Trigger coming from US Market…..
U.S. stocks fell on Wednesday as quarterly results from three big U.S. banks raised concerns about the stability of the sector and analysts questioned IBM's profit forecast. Last Friday’s decline in the US market has got a lot of commentators asserting that the official top is in for the rally that started March 2009. The primary reason for these assertions is that stocks look to have broken the rising channel they entered during this last leg up.
As you can see, stocks traded in a parallel range from early November to mid-December. They then began another leg up trading within a rising parallel range. Friday’s sharp down in S&P looks to have broken this range decisively. This certainly does not bode well for the bulls. This break, unless immediately reversed, indicates that the upward momentum of this latest up leg has been broken.
However, one has to be careful in making these kinds of assertions. The fact a trendline is broken does not ALWAYS mean that the top is in. In fact, we had a major trendline broken back in late October. Lot of other analysts were suckered into believing this marked the official top for stocks. However, Bernanke immediately juiced the system again and the market quickly reversed.
In defense of the bears who viewed late October’s collapse as the “top,” stocks have struggled ever since this pattern broke. Indeed, we traded within a tight 1-2% ranged for nearly two months. And the next leg “up” occurred primarily over the holiday weekend when stocks could easily be goosed higher with very little capital. Moreover, one should note that stocks have only risen roughly 4% above the October high: hardly what you could call a massive breakout. Indeed, the fact the market took three months to get 4% higher (compared to 13% rally that occurred in only one month following the July pullback) indicates just how tired this rally has become.
I think it’s important to be extra careful when considering proclamations that the “top is in.” We’ve already seen one major breakdown quickly reverse disproving this notion that a broken trendline means the top is in. Also, calling a top (or a bottom for that matter) is not nearly as important as simply catching the general trends. Right now, the general trend remains “up” until we get a break below the 50-DMA at 1,110.
Undoubtedly, stocks are struggling to hit new highs (this final leg up started in late December was the weakest so far for the rally since March 2009). Additionally, volume is declining, economic data continues to worsen (the latest retail numbers were awful even compared to 2008’s terrible numbers), and there are serious signs of stress showing up in the bond markets (short-term debt continues to yield next to nothing, indicating investors are more worried about locking up their cash rather than looking for income).
So, my suggestion to anyone right now is to closing out some longs for a profit, or at least taking some money off the table. Finally, one needs to consider potentially hedging one’s bets or even going net short via some carefully placed shorts. Again, it might not be the time to “sell the farm” just yet, but you want to be ready for when that time comes. Having some shorts picked out in advance doesn’t hurt.
Again, to reiterate the primary point of this essay, it is much more important to plan ahead for “when the music stops,” than to accurately guess what the last song will be in the liquidity party dance. We are doing exactly this with subscribers of HBJ Capital. While most investors continue to believe they can eek out every last percentage point of gains from this market rally, we’re already taking steps to protect ourselves from what will happen when the top finally hits. We’ve already suggested our members of long term package to move most of their money to cash to take advantage of such situations.
True, it might be next week or next month, or even longer. But with the entire world extremely bullish right now, WHEN the reversal happens it will be LARGE and VIOLENT.
Markets are at a critical juncture of higher than normal risk levels here. This does not mean we can’t trade and make profits on the long side however, we are in the 5th wave of this rally which started in March 2009. 5th waves can be very difficult to forecast as they can be extension waves or “truncate” and reverse sharply.
Traders who are planning to stick around for the long haul should be aware that there are times in the market to be aggressive on the long side, and times to be high in cash and sit back for awhile. Right now, the evidence is to be more cautious and to have higher than normal cash balances while we wait for confirmation of market/wave patterns.
-JK, Lead Associate, SLT [You can reach me at JK@hbjcapital.com]
