Suckers in Droves: May 10th and Today ~ The Risk Averse Alert

Thursday, May 27, 2010

Suckers in Droves: May 10th and Today

There is no reason to consider any change to yesterday's outlook. If anything, a day like today might seem to increase odds a [third wave] collapse is imminent.

However, there remains solid technical basis for sticking with the view that, a first wave down from late-April top has been forming its fifth and final sub-wave (i.e. wave v) since May 13th...

SPX 5-min

(Anticipated price action drawn above obviously is just a rough guess of what lies ahead.)

At last, coincident relative strength registered thus far during formation of wave v of 1 is lending technical substantiation for the Elliott wave count you see above. This took a while.

The worst RSI reading thus far registered during formation of wave v coincided with formation of wave 3 of v. Since Elliott third waves typically are the most dynamic, it stands to reason that, wave 3 [down] would produce the worst RSI reading.

Next we see relative strength improving during formation of wave 4 of v — besting its strongest reading registered during formation of wave 2 of v. Again, this is typical. As five waves down near their end, the fourth wave should reveal improving technical conditions. This we saw with yesterday's pop at the open.


Just as an elevated number of advancing, NYSE-listed issues registered during formation of wave iv of 1 (specifically, on Monday, May 10th) ... a similarly elevated number of advancing issues has registered during formation of wave 4 of v of 1 (specifically, today).

(The Elliott Wave Principle is all about "like from like." That is why price action over 75 years can be analyzed in precisely the same fashion as price action over 75 minutes. Very useful stuff, indeed. This "like from like" principle similarly can be applied to analysis of underlying technical conditions, much as here via the NYSE Advance-Decline differential.)

One final remark in support of the view that a first wave down from late-April top is in the process of forming...

Were collapse imminent (as in mere hours or days) it hardly seems likely that, such upside extremes in the NYSE Advance-Decline differential as we have seen this month would be registering. Instead, just prior to collapse we might better expect relatively more subdued advancing issue participation on such big up days as today (and Monday, May 10th). I know for a fact this was the case just prior to the crash of October 1987.

Look at it this way, too. There is something of a double-edge sword to ponder here...

Given buying interest revealed today (and, again, on May 10th), who among strong hands distributing shares for months on end would not desire to do the same while there still remains time and, most critically, interest? That's one edge of the sword ... and it further supports the probability a first wave down from late-April top is forming ... with a second wave [up] on the way.

The sword's opposite edge is seen, again, by the very same wide buying interest as was demonstrated today (and, again, on May 10th). Coming so near a moment when the risk of collapse is becoming elevated, should we expect anything less? Said another way ... do not the masses typically charge in with abandon near tops? Such is how suckers are made! And their number is being measured by an exceptionally elevated NYSE Advance-Decline differential, such as was evidenced today and, again, on May 10th.

According to Doug Kass, "The high frequency trading community has so screwed up the market that, you can throw out all technicals." This is like saying, "Wall Street so thoroughly owns members of Congress that, elections do not matter." It just is not so. The building Mass Strike movement likely will prove this in spades over the next couple years.

But let's not quibble over the impact of the high frequency trading community when neither he nor I can prove our position. Kass believes the increase in high frequency trading activity over the past month from 60% to 80% changes everything. I, on the other hand, do not believe any real change in the market's underlying condition is affected by high frequency trading, no matter the extent of its impact on a day-to-day basis.

Indeed, my own technically substantiated, extraordinarily bearish position is bolstered when one considers the lesson delivered by the stock market's dislocation on May 6, 2010. If increased high frequency trading is becoming a principle source of liquidity in the market, then when some matter striking fear precipitates increased selling, the consequence of liquidity's evaporation (such as occurred on May 6th) simply exemplifies the market's truly negative state — a reality overwhelmingly evidenced by a bevy of technical measures.

Kass says, "Fear is the friend of the rational buyer" and that, "fear is a necessary agent for building a base in the market." On these two points I completely agree.

Yet how does fear present itself as a necessary agent for building a base — how does it manifest as friend of the rational buyer — in the arena of the stock market? Is fear measured by people appearing on CNBC blubbering about this or that reason not to own stocks? Is it measured by bearish unanimity among hedge fund managers appearing at a conference in Las Vegas? How about among investment advisors who form an elevated bearish consensus?

The answer is no, No, and NO! Rather, fear is objectively evidenced by measures demonstrating the presence of a "wall of worry."

Long-time readers know what I am referring to here ... and likewise realize that, none of the wall of worry has been in evidence since March '09 bottom (Kass' so-called "generational low").

Summarizing... The wall of worry, such as demonstrates a bullish presence of fear, is reflected by an expanding balance among buyers and sellers. Its existence most emphatically is seen via the volume trend and relative strength performance over the duration of an advance.

Rather than again detailing these matters here, I would rather for the time being stress the criticality of an advancing price trend. It is upon this foundation one even begins assessing fear as the mortar holding together the wall of worry. In other words, fear as friend of the rational buyer requires a confluence of constructive price performance amidst a sound technical backdrop.

(Per fear being "a necessary agent for building a base in the market," one technical manifestation of this is seen via improving relative strength, first in RSI divergences registered as bottom is established, then in RSI remaining on the sell-side of its balance as the market's base develops.)

So, Kass' claim that, the market is trading on such fear as is the friend of the rational buyer simply finds no basis in cumulative technical evidence since March '09 bottom. In fact, as far as I am concerned, he kills his own argument admitting that, among "fundamental headwinds" is the role of de-leveraging in slowing economic growth. Were it not for the addition of profound leverage over recent decades the bull market of the '80s and '90s would not have been possible in an environment where real growth in the physical economy more or less was being inhibited with abandon. With that inhibition, though, de-leveraging became inevitable ... and its arrival is the kiss of death on risk assets of every sort. Indeed, to characterize de-leveraging as a "fundamental headwind" is a lot like calling the Gulf of Mexico oil spill "ugly." Truth is it is much worse than that...

Fast Money
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