the 55 area. If the indexes do recede below the November lows, investors should look to see if the VIX can make a higher high. If it fails to do so, a positive divergence will have occurred- a positive sign for the bulls. If a higher high is made on the VIX, things could get really ugly.

When analyzing the markets, do not get too wrapped up in the headlines. Remember, bull markets do not begin when the analysts raise their price targets higher and higher, and the newspapers trumpet the beginning of “a new age in prosperity.” By the time the economy is firing on all cylinders and everything is great, the market will be ready to top. This time, just like all the other times, the market will rise before the economy improves. Keep this in mind that when the market finally begins to move.

Hopefully, the market will sort itself within the next two weeks. Studies that indicate that “as January goes, so goes the rest of the year.” Last year was a prime example of a down January resulting in a bad year for the bulls. Once again, caution is advised.

Disclosures: No positions held