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Index Wrap

Beware The Stealth Rally

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       9-28-2001           High     Low     Volume Advance/Decline
DJIA     8847.56 +166.14  8856.55  8679.00  1.65 bln   2494/ 696
NASDAQ   1498.80 + 38.09  1499.58  1466.78  2.07 bln   2540/1168
S&P 100   533.10 + 11.14   533.10   521.96   Totals    5034/1864
S&P 500  1040.94 + 22.33  1040.94  1018.61
RUS 2000  404.87 + 11.91   404.88   392.96
DJ TRANS 2194.68 +125.63  2195.50  2069.10
VIX        35.19 -  2.22    37.47    35.03
VXN        65.44 -  0.47    67.61    63.93
TRIN        0.72
Put/Call Ratio      0.48

Beware The Stealth Rally
Austin Passamonte

Markets closed at or near session highs Friday as mutual fund windows got dressed in the quarter's prettiest garments. The four- times yearly sham of "reallocation" in funds has gone on forever and is nothing more than one big, deliberate sham to mislead fund participants into thinking all managers have them in the hottest issues when in fact, most fund managers are far worse than you & I in picking stocks.

Be that as it may, the short squeeze rally which emerged without warning late Thursday afternoon picked up where it left off and never looked back today. Once the morning's mild gap-open pop had subsided, price action slooowly climbed upward in a rather narrow range. Index option trading was rather quiet and the only real block trade I saw in the SPX had someone buy 2,000 950 puts at 7.50 and later appeared to sell them to close in one lump sum for 7.00 to exit. May not be the same trader on both sides, but odd that a like amount in the only OTM strike active all day would have had two players on the opposite side in large amounts.

And that's how boring a session it was! Reduced to pondering these inane, irrelevant happenings to keep myself amused, it was a fitting end to a rather quiet trading week for me. But that's to be expected on a first-week of expiration cycle with time premium fully engorged and VIX bleeding off.

What pray tell might lie ahead for us next week? Let's see if we can make sense of these turbulent times:

(Monthly Charts: Dow and SPX)

No signs of a multi-year bottom in the monthly charts. There could be lots of room to go before stochastic values post bullish reversals in the future, but they are in full bearish mode right now.

(Weekly Charts: Dow & NDX)

The big picture weekly charts of Dow and NDX(QQQ) action shows us stochastic values are struggling to turn bullish. It takes longer for this to show up on these charts and of course never calls the bottom, but having those stochastic slow bars (red) turn higher and emerge above 20% oversold marks would signal strength in the advance.

The Dow has retraced almost half of the previous week's major decline from open to close of weekly action. Long candlestick bodies are said to offer support or resistance at the halfway point. We've done the rough math up above and see that the Dow may find it's first measure of resistance near 8,900 area just ahead.

The NDX may be bottoming and looks to have support in a bullish descending wedge dating back several months, but it remains a lagging index to be led by wherever the Dow and S&Ps take this market so no sense worrying about it alone.

(Daily Charts: Dow & NDX)

Dialing down to the daily charts for each index shows the Dow stochastic values still rising in bullish fashion but possibly topping out soon. Keep in mind that daily stochastic lines could remain pinned in overbought extreme while the Dow tacks on another +1,000 points, but there is a reason I doubt that will happen.

In the past four sessions these values cycled from buried in oversold to near overbought on very little underlying advance. They didn't move hardly at all today, which means a +500 point pop in the Dow released all of this oversold pressure alone. That's not what bulls would really want to see on a sustained rally: it should take at least twice that underlying advance to cycle them so far. Clear warning that upside pressure has been weak and any immediate bearish cross in overbought extreme would confirm the recent move is likely finished.

The NDX stochastic values continue to rise in weakling fashion without conviction as well. Keep in mind that within the same time-frame weekly chart signals will inevitably advance from oversold to overbought in the endless cycle, daily charts will roll up & down several times. That means more pullbacks shall occur before we become long-term overbought again, could the next one come soon?

(Daily Charts: OEX & SPX)

Looking at the OEX and SPX daily charts show the same action as depicted in Dow (above) but with slightly different bearish wedges drawn. Could it be that the proper way to have drawn those patterns is like this on a bullish breakout & close above, or did we have it right as shown in the Dow? With so few points of contact this close, it is totally subjective with no hard & fast rules. Don't all of our analytical traders whose world exists in black and white just love that?

Reality is that trading has always existed in many shades of gray.

(60/30 Minute Charts: Dow)

Reduced to 60/30 minute charts show the Dow looking poised to rollover in bearish fashion, but it stayed that way all through Friday's rally as well. Could it continue? Why of course!

But... we have many technical and fundamental signs that point to a market that will cycle down soon. First note the little bear flags this afternoon that fit within the overall bear flag from last week until now. The leading indexes are in an ascending channel which is bullish while it lasts but the high-odds break will be lower soon.

Adding to that technical prediction are bearish stochastic values that must eventually cycle back down to oversold extreme in the next session or two. From what levels this will happen and to what depths it stops at remains to be seen, but more on that in a bit.

(60/30 Minute Charts: Dow)

One last look at the same Dow charts with a slightly different twist. Price action measured from Monday until Friday shows a bearish expanding wedge or "megaphone" pattern as some are apt to label it. This indicates the markets are unstable and took a wild ride up the charts from start to end, and indeed they did!

What Next?
Traders who bought Friday session lows or close and held fast for one week enjoyed solid gains. Those who tried to market time had a much tougher experience as is too often the case in these volatile times we work within. The Dow retraced about 50% of its loss and nears resistance at 8,900 and 9,000 levels. Now what?

Well, most of the upside action came upon short-covering and artificial buying near the close by funds, of which plenty could be unwound at the open on Monday. We never really had a big-volume rally that squeezed the shorts hard and caused them great pain. Matter of fact, only Monday's session was a real bullish move with three doji stalemates per se in between and today's modest gain. That is not the kind of trend reversal action bulls need to see and quite frankly I personally expected to. No real convincing move that sent shorts screaming in pain to cover means they are still entrenched.

We also have daily chart stochastic values released in a big way from oversold extreme and all D/60/30 charts on leading indexes poised for bearish reversal soon. The Dow is near resistance. The Fed makes its next move on Tuesday and for what it's worth this time around may disappoint with a mere .25 point cut as Greenspan takes it slow. Rest assured that some funds bought stocks near 4:00pm on Friday they have no intention of owning past 9:30am next Monday. Will buyers line up ahead of the Fed? Will sellers or shorts try to get flat instead? Wondering traders want to know.

Higher Lows Or Lower Lows?
Based on the technical signs above, fundamental market weakness we all know about, Fed's probability to cut a mere .25 points since the markets are stable and failure to mount a real painful short squeeze washout to the upside I believe a pullback is straight ahead. Several readers sent me studies that show markets that make large moves either way as we've just endured retest the highs or lows within two week's time. In this case a retest of last Friday lows are anticipated to happen more or less next week.

It will take a catalyst to make this happen, and plenty do exist. Bulls are looking for a higher-low retest to succeed and that may be more than stubborn shorts can "bear" [pun - hee hee]. We can be sure that bears are looking for the doomsday break of current lows that sends the Dow spiraling down to its 5,000 level where many value investors say it belongs.

Me? I just hope it gives us more solid movement and clear entry points to trade regardless of direction. This week was one where option traders could make a little money (relatively speaking) on some of the large moves that occurred, but with a much lower VIX and one less week's worth of time premium in the way we stand to earn higher percentages on capital at risk ahead. More on that in Trading 101.

I expect a pullback early next week and it could be significant. A retest of recent lows seems likely due to failure for a real blowout session to the upside to date. It may very well be a volatile, choppy move back down the charts or a straight plunge event but in either case I think it will happen. Weekly charts fail to show upside strength right now while daily charts may approach weakness. My belief is that we either see a bullish reversal session that holds at higher lows and slams short sellers from there or a major negative catalyst emerges to break the Dow below 8,000.

My guess would be a higher-low event is in store based on weekly charts and what it took to post most recent lows but I'll be prepared for anything. You should be so prepared as well! These remain perilous times we trade in and I fear it will get tougher before easier ahead. Concentrate on defense and managing your risk-reward ratios for the weeks and months ahead.

Best Trading Wishes,

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