Snapshot Notes - April 21, 2008


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MONDAY, APRIL 21, 2008

Stocks Are Holding, But Volume May Matter

04/21/08 3:05 PM EST

As of:

SPX 1389

HELP ARCHIVE

One of the few aspects of recent market action that has bugged me is the low volume we've been seeing across stocks, sectors and the market in general.

I've written at length over the years noting that I do not use market-wide volume in the traditional sense of "accumulation" and "distribution" days. I really couldn't care less if volume is higher or lower when the market is up or down on any particular day.

I do think volume has value in individual stocks and sectors, and market-wide volume has its uses when we see extreme outliers either way. High volume is usually bullish and low volume is not. This is heresy to most technicians, but I like high volume in down markets, as it has historically been very bullish.

You certainly don't have to take my word for it - let's just look at the facts. The charts below highlight the activity in the S&P 500 over the past 30 years. The average returns and percentage of time that the S&P is positive is separated by whether the market was in a bull or bear market, and whether total NYSE volume was high or low.

"High" in this case means that 10-day average volume was more than 25% greater than 200-day average volume; "low" meant that 10-day average volume was more than 15% below 200-day average volume. A "bull market" was considered anytime the slope of the S&P 500 was positive; a "bear market" was when the slope was negative.

First, let's look at average returns:

We can see from the chart that the best possible scenario for future 10-day returns in the S&P was when we saw high volume during bear markets. That highlights panic conditions, and stocks usually bounced back. The S&P averaged +3% over the next couple of weeks, compared to a random two-week return of +0.1% during that time.

The worst scenario was low volume during bear markets. That's what we're seeing now...

Now let's look at how often the two-week returns in the index were positive during the various scenarios:

Again, the best situation was high volume periods during bear markets, with the S&P showing a positive two-week return 83% of the time. That is extremely high compared to the random 51% during other bear-market periods.

And also once again, the worst situation was low volume during bear markets. The 42% of the time that the S&P showed a positive return badly lagged all other scenarios as well as random periods.

I really don't care whether the low volume we're seeing has been occurring on up days or down days - if the difference is extreme enough, then maybe there would be an edge there, but the concept of accumulation and distribution days is way overblown among most market watchers. I do care that volume in general has been exceptionally low, especially considering that we're still in a bear-market environment as far as I'm concerned.

Taking another look at volume, let's see what's happened when the S&P rose more than 3% over a week's time, then the S&P 500 tracking fund (SPY) had its lowest-volume day in three months, which it's on track to do today. Over the next few sessions, SPY was positive once out of four instances, with an average return of -1.4%. Using the Nasdaq 100 proxy (QQQQ), it was positive twice out of eight occurrences, with an average three-day return of -3.8%.

Today's session will surely be spun as a low-volume consolidation of last week's gain, which the textbooks say is bullish. Perhaps it will prove to be so, but volume has become so low that it is now a worry for me. I mentioned several other factors on Friday that suggested limited upside at best early this week, and most of those were very short-term looking out one to three days. The post-option-expiration influence is already behind us and stocks are holding up relatively well, but much of that seems hell-bent on a good report from Apple, which is scheduled to release earnings on Wednesday.

In direct contrast to Intel and Google, which put in big efforts to propel the market last week, Apple is screaming higher into its report. That stock alone accounts for all the points that the Nasdaq 100 is positive today (about 9 as I type), and it's pushing up the S&P 500 by about 0.5 points, the biggest positive influence in that index today.

If the biggest thing holding up the market at the moment is high expectations about a stock that has just run up 12% over the past week and 40% over the past two months, then that seems like a shaky underpinning to me. That company has traditionally beat its earnings estimates by about 25% on average, but that has not necessarily translated to future gains over the short-term.

I still think we have limited upside in the short-term, in equal parts due to what we went over last week, today's Apple influence and the exceptionally low volume. If we can overcome that and see the S&P overtake and hold 1400ish, then as a matter of discipline I'll have to back off any negative thoughts unless we cross back under.

Still Some Signs of Skepticism

04/21/08 9:50 AM EST

As of:

SPX 1389

HELP ARCHIVE

Good Monday morning...We begin the new week with some slight downward pressure in the major indices and most of the broader sectors. Financials and Retail are leading the downside, while Oil is once again taking center stage.

One of the pieces of data I like to delve into each weekend is the breakdown of option trading from the prior week, namely in reference to the smallest of options traders. By watching how these guys and gals distribute their money among various options strategies, we can sometimes get a feel for whether traders in general are leaning too heavily one way or another.

A curious thing about the recent rally is that these traders have been loathe to embrace the rally. Despite a nice pop off the lows, we're still seeing our ROBO Put/Call Ratio hover near oversold territory with a reading of 0.67. Last week, these traders spent 34% of their volume buying speculative call options (that would profit on a market rally), and 23% on protective put options (that would offer them a hedge if the market fell).

While call buying was heavier than put buying, it was was to less of a degree than we've seen after past market lows. When we look at the past few intermediate-term lows that had been accompanied by an excessive amount of protective put buying (August 2004, July 2006, March 2007, October 2007), we see that these small traders are being considerably more conservative than they were in the past.

By the time the S&P 500 had rallied 8% on a weekly basis from each of those lows, on average the ROBO Put/Call ratio had moved to 0.51, quite a bit lower than the current reading. And by this time at after those other lows, traders were spending 37% of their volume buying speculative call options, and only 19% on protective puts. So now we're seeing a substantial rally off last month's lows, but less investor buy-in than at any of the past lows when a large number of puts had been bought.

It's possible that these guys are buying a lot of stock, and hedging with those put options, but I don't try to read that much into this data. After all, the average transaction size here is only around $2000.

I suppose it could be said that this is a good sign of skepticism, and means there's more firepower left on the sidelines waiting to be invested. That's possible, but we already saw a sentiment extreme last month - now we need to see signs of investors becoming more bullish and committing capital to the market in order to help sustain these higher prices. I generally don't buy into the "bull markets climb a wall of worry" theory.

For the short-term, I mentioned last week that given a number of different studies we looked at in regards to gap up openings, option expiration and reactions to earnings reports, I wasn't expecting much upside after Friday's open, especially heading into early this week. I haven't found too much after looking at our usual sentiment-, breadth- and price-based indicators that suggests a substantial amount of downside is likely any time soon, but as we went over on Friday there are several reasons to at least expect the upside to be capped for now. If the S&P 500 can run above 1400ish and hold today, then I'll have to back off that idea.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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