August 8 th 2004
Written by Matthew Frailey - matt@breakpointtrades.net
Table of Contents:
(click on the numbered sections below and you will be taken to that corresponding section)
2. MISC:
The market has been bloody, bad earnings, poor economic numbers, and oil breaking out to all time highs, it seems that everything hits all at once. The major market indices have broken support and now the stage is set for a much further market correction. For example, the DOW Jones could easily fall to 9500 and even 9000, based on chart pattern measurement and Fibonacci analysis (DOW currently at 9815). The Nasdaq could fall to the low 1600s (currently at 1775), while the S&P 500 could fall to about 1000 (currently at 1063). The NYSE composite looks like it is on a course to fall to 5700, currently the NYSE is at 6225.
Yes, the market doesn't look good and rallies will likely be good opportunities to go short. If you do not want to short individual stocks, then consider USPIX Profunds Ultra Short. Otherwise, stay in cash and daytrade or scalp trade, cash is king at this point. The most important thing you can do right now as traders is preserve your precious capital, do not over trade and take profits quickly on the long side.
As far as shorting the market, I would personally wait for a nice bounce first; Even though the market broke support, it is short term oversold. The risk reward will be much more in your favor if you wait for a counter rally first before shorting. Based on short term charts, and the TRIN indicator, I the possibility of a nice market bounce is very high.
As you can see, the DOW is exhibiting strong positive divergence on a 10 min chart, a bounce is likely to occur that will give us shorting opportunities:
Same deal for the Nasdaq, strong positive divergence.
Likewise, the TRIN indicator closed at extreme levels and is currently over 3. I must point out that this in an extremely high level, and only occurs on rare occasions. When it does occur however, the market usually puts on a strong oversold bounce:
There is a Fed Meeting this Tuesday about interest rates and will likely be a market mover. I would personally not enter any large swing positions until the Fed meeting is over. Greenspan is in a difficult position here: Higher interest rates will hurt the economy, but there are needed in the long run. Consensus is that Greenspan will move rates up a 1/4 point, but with the very weak stock market and weak employment numbers, traders are hoping that he will hold off raising rates this time. We shall see.
The IRX chart normally gives a good indication of what the Fed will do with interest rates by observing the difference between the latest time frame. Last time, you can see that IRX forecasted a 0.25% rise in interest rates by raising about 0.25% from May to June just before the Fed meeting.
However, this time, only about a 0.1% rise has occurred. This may be suggesting that the Fed will hold rates steady on Tuesday!
3. Market Indicators:
First, let's see what the market indicators are telling us:
Just as I stated above, the market is oversold in the short term and the extreme levels on the TRIN indicator hint that a large upside bounce will likely occur very soon. Such a bounce would set up the market for good shorting opportunities. Very rarely does the TRIN ever get this high:
here's a view of the 60 min chart:
The NASI has done a very good job thus far at predicting market tops and bottoms whenever the MA's cross one another. Also, the MACD is a useful indicator as buy/sell signals are generated whenever the MACD crosses up or down, as indicated below in read and green circles.
As you can see, the NASI gave a sell signal on the Nasdaq in early July when the moving averages crossed over, and the MACD crossed over to give a sell signal. Currently, the NASI is still in a downtrend. A major market bounce will not occur until the NASI gives another buy signal.
It will not be safe to go long for swing or trend trading, until the MACD crosses back up and gives a buy signal. For now, we can assume rallies will be sold and cash is king, day trading, or scalping, is the safest way to trade currently.
The NAUD indicator has broken support, which is signaling the market has a lot further to fall. Though, again, I think a bounce will occur first.
The NAHL indicator has finally given a sell signal for the market. Note that the NAHL is a long term indicator and moves very slowly. Notice that the NAHL gave a buy signal back in April of 2003 and went vertical.
Small caps usually lead when the market does well, and that is obviously not the case. The indicator below is a ratio of the Small Caps to Large Caps. The direction of this indicator is what's important, when the trend is up, the market is doing well and can support a rally (thus indicating that small caps are leading. However, when the indicator is down, it indicates the market is weak and declines will likely continue.
The VXO bounced off long term support, thus causing a strong market pullback. The direction, not the level, is what's important, when the VXO rallies, the market falls and vice versa. It looks as though this indicator has only just begun to rally and has a long way to go up.
It's easy to see why the market crashed late in the week, notice how the VIX bounced off the uptrend line. However, it's short term over bought and may pullback. A pullback would cause that oversold bounce in the market I keep referring to.
On a long term basis, the BPCOMPQ is usually not oversold until it reaches below 30, obviously it has a long way to go. However, you can also see a little positive divergence, which may cause a market bounce in the short term.
A closer view shows the positive divergence much more clearly.
4. Major Indices, Nasdaq, DOW, S&P:
Nasdaq:
On a short term basis, positive divergence in the 10 min Nasdaq chart suggests a short term market bounce may soon occur.
However, the daily chart of the Nasdaq is bearish and hints at more declines for the long term:
The Nasdaq has fallen to support in the gold region and I would not be surprised to see a short term market bounce here. On a strong bounce, former support in the high 1800's will now act as resistance and present great shorting opportunities.
However, as you can see, on a long term basis, the Nasdaq may be on track to fall to about 1600. This level is confirmed in three ways: #1, The Nasdaq recently broke support of a descending triangle and a price target can be calculated by subtracting the height of the triangle from the base. In doing so, I calcluate a target near 1600. #2. 1600 also represents a 68% pullback from the March 2003 lows and the Jan. 2004 highs. #3. 1600 was former support in the summer of 2003.
The scary thing is how three different analysis is coming to the same conclusions, which adds weight to the validity of the Nasdaq falling to 1600.
Fibonacci chart of the Nasdaq:
The long term chart shows that the uptrend line is close to being broken.
The Semiconductors are at the bottom of a downward channel and I wouldn't be surprised to see a bounce off this lower trendline. This would correspond with the short term market rally I've been mentioning.
As stated above, positive divergence in the short term hints that an oversold rally may occur this week.
The DOW resembles the Nasdaq chart, as it has broken a large bearish descending triangle to the downside. Once again, based on triangle height measurement, I calculate a price target of about 9000 for the DOW, however the first target would be support at 9500. 9000 also represents a 50% Fibonacci number.
As stated above, positive divergence in the short term hints that an oversold rally may occur this week.
Just like the DOW and Nasdaq charts, the S&P has broken support of a bearish descending triangle. I calculate a price target in the high 900s!
The NYSE has a bearish descending triangle with support at 6210 and a price target of about 5700.
Russel 1000 has broken support and has a target near 530.
The USPIX is a good mutual fund to take advantage of a falling market. However, as I've already stated above, I would wait for the Market to bounce first before buying into this fund.
5. Market Sector Breakdown Along With Various Stock Picks From These Sectors:
The strongest sectors are in the commodities group. This is not surprising given that crude oil is hitting all time highs.
Last week, crude oil hit an all time high of $44.77 a barrel, which is not good for inflation or the stock market on a long term basis. Subsequently, commodities are doing very well.
This large run-up in oil is also what's causing the jitters on wallstreet and the market pullback.
Though surprising, last week most oil stocks were weak and pulled back, as a negative divergence took place. It seems as though traders may be anticipating a pullback in the price of oil?
With oil strong commodities are in a strong bull market, as evident by the multi-year uptrend line. Is that a bullish flag I see forming, if so, then commodities may be set to breakout in a big way soon.
However, this all depends on what the US Dollar does from here: If the Dollar enters another downtrend, then commodities will indeed breakout, but if the Dollar recovers and begins an uptrend, then commodities will not do well and may break the uptrend line.
Check out the long term chart of the CRB, even if the Dollar rallies and the uptrend line above is broken to the downside, the long term chart shows that the CRB is in a major secular bull market.
Right now there are very few hot sectors, except for commodities, and utilities are included:
Electric utilities look strong.
6. Insider Buying / Technical Supported - Stock Picks:
Stock picks presented here are supported by recent, and or, long term insider buying, and are further confirmed by technical analysis. Each week, I receive a list of stocks with recent insider buying from another service I subscribe to. I receive about 50 new picks a week. I look at each of the picks, and only select the ones that also have decent chart patterns.
I added three more stocks to the insider/longs list. Obviously, with the precarious market, you want to be careful on the long side, however strong insider buying is nice to see in this weak market and these stocks could buck the trend or lead when the market bounces.
Why am I not presenting a list of insider/shorts, you ask? Because in my opinion, insider buying is far more important than insider selling.
I am personally long PRTRD and FLA even in this market.
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Symbol
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BP Price
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Comments
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8/8
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$14.35
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Insider buying on 7/30 for an average price of $12.50
Resistance at $14.35, and first target at $15.70
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8/8
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See Chart
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2 company insiders bought about $10 million worth of stock on 8/2 for an average price of $14.75.
Support at the uptrend line
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8/8
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See Chart
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5 corporate insiders bought over 35 million worth of stock between 8/4 and 8/5 for an average price of $20.20
No pattern here and the chart doesn't look that good, however with the insider buying, might want to keep this one on the radar. Support is at $20
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8/1
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See Chart
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Tons of insiders have been buying MWY shares over the past 8 months. The most recent insider purchased shares in late July for an average price of $11.21
Strong uptrend line, nice symmetrical triangle
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8/1
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See Chart
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5 beneficial owners bought about $5.5 million worth of stock on 7/23 for an average price of $3.54.
Represents a buy if the downtrend line is broken.
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7/25
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See Chart
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Very large insider buying: Beneficial owner buys a total of $173 million worth of stock for an average price of $33.33 on 7/16/04!!!
Could be bought if the downtrend line is broken to the downside.
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7/17
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See Chart
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16 company insiders recently purchased shares for an average price of $10
Huge pick up in volume, as well as positive divergence to boot.
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7. Gold, US Dollar, Precious Metals Stocks:
Gold is forming a triangle pattern and is bouncing quite nicely: The triangle is either an ascending triangle or a symmetrical triangle. Gold is definitely looking better all the time, and the recent strength is a result of the drop in the US Dollar. As long as the uptrend line remains intact, gold looks good.
Gold is inversely correlated with the US Dollar: When the Dollar falls, the price of gold goes up, and vice versa. In order to for cast the direct of gold, one must also analyze a chart of the US Dollar.
The long term chart shows us that gold has strong support at a multi-year uptrend line.
The next chart shows us that gold likes to consolidate into triangles prior to large price movements:
The Big Picture of gold metal shows that gold broke a 20 plus year downtrend line in 2003 (which ended a secular bear market) and is now in a secular bull market. The horizontal gold region is important resistance, that once broken, will set off a huge run up in gold, the 1st target would be $500.
Silver has done very well since its melt down in April. In fact, silver is much stronger than gold and in a nice uptrend. Current resistance is at 6.85.
When discussing gold, the US Dollar is paramount and holds nearly all the power over the direction of gold. Eventually, the gold will move up regardless of what the Dollar does, but at this point in time, the two are still linked closely together.
The Dollar broke out of the bullish wedge three weeks ago, but ran into resistance at 90.45 and subsequently had a huge price melt down last Friday - likely due to the high oil prices and the market weakness.
Currently, the Dollar has resistance at 90.45 and support at the uptrend line and the gold band region. At this point, it is up in the air what the Dollar will do: If it breaks support, then it will enter a new downtrend and commodities such as gold will do very well, however if 90.45 resistance is taken out, then commodities such as gold will weaken and correct.
Here is a bearish case for the US Dollar: It could be argued that the Dollar found resistance at the neckline of a head and shoulder pattern.
The Dollar is still in a multi-year downtrend line at this point.
Could still go either way:
XAU is stronger then the HUI, but could still go either way at this point.
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