Tuesday, August 05, 2008

Big up days = big trouble

The Dow rose more than 300 points today, which is nearly a 3% gain. However, don't let the excitement fool you.

One of the ironies about the stock market is that single large days are contrarian indicators for the long-term market trend. Big up days like today occur almost exclusively in bear markets; whereas bull markets often experience large down days during minor corrections.

The following chart of the S&P 500 is a classic example:

The bull market rally from July 2006 to February 2007 resulted in a healthy 15.5% gain, and it was gradual and relatively smooth. There was not a single day's gain higher than 2%. Yet the correction which followed was punctuated by a whopping 3.5% loss on February 27. The next rally that followed took the S&P 500 even higher, but again, there were no up days of the magnitude of the February 27 loss. In other words, that terrifying day in late February was actually a sign that the bull market would continue for a while.

Today it's the opposite situation. The market's most recent decline from May to July was relatively gradual, and there have been numerous up days of 2% or more over the past several months.
Gradual declines and quick rallies are classic bear market behaviors, so today's message is that the bear still lives.

4 comments:

Dan said...

Jody,

Thank you for your analysis today. Its days like today that get me scratching my head thinking - should I get back in, is this bear over, have we hit bottom, etc. So I value the type of info you provide espcially the one you wrote today.

I'll be checking your blog daily for your recommendation(s).

Dan

john said...

Great update Jody. Interesting, 6 times we’ve had 3 day sell offs lead to massive rallies in SPX. The game plan stays the same – sell the rallies. SDS is right on its 50EMA. I’ll be looking to get half my position back soon. Looking at the last rally of 50 points(1234-1284) this one could find symmetry and move to 1297 or get a 1.618 fib extension and make it to my max pain 1327 target.

If your sentiment indicators look anything like what I use this rally has problems. CPC today was lower than the May highs and close to the Oct. top. Puzzling?

The only thing concerning my bearishness is the commodity bubble. If you remember our discussion a few weeks ago about money coming out of oil into SPX this looks to be playing out. Is oil a bubble or does it find support near $115 and continue its bull market?

The blog is excellent!

hindawg

Jody said...

Thanks hindawg.

Even if you think that all of the oil futures money is going into stocks, the S&P 500 is only up 2% in the last month compared to oil's 18% slide. That's hardly enough to shake my bearish confidence.

The only scenario where I can picture a collapse in oil prices is with a parallel economic collapse that reduces demand, and that would not be good for the stock market. So either way I'm not worried about oil threatening the bear market.

John said...

"this one could find symmetry and move to 1297"

amazing how that works!