Toppy Tuesday Morning 2 – Big Chart Review

Have we come too far, too fast?

Of course we have, this is getting ridiculous!  No one was a bigger bull than I was during the March crash, I wore out my BUYBUYBUY button telling people it was an opportunity of a lifetime, you can look up my posts here so I won't quote myself but I will say that we have now hit the targets we set at that time for the bounce we expected off that crash – the fabled 40% line, a 33% retracement of the crash from our 2007 highs to our March 9th lows.  Had we not hit it in less than 60 days, I'd be thrilled but, right now, I'm just nervous.

The problem with the rally is we've gone up and up and up on less volume than we went down with, indicating there has not been a buyer to replace every seller.  Imagine that there were 100 shares of the Dow and all were held by someone at 14,198 in October of 2007 and 1/2 the people sold until the "value" dropped to 6,469 (down 55%) in March of 2009.  Now we had a surge of interest by "bargain hunters" and maybe 1/4 of the shares were bought and sold until the "value" went back to 8,426 (up 30% but still down 40% from the top).  What that really means is 75% of the shares still haven't found buyers at any price so their value is unproven.  You can always find an idiot, or several idiots to buy too high or sell too low (just like homes in your neighborhood) buy once a whole bunch of idiots get together and buy too low or sell too high – they end up setting a price for you, even though you are a buy and hold investor.

That's how the markets work, the relatively slim amount of people who exchange shares every day set the price for the owners of the company that has very little to do with the long-term fundamentals.  Warren Buffett spoke on that topic this weekend at his conference.  Did the value of RT really fall from $8 per share to .80 and then go back to $8 over the course of 6 months or are idiots trading the stock?  Perhaps they had customers in September, then none until March 10th, when they all came back again but I doubt it.  TIN is another one that went on a wild ride over the same period and GS, AAPL, GOOG and many others are on the same path.  It's still a roller coaster market and if you think you are in for a smooth ride up you are very likely to be disappointed.

As you can very clearly see from David Fry's chart of the S&P, we are forming what I call an air pocket below the indexes as they rise quicly on little support.  That creates effectively a value vacuum that can suck the life out of a rally very quickly if just some of the people who have sat on the sidelines suddenly decide it's time to get out of their positions.  We have not proven that there are enough buyers to support any great amount of sellers and the fact that we have had huge sell-offs on relatively low-volume days makes us really wonder what would happen if there were an event that caused a real sell-off.  Note the low volume rally we had into Jan '09, that did not end well did it? 

And that brings us to the Big Chart.  In our last review it was also a Tuesday and I also felt we were topping out at 8,057 and a week later we were back at 7,700, where we once again punched the BUYBUYBUY button on our buy list.  If you don't worry about short-term pain then these minor dips (if you can call 5% minor) won't disturb you but the closer we get to 925 on the S&P (just 2.5% away) the more cautious we are going to get as we've seen this movie before and we'd rather catch the train AFTER the market proves it can hold that line than ride screaming on the way down if we fail it.  So we're having fun with our day trades and keeping a fairly bullish stance in our hedged virtual portfolio (there were no changes at all this weekend) but we have NOT hit our Buy List – it's just too damn scary to buy stocks right now, even with a 15% discount.

Despite my short-term top call, I said back on April 14th that we had: "strong indicators that this area (40% off) is the "right" spot for the top of this move.  40% off our index highs would bring us to: Dow 8,412, S&P 945, Nas 1,716, NYSE 6,232 and Russell 513.  That sounds good but it would represent a 75% move off the bottom for the SOX to 329 and a 52% move from the Transports to 1,868."  Well yesterday we finally crossed that 40% line and, 3 WEEKS AGO, I nailed yesterday's close on the Dow, the Russell and the Transports.  The Nasdaq, as we expected, already led us to the promised land but we are still waiting for the S&P (2.5% more) and the NYSE (7.5% more) to confirm.  The Russell is just a little shy of goal too so they will give us the best pass fail indicator for the week – we'll be keeping a close eye on them.

Oh yes, we still have a VERY long way to go don't we?  Keep in mind that 38.2% is the Fibonacci retrace point off a move down so the last column shows us only the Transports, SOX and Russell have even made a proper retrace so far (the first Fibonacci point is 23.6%, below which is very bearish – failing 38.2% is still bearish) and only the Transports have made it back to the 40% line.  Kind of like when you throw a 40% party and no one shows up…  The Nasdaq will get very lonely all by itself if we don't start to get some confirmation.  The Dow and the Transports look ready to rock but I think it's up to the broader Russell to get the party started, especially if we are going to make enough noise to encourage the NYSE to add another 7.5% and catch up. 

We are still, as I said in our last review, in an economy that is "getting worse more slowly."  While that is a very good thing, it remains to be seen whether it's good enough to punch us through that 40% line without another HEALTHY correction.  If not to 7,632, then at least to 7,900 – just to prove we have no sellers who are panicking out of positions.  Just like with homes, if the vast majority of the available shares of stock are held by people who have no intention of selling them, then buyers are forced to pay more to move into the neighborhood.  That kind of price action can go on forever but we need a little more than this to prove that buy and hold is back for good but, once we establish that – we can have the makings of a VERY sustainable rally.

So let's continue to be careful out there, we're likely to prove something, one way or the other in the next 10 days.