Monday, January 28, 2008

Indicator Update for Monday

Every week I go over my major indicators and try to get a bigger-picture view of the markets and what they're doing. I find this perspective helpful in framing shorter-term trades. This morning we're looking at equity weakness in Europe and in the premarket U.S. trading; Hong Kong and Shanghai were particularly weak overnight. The big issue is whether we weaken day-over-day and retest last week's lows or strengthen and retest the highs. It's a very wide trading range, and it wouldn't surprise me to see us stay rangebound ahead of the Fed announcement. I'll be tracking markets and news on the Twitter app as usual this week, with AM updates of indicators. The latest five Twitter posts appear on the blog home page under "Twitter Trader".

* Sentiment - We had very strong Adjusted NYSE TICK readings last week. Even Friday's decline yielded a reading of only -81. Accordingly, the Cumulative TICK Line has turned up sharply from the recent lows. One thing I've noticed of late with the TICK is that we get raw value readings of around +500 on short-covering; readings of +800 and above have been signifying initiation of buying--especially when those heightened readings have been sustained. Because we're looking at TICK as a sentiment measure, we want to see how spikes in TICK--up and down--affect price. In a trending market, we'll see TICK peaks at higher price highs (in bull swings) and TICK valleys at lower lows (in bear swings). It's when we get extreme TICK readings that cannot move price to new highs or lows that we've seen some significant reversals.

* New Highs/Lows - As I recently posted, we've seen new 20-day highs outnumber new lows the past two trading sessions. I'll be watching carefully this week to see if we get an expansion of new lows day-over-day. That's the scenario that would lead me to expect a retest of recent lows. If we expand upon Friday's 663 new highs, I would be less inclined to chase the downside and would act on some longer-term expectations of strength following recent volatility. At this juncture, we're seeing day-over-day new high/low strength, even after Friday's weakness. That has me cautious about chasing the downside early today until I get a good read of the TICK distribution.

* Momentum - This, too, has been improving. Demand has closed higher than Supply for three consecutive trading sessions, despite Friday's pullback. That means that more stocks are closing above their volatility envelopes surrounding their moving averages that closing below them. I have not found it profitable overall to hold longer-term short positions when momentum has been positive. Friday saw Demand at 60; Supply at 44. In a rangebound market, we tend to see attenuated readings for Demand *and* Supply (which is consistent with Friday's reading). Looking at momentum longer-term, we're still very weak. Only 11% of SPX stocks are trading above their 50-day moving averages, weakening from 15% on Thursday. Looking a bit shorter term, we see 26% of SPX stocks trading above their 20-day moving averages (down from 33% on Thursday), up from a dismal 8% at last week's lows. I need to see this number expanding to play the long side from anything other than a day trade.

* Technical Strength - Among my basket of 40 SPX stocks drawn equally from 8 sectors, five are displaying technical strength (a quantitative measure of trending); 9 are neutral; and 26 are displaying technical weakness. The Technical Strength Index overall is -1540, still in bearish territory. What that's telling us is that, despite the strength of the rally off last week's lows, the rally was still small compared to the magnitude of the prior decline. The rise in the number of stocks with neutral readings is encouraging--that typically occurs when a downtrend transitions to an uptrend--but it is too soon to jump on the bull's bandwagon. Once again, it's day-over-day strength or weakness that is key here; in a range market we'll see a large number of neutral readings.

I found it helpful last week to track the financial stocks, semiconductors, and the homebuilders. Optimism about economic stabilization, the impact of the Fed, and efforts to stimulate the economy has been showing up in those beaten-down sectors. Conversely, renewed weakness in those areas suggests concerns of a more lasting recession and has weighed on stocks overall. Tracking 10-year bond strength (falling yields) and rising yen/dollar has also been helpful in identifying the market's relative risk-seeking vs. risk aversion. Overall, I did not see high bearish conviction in Friday's drop, so will be watching this morning's weakness closely. I am sensitive to the possibility of a range market as we get closer to the Fed announcement.

Have a great week--