Intermediate Term Bearish....Longer term Bullish

I've laid out the bear case here but this is an Intermediate term concern. Longer term, the conditions for the market from a sentiment perpective is pretty solid.

I read an article today in the National Post about how the recession has been widely recognized by pop culture and incorporated into TV shows and movies. For example, a Simpson's episode aired in March whereby Homer lost his home due to a foreclosure after he took a home equity line of credit to throw a mardi gras party. I also recall earlier in the year a CSI episode whereby they mentioned the "market meltdown” and an episode on the show House whereby one of the characters lost his shirt investing in a hedge fund. In addition to that, I also remember economic and stock market related jokes being used big time with the late night talk show hosts late last year. 2 months ago SNL did a skit which featured Roubini! Thus, without a doubt, the main street public and the non-financial media has become fully aware and fully embraced all of the negative news of the stock market and the economy last year.

History has shown that by the time the non-investment public i.e. the dumbest of the dumb money, realize a trend in the market that trend has very likely run it's course or is about to.

The movie "boiler room" came out in 2000. Near the beginning of the movie the main character mentioned his desire to get rich quick and mentioned how people did so with internet stocks. I also remember a line in the 2000 movie "meet the parents" whereby the character played by Owen Wilson mentioned how he made a fortune in internet IPOs. I also remember right near the July 2002 lows how Jay Leno was using stock market related jokes.

To further confirm positive long term sentiment foundations for the market consumer confidence levels are rising from historic low levels and the underlying tone of the market is one of cautiousness. Government authorities from around the world are saying that the economy may have bottomed but say don't expect a sharp rebound. Another popular notion is that the economy is now in a "new normal" due to the deleveraging that has and will continue to take place and in this "new normal" we can only expect modest growth at best for many years to come. This kind of sounds like the inverse of the "new era" argument that was popular in the late 1990's which claimed we would have above average levels of growth as far as the eye can see due to the internet and technology revolutions....we all know how that turned out.

Look, I'm not saying that none of the bear arguments hold water.....I'm a believer in many of them....but none of what the bears warn about has to necessarily play out in the near future....Rome did not fall over a period of 2 years. It could be years or even decades before we see the "end game" of what the bears warn about. Since the mid 1990's bears have been crying wolf and have lost their ass so far betting on their beliefs. Could you have withstood 15 years of losses waiting for the end of the world to come? No chance. Most would have gone broke or capitulated by now.

What I see now from the retail trading community is an underlying tone of chronic bearishness. Just look at the message boards and blogs. Sure, there's more bulls out there that in prior months and there's signs of froth out there as per my bearish IT outlook but there's still tons of bears out there and I find that so many traders and just waiting to profit from the next downleg in the bear market. This whole notion of "green shoots" is, I find, being scoffed at by most people. People are complaining that less bad isn't good enough and that the market rallying on this is bs. I ask these people this....do you expect us to go from depression to boom overnight? It only makes sense for things to go from terrible to less terrible to modest recovery and then boom.

But I ask myself, maybe the perma bears are right....maybe you can't look at this skepticism as a contrary indicator because it's just so obvious that this bounce in the economy is "bs" as they say it.... maybe this is just a stimulus induced sugar rush the economy is enjoying....I'm not dismissing that but I got to tell you, the underlying bearish/cautious sentiment I see out there puts the market in a position to rise longer term as people grow from skeptical to cautiously optimistic to optimistic and then euphoric. The late John Templeton said: "bull markets are born in pessimism, grow on skepticism, mature on optimism and die on euphoria"


And you know what? If I’m totally wrong about everything I said, I won’t give a rat’s ass. My ego will not be damaged in the least and hopefully I will be able to recognize it and adapt quickly. The sooner people learn to do this the better they will be at making money in the markets.

Ridiculously high put/call ratio so far this morning

it's at 1.3! Usually you see these readings when the market is in a free fall. In the face of strength like today this is actually supportive for the market. Therefore, I'm backing off my 1 day bear spec trade for now because the trade appears far too crowded. Ya, I know it's tripple witching which may cause some distortions in any p/c ratios but I can only go by what I see not guess what "may be" the case.

I'll be watching for changes in this

OK, we are getting the snapback but I don't think correction is done yet

Bears were celebrating again last night, once again acting as if market crashed back to the lows. Practically every time they do this Mr. Market slaps them across the face the next day. I've said this before and I'll say it again....don't count on sustainable downside (i.e. a new bear market down leg) until these burned bears show some humility. I noticed FAZ once again regained it’s number 1 spot on the top ticker list last night on stocktwits....it didn't take long to rekindle that abusive love affair did it?

Even if the market has in fact peaked it could very well be the case that a trading range top building process similar to December 2001 - mid March 2002 will occur. In this case, the market was coming off a 3 month rally and then during this period the market was building a major top but there was a ton of bear whipsawing which by the time it was over, had shaken out and demoralized most bears before that brutal April-July down leg ensued.

SPX from Sept 17/2001 - March 31 2002



Prior to this latest sell-off I had pointed out signs of bear demoralization. I said bears were getting weeded out, FAZ was no longer the top ticker on stocktwits and those bears that remained were at the point of maximum frustration. But you can see that all it took was for the market to drop 5% to give these guys some hope and trigger euphoria again and so it doesn't appear as if bears are demoralized enough IMO....but it's getting there. Like with torture, everyone has a breaking point.


Despite my bear bashing there are good reasons to expect further downside in the days ahead as I had pointed out last week in my IT top warning post. But I can't stress this enough....you must be very careful in picking your spots. Chasing breakouts and breakdowns will likely lead to pain...you must buy the dip or sell the rip. More than ever, this market is being driven by emotions and trigger happy traders. I believe the proliferations of these 2X and 3x leveraged ETFs are contributing to it. It's getting to the point where the tail wags the dog with these things and I've already heard rumblings about regulators possibly banning these things. I sure hope they don't.

If today's rally holds at around these levels. I'm considering playing a 1 day bearish option spec trade such as SRS calls. I had success last month doing this and market conditions were similar.

Snapback comming?

Markets are well oversold in the ST now to see a snapback. There's an unfilled gap just below at about 1775 on the NASDAQ that could get filled first though so beware. If markets bounce before filling that gap I'd be skeptical of it lasting for more than a 1 day.

One postive thing I've noticed is that the VIX is still jumpy anytime the market drops. That indicates that traders are not getting complacent. At previous times the market rolled over from an IT top that led to severe downside, the VIX would not go up much on weakness but would drop rather easily on stength.

In these situations whereby the market is ST oversold but red-lining IT wise, its best to be very, very selective about playing any bounces because what often happens is that any ST oversold condition doesn't provide much traction for a bounce....it simply gets more oversold or after a brief bounce gets oversold again as new lows ensue. Therefore when in doubt, stay out and wait for the premium play. Going short at this point is too late unless obvioulsy you have a longer term horizon and believe the market will re-test its lows in the comming months.

Yet another gap down and flatline day....burned bears acting differently now

I've mentioned ad nauseum that this type of action is corrective, not indicative of a trend change. Recall how we saw the opposite type of action occur last year whereby we would get these gap up and flat line days whenever there was some sort of bailout, emergency rate cut, ect.

But something potentially quite ominous occurred today. The Ratio of NASDAQ vs. NYSE volume actually spiked today from already high levels to 2.4. Recall how I mentioned that this is a contrary indicator signaling the ratio of speculation seeking behavior to safety seeking behavior. I mentioned last week this ratio was already quite high but now this ratio is right were it was when the bull market peaked in October 2007. Unfortunately I'm unable to copy and paste the chart. This ratio has been pretty good in identifying IT tops and bottoms when at extremes and there's no doubt about it now that it's at an extreme.

I've also noticed some of the burned FAZ bag holders on stocktwits used this opportunity today to sell off some of their FAZ for big losses (as they admitted to doing). FAZ is also dropping on the top tickers list like I mentioned before. From experience I've noticed that when people sell off a dog they've had for quite some time after it gets a decent pop, it usually ends up being the wrong decision....sometimes not initially but eventually. We saw this happen when investors sold into the initial rally in March (and now of course after the market rallies 35% we've seen mutual fund inflows come back in a big way). It's quite common to see retail investors dump a dog they've owned the first rally of a trend change. I suppose they don't feel as bad about themselves knowing that they sold into strength.

The economic news was disappointing today, in particular the NAHB housing index which came in at 15. It was at 16 last month and 14 the month before. These readings are still very low historically and although they may have bottomed in November they aren't bouncing in a meaningful way. I was actually expecting to see a further rise in this number but didn't which made me stay on the sidelines.

Are we just seeing an economic dead cat bounce here that has ran its course or is it too soon to tell? I really don't care. I'll take my cue from the market and the expectations of investors/traders (i.e. fading them).
Evidence that we are close to or already made an IT top continues to build but right now the market is oversold enough on a ST basis to bounce so beware. It's always tough to play the market when it's IT overbought but ST oversold. Pick your spots and be careful out there.....I’m not so sure what I’m going to do just yet. It’s likely today’s gap will get filled….I just don't have a good handle on whether if it will be lower prices first.

Speculation as a Fine Art

I read a little book online from Dickson G Watts titled "Speculation as a Fine Art"
In it he describes the successful traits of a speculator and rules to use. I agree with pretty much everything he says. He claims that speculation is a venture based upon calculation, gambling is without calculation or very little of it. Most traders I see out there are gamblers.

Essential Qualities of a Speculator

1) Self Reliance - you must think for yourself

2) Judgment - ability to assess conditions

3) Courage - confidence to act on the decisions of the mind

4) Prudence - ability to measure danger with a certain alertness/watchfulness.
(I would also add ability to be patient for premium opportunities)

5) Pliability - ability to change an opinion.

He notes that there must be a well balanced combination of the above traits to ensure success, for if you lack one trait or have too much in another it will impede it. I would also add that it takes time to develop these traits. Judgment for example can only be honed with experience and must be without bias. If you haven't traded throughout a complete bull and bear cycle your ability to judge conditions is limited. Courage, prudence and pliability require you to battle yourself not only your biases but your ego. For example, if you do everything right but still lose money on a trade, will your ego be damaged to the point where you lose courage? On the flip side, when you make a profitable trade will your ego be inflated such that you lose prudence? I think Spok or Data from Star Trek could have made for excellent traders due to their non-existent emotional states of mind.

I consider myself a speculator. Trying to obtain the perfect balance of the above 5 traits is something I wrestle with everyday. My weakness is that I have too much prudence and not enough courage.

I also strongly believe that markets are not always efficient which makes speculation very lucrative. At times the market will correctly anticipate the future...other times incorrectly so. The markets are composed of humans and humans by nature are flawed and even if they weren't there is no way the market can always be right about the future because the future is always uncertain...probabilities can be assigned to various outcomes but they are in end probabilities...not certainties.

If markets are efficient how can you explain all of the manias and panics that have occurred all throughout history? How can an efficient market ever have allowed the dot com mania to have happened? Herd behavior and anchoring are probably the two largest contributors to inefficient markets....and thank God for that because if markets were efficient they would be very boring and non-exploitive.

It's quite obvious the market is setting up for a break one way or the other

and despite all the warnings I mentioned I think it will be up. Why? Market action says so. I mentioned this before a few times. Take today for example. Notice how the market just simply gapped down and chopped around near the lows of the day and then recovered. This sort of action in the midst of a general market rise is indicative of wall of worry type behavior. For the most part, the market has behaved this way. The odd time when it didn't and signs of froth emerged, the market retreated shortly after nipping it at the bud.

I always pay attention to how the market moves thougout the day, not just the final result. Take for example 2 different days where the Dow closes up 150 points on each day. On one of the days the Dow gaped up 250 points and then fades throughout the day for 100 points. On the other day the Dow opened down 50 points and then reversed course climbing steadily but surely with a close near the highest point of the day. Those are two very different days but with the same end result. The former is an emotionally charged move that typically gets reversed in short time (which tend to occur in bear markets) and the latter is a healthy "climbing the wall of worry" type move that tend to occur in bull runs or extended bear rallies.

When I see market action like today, without any knowledge of sentiment, fundamentals, ect, I would classify it as healthy "wall of worry/profit taking behavior". But obviously context matters and for the reasons I pointed out before, although this action appears "healthy", medium term indicators are showing "unhealthy" signs. So, I'm more than open to the notion that the market yet again makes another push higher here (it seems like I've been saying this forever) but I have my guard up knowing that IT indicators are red-lined here and the end may be near for this rally. Next week provides an opportunity to use cheap options to speculate on an upside or downside breakout. Should be interesting.

What could give us full capitulation from both bears and under invested longs? How about a positive quarter of GDP? That might do it....perhaps that's what the market is sensing here....some sort of big headline bullish news that sends the message loud and clear that Armagedon is not comming. But then again, bears may just find some excuse to dismiss any type of positive news. I've seen perma-bear mentality manifest itself in the previous cycle....every positive data point was dismissed as "temporary" or "manipulation" and they fought the recovery all the way up for 5 years. That's ego for you folks.