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FRIDAY, MAY 30, 2008

Slow Trade is Carving Out Narrow-Range Day

05/30/08 2:35 PM EST

As of: SPX 1386 HELP  ARCHIVE

We're seeing a very lackadaisical trade today, as the major indices hover in modestly positive territory.  Banks have continued to sink, but strength in technology is again helping to offset that weakness.

The slow trading is helping the indices carve out a narrow-range day.  This is something I alluded to a couple of days ago as something I was going to watch for heading into the end of the month.

The lack of movement is also evident in the NYSE TICK indicator.  The TICK is computed by quote vendors such as Bloomberg, Tradestation, eSignal and others, and it shows how many stocks last traded on an uptick minus those which last traded on a downtick.  Let’s say there are 3200 stocks trading on the NYSE.  If during the last 10 seconds, 2000 of them traded higher than their last price and 1200 traded lower than their last price, then the TICK would be reported as +800.  We rarely see readings higher than +1200 or lower than -1000.

I watch this closely for periods of short-term exhaustion (when the TICK hits an extreme), and also on days when the indices are trying to carve out "trend" days, where they open near the day's low and close near the day's high (or vice-versa).  When buying pressure comes in every time the TICK approaches zero, then it's rare to see meaningful afternoon reversals.

Today doesn't qualify as a trend day according to the parameters I use (breadth is not nearly positive enough, not enough sectors are participating in the rally, and the intraday pullbacks in the indices have been too steep).  But we're still seeing buying pressure come in when the TICK hits zero, and unless that changes I don't suspect we're going to get a lot of selling pressure into the close.  If the TICK pattern changes, then I'll be more alert to the odds of a deeper pullback.

Regarding the narrow intraday range, since 1982 if the S&P 500 ended a month with at least three consecutive up days, and with the last day having the narrowest range (intraday high minus intraday low) of the past week - showing a petering out of buying interest - then buying at the close on the last day of the month and holding through the first three sessions yielded 5 winning trades out of 14 attempts, and an overall average return of -0.2%.

It happened only once during a downtrend (the end of March 2002), and the S&P fell precipitously the entire next month.  Five of the last six instances led to losses of at least -2% during the first week of the new month.

If we look for the same situation, but require four straight up days, then the next few days were positive 2 out of 7 times.  In the few days after the two winning trades, all the gains were given back and then some.

The results were similar when we throw in the parameter that volume is very low.  Using composite NYSE volume, it looks like today has a good shot to be the lowest-volume trading day of the year so far.  Multiple-day rallies tend to lead to sub-par returns; narrow-range days tend to lead to sub-par returns; exceptionally low volume tends to lead to sub-par returns.  When we combine all three on the same day, we have few precedents (none during any previous down market in the past 25 years that I could find), and I don't think it sounds particularly attractive.

Heading into next week, obviously we have the first trading day of the month right off the bat, which we've already looked at a few different ways.  The first days of a new month have been good to the bulls this year, particularly the last couple of months, and there is no doubt that is fresh in most everyone's mind.

I, too, am leery of being too quick to bet against the rally with that in mind, but even so I think if we happen to get another first-day rally it's not going to last.  While our more sensitive indicators have pulled back from overbought conditions, the price pattern here does not appear bullish, especially in the context of the more intermediate-term negative factors we've gone over repeatedly in past comments.  I'd be more interested in pushing on the short side if the S&P happened to squirt up to 1420ish, but even with where it is now, the probability is looking better that we'll see lower prices as we progress into the first weeks of June.

Will Seasonality Save Bulls Again?

05/30/08 10:30 AM EST

As of: SPX 1386 HELP  ARCHIVE

Good Friday morning...We begin the day with some follow-through to yesterday's positive session in the major indices.  Oil is down this morning, but Banks are getting hit again and the 75 area on the BKX Banking Index remains a focal point.  Retail is also lagging, but Semiconductors are at the top of the leader board.  Pretty mixed picture at this point.

By mid-week last week, we were seeing several signs that suggested a bounce should be imminent, particularly in the Nasdaq 100.  But given the longer-term concerns we spent the previous couple of weeks discussing, any such bounce should set up a better situation in which to sell short the idea of a sustained rally.

We got the bounce, and it's showing impressive resilience.  Financials have been a drag, but technology has remained strong and is helping to support the broader market, with some seemingly silly short-term knee-jerk reactions based on the latest hyped-up move in oil thrown in for good measure.

In the process, the S&P 500 has carved out three straight up days, and gapped up this morning.  In the context of a declining market, this has not usually been a good setup for longs, as we've gone over several times over the years.

Checking again, any time the S&P tracking fund (SPY) rose three days then gapped up +0.25% or more the next morning (as it did today), while the 200-day average was declining, it resulted in a positive return over the next couple of days only 26% of the time (5 out of 19 occurrences) and an average return of -1.0%.  On average, the most the S&P was able to tack on at maximum was +0.7%, while the average drawdown was -1.9%.

Even when the market was in an uptrend, the go-forward results weren't all that impressive, with a positive return 47% of the time and an average of -0.2%.  The returns didn't improve all that much when looking out up to three days later.

One of the few bullish edges we've discussed is seasonality.  Traders are most definitely aware of the first-day-of-the-month phenomenon, which we'll face on Monday.  Every month so far this year has shown a gain in the S&P 500 cash index, with April showing +3.6% and May +1.7%.  Historically the S&P has risen about 58% of the time on the first day of a new month, but the most recent data usually carries the most weight in traders' minds.

Yesterday we went over some scenarios regarding beginning-of-month performance when the market had already rallied for several consecutive days heading into the end of the month, and it didn't lead to any solid conclusions.  But at least some of the bullish luster seemed to be polished off when the market had already rallied prior to the end of the month.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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