What to Make of Growing Doubt in Big Rally Staying Power ~ The Risk Averse Alert

Wednesday, July 16, 2008

What to Make of Growing Doubt in Big Rally Staying Power

Let me begin tonight with a question you might not expect...

Did you notice the preponderance of CNBC commentators openly questioning the viability of today's screaming, complacency-laden rally?

Good Lord ... the recent period's most bloodied sectors melted up spectacularly ... XAL +18%; BKX +17%; XBD +13%; TRANQ and DJR +7%; RLX +5.5% ... Carumba!

No doubt these were all generally out of the blue launches absent any convincing technical indication a solid base had begun to form. As such, then, the incredible performance registered today in the most battered sectors might best be seen as possessing character typical of a bear market bounce.

Yet, doubt toward today's rally displayed in the mainstream (CNBC) is not to be ignored. This indicates bottom is on the horizon. How much lower, though, remains an open question...


My 5:00 p.m. update more or less announced the obvious: today's trading lessened the present period's similarity to options expiration week, January '08.

However, does this mean the much-anticipated bout of tumultuous selling is now off the table? To which wonder I answer rhetorically... Are you kidding?

Imagine the following scenario...

Sometime over the next week or so the S&P 100 tanks another 10% +/-... More gnashing of teeth and deep seeds of doubt are further sown... Then, the market proceeds to embark on the first leg of its melt-up ... something like today, but somehow qualitatively better in the grand scheme of the moment... Doubt still remains, much like today, and grows only stronger as some portion of that first leg up is given back... All the while, positive technical divergences conclusively form... Then, from this base the market launches into the stratosphere.

This, generally speaking, is how I see the present set up. It "fits" the negative sentiment that has been building for months and the $3.5 trillion money mountain sitting on the sidelines.

Still, though, first on the plate is the thus far missing capitulation. Before I present the same old stuff showing why I believe it's coming, I should ask another question:

Is it not also fitting that, if a significant bottom is nearly at hand, crushing financial damage options writers might suffer upon expiration (much like was meted the week options expired, January '08) would be better avoided this time around?

So, prospects forming as a consequence of today's bounce (detailed in my 5:00 p.m. update below) support the increasing likelihood the greater portion of selling still to come will commence once July options go off the board. Thus, the blow might be more easily absorbed and the stage might be set for a bottom to form.

You see on the chart above how today's bounce affected RSI similarly as occurred in November '07, just prior to a final move lower and a subsequent, larger bounce. It is only for the sake of this general observation I am pointing this out. As you likewise see, all indications suggest the trend trend remains down. RSI and MACD all the more confirm this.

The pending move lower undoubtedly should be more damaging than occurred in November '07. The evidence I consider continues supporting this view.


Today's bounce did nothing to alter underlying conditions reflected by the VIX.

First, the index continues to trade above its 200-day moving average. As optionsMONSTER's Pete Najarian has noted, this condition typically coincides with heightened market volatility ... and that's just what the doctor ordered.

Second, relative to VIX's performance over the past year, there's still no sign of fear-based capitulation. Since there is every reason to expect this from an Elliott Wave analytical perspective, a decline ratcheting the VIX to its highest level registered over the past year probably is in store.


The same conclusion per the absence of a fear-based capitulation is substantiated by the CBOE Put/Call Ratio. We should see heightened Put buying upon a market bottom. This would reflect both an increase in speculative positions and in long equity hedges.

Absent this ... complacency rules. And in a market trending lower complacency is the stuff that kills.


Well, look at that. Today's was the best NYSE Advance-Decline performance since June 5, 2008. We all know what followed. The market turned down hard the next day. And like I always say, the trend is your friend.


And can you believe the NASDAQ Advance-Decline differential registered its best reading of the year? Complacency dominates the Pump and Dump. You might almost think 2000-2002 (-80%) never even happened. And yet, despite that very hard lesson, hope waxes eternal...

[5:00 p.m.]
Yesterday at 5:00 p.m. I published the following chart:

OEX 5-min

As you can see, my assumption was the S&P 100 might rise further today before falling apart. Then, being long July OEX 520 Puts, my hope was the market would commence on its much anticipated capitulation prior to today's close.

OEX 5-min

Well, there's a closer view, yesterday and today. Per today ... Burp. Pritty much is intispated ... 'cept th' collaspe inta clooose.

Sobering. I'll show you what I mean...

OEX 5-min

The fact the market held into the close (and gave its best June 5, 2008 look ... the day I shot my twittering mouth off forecasting Dow down 300-500 the next day ... down 397 revealing how luck can confirm reasonable possibilities in the land of Elliott Wave Man) suggests the greater damage yet to come might not pass until after July expiration on Friday (7.18.08). Thus, my presenting the above wave count scenario stretching out the same, tortuous, gnashing of teeth press lower, delaying the worst part of the market's unfolding decline until after expiration.

Remember that. There may be a test someday. Your prize could be five minutes of fame lasting an eternity.

I love the internet. But I have a question...

If I think a society such as ours should make something so powerfully enabling (i.e the internet: the popular W) freely available to everyone and with perpetually advancing capability ... in a project called the "Benjamin Franklinfication Project," say ... would that make me a socialist ... or would I rather be thinking like an American patriot? Just wondering.

So, I think Monsieur Market bought some time today before big wave 3 [down] kicks all of today's complacency right in the face, like Chuck Norris, when tough luck meets brassy.

Later I'll elaborate why the S&P 100 remains still likely to fall hard one day soon ... as in sometime over the next week. (Or, if you are reading this sometime after "later," you already know what I am talking about. And if sometime after "later" is after the fact ... I have a certain confidence to suggest you are reading this because McGruff the Crime Dog did real good, huh.)

The answer to yesterday's Pop Quiz is: at 3:00 p.m. (yesterday), when the OEX had reached its high for the day, its 5-min RSI confirmed the move higher by moving higher itself. That show of strength suggested the market's advance might extend today. And that it did.

There is more to it, though. RSI is viewed in the context of the Elliott Wave count. For example, do you see (in the 2-day chart above) how RSI "confirmed" today's 5 waves up?

You might think I should look at this — today's RSI confirmation at today's OEX high at the close — much the same as I did yesterday ... supposing still higher highs to go before things turn south.

Today's instance, though, unfolded with wave c, a third wave, typically the "strongest" of any Elliott Wave. Such an underlying [RSI] confirmation is to be expected because of this. It substantiates ... demonstrates ... proves a third wave's strength. Such confirmation doesn't have to occur, but when it does there is no surprise ... there's no confusion. It's a c wave and what comes next is a reversal.

Now, because all the beaten financial brethren caught a bid courtesy of Wells Fargo, this suggests there's enough love among the brotherhood not to precipitate a free for all.

Did you see the BKX was up 17% today ... its best day ever?

[SIDE NOTE: This suggests there's still good melt-up ground on Wall Street. Today's action likely showed us a piece of the prize still to come in the grand scheme of the options play whose opportunity I have been presenting here. In fact, the fattest part of the gain should be made then.]

As today's delay in the coming trip south matters right now, it seems wise to assume the OEX 540 strike might not be long in the money, if at all, prior to expiration. So, the thought of making what we can of the Lady 520s enters into the picture. Whatever loss is suffered ... be it made back handsomely (and some) by three Julie 550s, thirteen hours to live, is now the question.

Still, I can sleep well, because what I have on the line was paid with the house's money from an account twice as big as I began with.

* * * * *

© 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.

There's an easy way to boost your investment discipline...

Get Real-Time Trade Notification!