Option Investor
Index Wrap

BEAR MARKET PATTERNS

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THE BOTTOM LINE:
While we may be at or near a short-term bottoms, the broader chart pattern is looking similar to the mid-October to late-November decline, which saw an A-B-C (Down-Up-Down) bearish type pattern where the middle Up leg is short and the second downswing carries significantly further than the first decline; e.g., a 'fibonacci' 1.5 to 1.62 times greater. I wasn't sure that this same pattern would duplicate again, but bearish selling pressure returned with a vengeance. This market just hasn't fully discounted a recession. The Fed can't always stop a recession just shorten it.

In the S&P 500 (SPX) during mid-Oct to late-Nov, the second downleg ('C') was 1.69 times greater (at 146 points) than the first sell off of 86 points. If this current decline ended up in the same type fibonacci relationship to the December downswing of 88 points, it suggests further downside potential of 140 points to below the recent 1499 SPX high, equaling a possible 1360 downside target. With potential long-term technical support implied by the low end of the broad SPX uptrend channel currently around 1368, an eventual downside target to the 1360-1370 area bears watching.

Adding weight to the bear market scenario is now the second 'confirmed' weekly closing low made by the Dow 30 (INDU) with confirmation provided by a new lower closing weekly low in the Dow Transports (TRAN) as you'll see from the chart coming up.

And speaking of patterns, I find that when I doubt or 'explain' away (e.g., it was a 'distortion' from expiration-related activity) my equities call to put sentiment indicator as suggesting a SIGNIFICANT top coming within 1-5 trading days following readings above 2, I am more often WRONG than right! I'm speaking about the 2.39 extreme registered by my indicator on 12/20 (CBOE equity call volume that day was 2.39 times total equities put volume), which was in turn followed by the significant top made 3 trading days later. My sentiment indicator is plotted as part of the daily S&P 100 (OEX) chart in the Index commentaries further on.

More on my call/put readings: as I noted last week, I'd have to say AGAIN that there appears to be too much bullish optimism still to suggest that this market has made any kind of major bottom. It seems that the bulls think that the Fed will come to the rescue with a big rate cut. That may well be true as far as Fed action, but recessions that do occur have a dynamic and momentum that is not usually REVERSED by interest rate cuts. It's also nearly always the case that high bullish sentiment is part of the dynamic that keeps declines 'going' so to speak; the reverse tends to be true of high bearish sentiment in that it provides fodder for rallies at some point.

Last but not least, the Nasdaq can fall a LOT further before it reaches both an oversold long-term extreme in terms of my 13-week RSI indicator and support implied by the low end of its long-term uptrend channel, especially in terms of the Nasdaq 100 (NDX); this chart follows in this section also. The Nasdaq Composite (COMP) and Nas 100 (NDX) have already fallen well under their November lows, unlike the S&P and indexes at least to date. It stands to reason that the Nasdaq stock group that got inflated on speculative buying would 'have to' eventually have a steeper correction than the benchmark and laggard S&P.

DOW THEORY: STILL RELEVANT IN PREDICTING MAJOR TREND DIRECTION

In our current situation, Dow Theory considerations would suggest that the major trend reversed to down, to that of a primary bear market, with the weekly closes of 11/23/07 for both the Dow 30 (INDU) and the Dow Transportation Average (TRAN). This latest set of lower closing weekly closing lows is a further confirmation of a primary bear market trend.

THE MAJOR WEEKLY UPTREND CHANNELS ARE STILL INTACT

As I noted above, support implied by the low end of the S&P 500 (SPX) weekly chart uptrend channel intersects in this coming week around 1368. This index is approaching an oversold reading, at least an oversold reading that is typical or characteristic of a major trend that is still bullish. However, if we look at what is an 'oversold' extreme in a BEAR market, the Relative Strength Index can get to an extreme that is well under what developed in the bull market period shown below dating from 2004; e.g., 13-week RSI readings around 25 to 20.

For the Nasdaq 100 (NDX) chart and its major uptrend channel shown below, the chart picture is quite different than the S&P in that the big cap Nas index is only starting to retreat from the upper end of its broad weekly uptrend channel. IF NDX were to end up falling all the way to support implied by the low end of its channel, the index has still very significant downside potential, to around 1700 currently. This seems like a long way down right now, but such a decline would still be 'within' NDX's long-term uptrend trajectory.

MEA CULPA/SO SORRY
I couldn't get this written yesterday per usual (on Saturday) as was caught without power south of Carmel (Calif) and finally today got to the library, which has the juice and internet connections I needed. Maybe if I had a long long-lasting battery (+ a spare) for my laptop, next time I could soldier on!

MARKET NEWS and INFLUENCES:
Closing index prices, as well as the recap of market influences such as earnings, company news, government reports and activities, are covered in the Option Investor 'Market Wrap' section.

** MAJOR STOCK INDEX TECHNICAL COMMENTARIES **

S&P 500 (SPX); DAILY CHART:

I indicated last week that the S&P 500 (SPX) "chart is mixed near-term but the intermediate to long-term trend looks lower, as suggested by the pattern of declining rally peaks. What would be common in this kind of chart pattern is for the next decline to carry lower than the prior 1435 low." And did SPX ever plunge through its December low!

We'll see about the November SPX bottom in the low-1400 area per the chart below. Major support should be found in the 1370-1360 zone. Near-term the Index is getting oversold and it would not be surprising to see a rebound from the 1406-1403 area. I'd be mildly surprised to see a close below 1400 that lasted longer than a day, at least near-term.

If there is a close below 1400 that keep going, that's another story and sets up the objective I spoke about in my initial ("bottom line") comments, which is to 1368 or a bit lower, to around 1360. 1368 is of course in the area of support implied by the 1370 August intraday low.

I've noted first SPX resistance at its recent 'breakdown' point around 1444, then at the 21-day moving average at 1474.

S&P 100 (OEX) INDEX; DAILY CHART:

I was close to the mark last time on the S&P 100 (OEX) Index when I wrote that: "If the prior 672 intraday low gives way, downside potential is to 660 again." OEX got within a hair's breath of 660 on Friday. What now? I think near OEX support is close at hand, in the 660-657 area and the Index could rebound a bit.

However, major support is to be found lower, either at 640, at the August OEX intraday low or closer to the weekly chart up trendline (not shown), which intersects around 632 currently; this support line rises a bit each week of course.

I didn't indicate a level, but first resistance noted at the red down arrow, is at 674; call it 672-674. Next resistance is indicated on the OEX daily chart below at the 21-day moving average; at approximately 689 as of the Friday close.

SENTIMENT:

While I did note last week that according to my call/put indicator seen above, bullish sentiment "seems 'too' high relative to what I can see technically for upside prospects for the market." And that "I usually figure that high bullish sentiment in a mixed-picture market foretells more downside to come."

However, at the same time I explained away the unusually high spike of bullish sentiment that occurred (12/20) a day prior to expiration and just 3 trading days before the top, by also writing that "this reading back on 12/20 looks like it may be a fluke due to unwinding of some very large call positions..." I was WRONG on missing its significance, which is the bad news; the good news being the 'overbought', extreme bullishness reflected in that upward spike in my call/put indicator actually was, as it so often has, forecasting a SIGNIFICANT top within 1-5 trading days!

This reminds me of all the people who set up very promising trading 'systems', only to override them when a buy or sell signal doesn't fit with all the other 'noise' and shifting opinions we can have. Been there, done that!

I would say again this week that the bullish sentiment, at least according to my indicator, hasn't reached a level that I associate with being at or close to a significant bottom and upside reversal. Look for lower levels ahead and don't be fooled by an oversold rebound as it may not last for long.

DOW 30 (INDU) AVERAGE; DAILY CHART:

The Dow 30 (INDU) fell under the technical support and buying interest I thought might be found at 13000 and the Average quickly fell to major support I suggested for 12800. INDU has not re-tested its November low at 12724, a near-term target and further potential technical support.

Reflecting the recent sharp decline, I would re-calculate potential 'major' support as at the August intraday low in the 12500 area; the actual intraday 'spike' low that day was 12518. I find intraday highs and lows to often turn out to be significant later on even when the actual closes are well below or above those spikes. These levels are where the bears or bulls reversed strong trend momentum.

If we focus on the long-term weekly chart up trendline (not shown), major Dow support would be suggested as closer to 12000; currently this trendline intersects at 12060.

As support, once pierced, tends to 'become' subsequent resistance, I've noted near resistance at 13000; next higher and most significant resistance in terms of turning this bearish trend, is noted at the 21-day moving average, which is currently at 13356.

NASDAQ COMPOSITE (COMP) INDEX, DAILY CHART:

The Nasdaq Composite (COMP) Index which had been so resistant to the same degree of decline affecting the S&P and Dow finally got whacked this past week, with COMP falling to my lower trading band (at 5% below its 21-day closing average) in the 2500 area.

The Composite has also reached an oversold extreme in terms of the 13-day Relative Strength Index (RSI); these oversold readings have been few and far between, rallies have always followed but with delays of days sometimes (and lower prices) before prices rebounded. In fact, looking at the period on the COMP chart below, the second (or third) dip to the oversold level has been a better timing indicator for bottoms.

My lowest support estimate last week was 2555 and COMP blew through that 'line' of prior hourly lows. Support may be found around 2500, but major support is well under this and I've estimated it a couple of different ways technically as coming in around the August low at 2387. Actually, I should say, THREE different ways, as support implied by the major COMP up trendline on the weekly long-term charts (not shown) intersects this coming week around 2380 and isn't far below the August intraday low. COMP's rising long-term trendline dates back to the late-2002/early-2003 weekly lows.

Near resistance is at the top end of the recent downside chart gap at 2592, with next resistance at the 21-day average currently intersecting in the 2650 area.

NASDAQ 100 (NDX) DAILY CHART:

Once the Nasdaq 100 (NDX) Index fell under its 21-day moving average, with the next day's high hitting resistance at that line, it was look out below. Not predicted by me as I was anticipating that the November lows in the 2000 area would provide 'major' support. This was, how should I say it, WRONG! Oh well, as always, the lower envelope line gave an idea of a further downside target; an area where on a price basis the Index was getting pretty stretched relative to my centered (21-day) moving average.

1950 is not only right in the area of the lower envelope line, but represents a 66%, 2/3rds, retracement of the August-October advance.
Retracements of a fibonacci 62 percent or a little bit more, namely 66%, are areas of potential support or at least a demarcation; if the index or stock falls further than this, there's increasing potential for a 100% round-trip retracement back to the rally starting point at 1805.

As I noted above with the NDX weekly long-term chart, major support implied by its major support up trendline won't be seen before 1700; or, wherever this rising trendline intersects out into the future.

I've noted near resistance as 2040, at the top end of the recent Thursday-Friday downside chart gap, with next and key resistance at the 21-day average, currently at 2082.

NASDAQ 100 TRACKING STOCK (QQQQ); DAILY CHART:

Giving support and resistance levels appropriate to the Nas 100 index stock (QQQQ), computed in a similar way to the NDX index, suggests near QQQQ support at 48.0, next lower support at 46.7 and major support around 44.4. If we look at where the long-term weekly chart up trendline intersects currently, it implies that long-term support is much lower, around 41.6 currently. Holders of short stock in the Q's would like to see that print no doubt!

Near resistance is at 50.7, with next and pivotal, resistance at 51.25.

There's some likelihood for a rebound coming up soon, but upside potential is probably to not more than 50.

RUSSELL 2000 (RUT) DAILY CHART:

I noted last week that the Russell 2000 Index (RUT) was a 'low-risk' put buy when it got back up in the 796-800 area; low-risk only if an initial entry level stop or exit point was set at 805. My downside objective for RUT was to around 735 but that turned out to be a conservative estimate as RUT took out the low end of the trading range it had been in. I'm now estimating potential support at around 714 as noted on the RUT daily chart below and then down in the 700 area.

If we go back to the cluster of weekly lows seen in late-June to late July 2006, I'd say that major support could be found in the 670 area. The major weekly chart up trendline was first pierced (at around 768) back in August, so the Russell 2000 Index is no longer still within the boundaries of a long-term uptrend channel, unlike the major and most widely followed indexes like the S&P and Nasdaq.

Interestingly, RUT has still not reached an oversold reading in the RSI (in the 30-25 zone) and I'd like to see that before I cover all puts. Trading the RUT index options produces some wild rides and reminds me of some commodities markets where the breaks can be fast and furious.

Good Trading Success!

NOTES ON MY TRADING GUIDELINES AND SUGGESTIONS
CHART MARKINGS:
1. Technical support/areas of likely buying interest are highlighted with green up arrows.
2. Resistance/areas of likely selling interest: red down arrows.
[Gray up/down arrows: support/resistance levels that got pierced]
I WRITE ABOUT:
3. Index price areas where I have a bullish bias or interest in buying index calls (or selling puts or other bullish strategies).
4. Price levels where I suggest buying index puts (or, adopting other bearish option strategies).

Trading suggestions are based on Index levels, not a specific option (month and strike price) and entry price for that option. My outlook often focuses on the intermediate-term trend (next few weeks) rather than the next several days of the short-term trend.

Having at least 3-4 weeks to expiration tends to be my guideline for trade entry choice. I attempt to pick only what I consider to be 'high-potential' trades; e.g., a defined risk point would equal in points only 1/3 or less of the index price target.

I most often favor At (ATM), In (ITM) or only slightly Out of the Money (OTM) strike prices in order not to 'overtrade' my account. Exit or 'stop' points, as well as projected profitable index price targets, are based on my technical analysis of the indexes.

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