Thank You, Sir, May I Have Another ~ The Risk Averse Alert

Friday, April 04, 2008

Thank You, Sir, May I Have Another

OEX 5-min

Today's trading almost appears a carbon copy of yesterday. However, there were a couple noteworthy differences.

First, unlike Thursday no RSI divergence was registered as the S&P 100 moved lower out of the gate. Thus, we might conclude the bounce off 630 was something less technically meaningful than was the case Thursday morning. Second, notice how the S&P 100 peaked today at a slightly higher reading than it did yesterday, yet RSI peaked lower. This is a mildly negative divergence.

Both these observations make yesterday's discussion timely, then. They lend further "reason to entertain the possibility much of Tuesday's (4/1) monster advance will sooner be given back than find the S&P 100 following through to 650."

So, let's take a closer at the possibility the S&P 100 could be on the verge of sinking below its March 17th intra-day low. Yesterday I arbitrarily gave this likelihood a 40% probability. I also reiterated my sense that the S&P 100 probably would not fall much below that day's low on its way to concluding its multi-month decline begun last October, should such a continued shakeout be in order.

Let me again say for the record a 40% probability is no long shot. Indeed, there is a reasonably good chance March 17th's low will be taken out. I shall elaborate this possibility using the following chart of the NYSE Composite Index. The mark-up shows just how far below its March 17th low the NYSE Composite might fall.


First, let me explain why I am presenting a chart of the NYSE Composite Index rather than the S&P 100. Quite simply I want to consider the volume of shares traded, and a fair characterization of what might be drawn from this is furthered taking such a broad view as the sum of trading on the NYSE can provide. There are nearly three thousand individual common stocks traded on the NYSE (plus ETFs) versus only one hundred common stocks in the S&P 100 index. Thus, a compelling analytical perspective might better be facilitated.

On Wednesday I wrote, "the one noteworthy thing about the volume of shares recently traded on the NYSE is how relatively subdued it has been, even during yesterday's break out." True as this is (and has continued to be over the past two days), its meaningful implication is somewhat called into question when one looks back at the volume of shares registered last year from mid-August through early October when the stock market was decidedly rising. In fact, we see NYSE volume generally weaker then than it has been over the past couple weeks.

Be that is it may, I contend this condition "set up" the stock market for its fall following the October '07 peak. Likewise, relatively subdued volume of late might similarly be foreboding an outbreak of renewed selling.

Here's the thing. The so-called "Wall of Worry" the stock market is said to climb should be reflected by the volume of shares traded over time. Volume should increase as share prices rise because owners are increasingly worried prices won't rise much further, and so, they sell, whereas buyers, contrarily, believe otherwise and are willing to buy even as share prices move higher. A sustained stock market advance will reflect this dichotomy with an increasing volume of shares traded over the duration of its ascent.

The relative increase in both buy-side and sell-side activity we have seen over the past couple weeks (compared to last Aug-Sept) could be suggesting the stock market is nearer a bottom than it was last August. Really, no one but an Elliott Wave Guy might reasonably claim such a thing. I should also say this relative increase in the volume of shares traded adds substance to the claim I made on March 26th that the March 17th intra-day low might represent "something of a strong floor."

However, this might be a case of splitting hairs, because just how strong the floor is might require accepting some "give." Therefore, I would qualify my use here of the word "floor" as being meaningful if one is inclined to own stocks. Per its usefulness in the stock index options trade, meaning exists only when there's a position under consideration. Then, a "floor" is a level where decisions are to be made.

So, to summarize, the picture presented by recent volume of shares traded on the NYSE suggests the stock market's multi-month decline might have still further to go. Just how much so is seen via the mark-up (i.e. declining trend channel, and horizontal line of support) drawn on the above chart of the NYSE Composite Index.

The speed at which this possible decline might occur could make for a period something like the second week of August '07. In fact, that particular decline deserves a closer look because an intermediate-term bottom formed then, too.


Should we look for a similar spike in the volume of shares traded as occurred last August when the NYSE Composite bottomed and reversed higher? Maybe so, maybe not.

Fact is we already saw this same kind of volume spike on January 25th under similar circumstances. However, since then the NYSE Composite Index is the ONLY index NOT to decline to a new, multi-month low on March 17th. Contrarily, NO major index fell below its respective August '07 low following the volume spike reversal noted on the chart above. If nothing else, this suggests the present period following the January 25th reversal is finding selling strength a bit more heightened than was the case during the late August through early September period last year. This simply adds weight to the probability March 17th's low might very well be taken out decidedly.

As such, might a volume spike even greater than January 25th's be in order? Or, might we witness subdued turn-over indicative of selling exhaustion, much as occurred going into March 17th's low?

I'm inclined to suppose it will be the former. Let me explain why.

The considerations I am raising here are presented in the context of both the possibility major stock market indexes will fall below their respective March 17th lows, as well as the likelihood the stock market's present multi-month decline will soon cease and reverse into a spectacular melt-up. Given all the extraordinary circumstances underlying the present moment, it seems reasonably probable some sort of event precipitating a panic-driven capitulation might be in store. Clearly, too, the hyper-inflationary foundation government institutions wittingly are providing for the sake of bailing out Wall Street's bankrupt arrangement is putting a floor under Public Relations Tool #1 cited by the faithful disciples of the black magic of the marketplace: the stock market.

All things considered, then, a volume spike reversal possibly dwarfing those highlighted above might mark the end of the stock market's multi-month decline and set the stage for a rapid melt-up.

Should the possibility I have elaborated today prove "the path of least resistance," I suspect it might entirely unfold over the next 1-3 weeks or so. Again, I believe there's a reasonable chance this could, in fact, happen. We should not at all be inclined to discount the possibility.

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© The Risk Averse Alert — Advocating a patient, disciplined approach to stock market investing. Overriding objective is limiting financial risk. Minimizing investment capital loss is a priority.

Analysis centers on the stock market's path of least resistance. Long-term, this drives a simple strategy for safely investing a 401(k) for maximum profit. Intermediate-term, investing with stock index tracking-ETFs (both their long and short varieties) is advanced. Short-term, stock index options occasionally offer extraordinary profit opportunities when the stock market is moving along its projected path.

Nothing is set in stone. Nor is the stock market's path of least resistance always known. More often than not, there are no stock index option positions recommended.

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