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MONDAY, JUNE 9, 2008

Turnaround Tuesday Ahead?

06/09/08 3:35 PM EST

As of: SPX 1386 HELP  ARCHIVE

Stocks have struggled to rebound from Friday's nightmare, with the former leaders  technology and small caps - taking the brunt of the beating.

The BKX Banking Index cannot get out of its own way, down another 4% today and essentially taking it into unprecedented territory as far as the past 19 years go in terms of its price performance over the past two weeks.  I mentioned this morning that I didn't see much that was getting me excited about a long trade, not only in the banks but even in the broader market.

After a 3% loss like we endured on Friday, we would typically be able to point to several studies suggesting at least a short-term reprieve.  I mentioned a couple of those this morning, but they weren't exactly inspiring...and they were nothing like the solid edges we found regularly in January and again in March.  Maybe I'm just not looking hard enough, but, well, I am.

I guess something the bulls can point to is the "Turnaround Tuesday" phenomenon.  This is an old Wall Street pearl of wisdom that suggests that when the market has formed a short-term trend heading into Tuesday, it tends to reverse that trend in the middle of the week, particularly if the previous move was strong.

So let's take a look at the S&P 500 over the past 58 years and look for any time that it suffered two consecutive down days, with a total loss of at least 3% heading into each day of the week.  By doing this, we'll see if Tuesday does indeed have a stronger bias to reverse a short-term decline.

The data in the table shows us that when the market has gotten knocked on Friday and Monday, it does indeed tend to rebound during the middle of the week.  The tendency for a snapback on Tuesday and Wednesday is considerably stronger than any other day.

If you buy on Monday's close and hold through Wednesday's close, then the winning percentage doesn't pick up at all, but the average return jumps to +1.3% and the average maximum gain during the next two days of +2.6% doubles the average max loss of -1.3%.

This bias has gotten stronger recently.  If use data for the S&P 500 tracking fund, SPY, back to 1993, then buying on Monday's close and holding through Wednesday would have netted 12 winners out of 16 attempts, an overall average of +1.7%, and an average max gain that was triple the average max loss.  Only one of the losers was for more than -1%, while nine of the winners went for more than +1%.

I do not trade these studies mechanically, but I do find them of great help to support (or not) any other sentiment, breadth- or price-based patterns I'm finding.  We do have some moderate oversold conditions in our most sensitive indicators, but frankly I thought we'd have a lot more after the past two days.

Technically, I don't see anything particularly interesting from the long side, as the Nasdaq 100 and Russell 2000 have now joined the S&P and DJIA in breaking their intermediate-term uptrends from March.  I suppose it could be argued that the Nasdaq 100 is sitting on support from the May lows at 1950is, but that seems rather tenuous given the position of the other indices.

Bottom line, today's trading hasn't presented any more of a solid setup than we went over this morning.  Given some moderate oversold conditions and the Turnaround Tuesday bias, perhaps we'll get a short-term rebound but for now I don't see much that suggests it's a very high-odds trade, or that it's likely to lead to a sustained move higher.

Selling Pressure Not Giving "March" Kind of Buys

06/09/08 9:20 AM EST

As of: SPX 1386 HELP  ARCHIVE

Good Monday morning...We begin the day with a modest bump up in the pre-market futures.  While there is still lingering concern over the Financials, there were no dust-ups in foreign relations which many feared due to the late-week jump in Oil prices.

The indices got hit hard on Friday, and it was very broad-based.  There were 4.5 down securities on the NYSE for every one that was up on the day, however the number of issues on the NYSE includes securities other than stocks, which skewed the breadth numbers due to the big move in bonds on Friday.  If we would have used the figures for only common stocks trading on the NYSE, then the number of "down" stocks trumped "up" stocks by 11-to-1.

So let's just look at volume, which was skewed about 11-to-1 to the downside whether we use all securities, or just common stocks only.  That should make our historical comparisons more reliable.

Going back to 1962, when we look at prior situations when volume has been skewed as bad as it was on Friday, then there really wasn't much of a bias either way in the short-term.  From one day to one week forward, the S&P 500 was up almost exactly the same number of times it was down (63 times versus 66 times), with a neutral average return.

If you would have waited out the short-term volatility and took the signal for more of an intermediate-term buy, then the results improved.  Waiting for a week, then buying the S&P and holding for a month, you would have had 61% winning trades with an average of +0.8%.  That's good, but not exceptional when compared to any random month.

Now, if you look out three months, it gets better.  Then, there were 73% winning signals (94 out of 129) with an average of +4.1%.  In this case, the average max gain during those three months was +8.2% and the max loss was -5.5%.  That's a larger maximum loss (a way to look at risk) than I'm typically comfortable with, both in absolute terms and relative to the maximum gain.  It's still positive, but not the kind of slam-dunk edge we saw with breadth studies in March.

As for the short-term, the kind of sustained selling pressure we saw on Friday was the kind that usually is exhaustive.  It was persistent enough that it drove the Price Oscillator for the S&P 500 that we update intraday down to 30%, the first time since August 16, 2007 that we've seen such a dramatically low reading.  Since 2002, the S&P bounced over the next day 70% of the time by an average of +0.6% when the Oscillator has dropped to this low of a level, with an average risk of -0.5% compared to an average max reward of +1.2%.  But one day is about all the further out I would assume this is bullish for the market.

That kind of persistent selling pressure is the kind that can generate some fear, particularly when it comes on a Friday...and a weekend when there is apprehension brewing due to the recent spike in oil prices.  I checked for any other time the VIX jumped 25% or more on a Friday, and over the next three trading days the S&P actually showed a negative return 3 out of 5 times, averaging -0.3%.  Returns going forward were mixed to slightly negative, with no real solid indication that the fear was justified (or not).  For those curious, the dates were 6/22/90, 8/3/90 (the last time oil jumped 5% two days in a row to a new yearly high), 11/15/91, 2/4/94 and 3/8/96.

On Friday I mentioned the BKX Banking Index.  Given what we'd gone over mid-week last week, with that index seeing four straight 1% losses, the additional drop on Friday seemed capitulatory - especially if volume was high.  It was high, about 50% above its 50-day average, but not exceptionally so.  I do think the index is going to try to hammer out a low somewhere around this 65-70 area, but as I've noted continually, I have no interest in trying to bottom-fish that particular sector.  If I think banks are going to bounce, then I will spread by risk by trading a broader index like the S&P or DJIA.

We're seeing a modest bounce pre-market, and the last time the S&P 500 lost 2% or more then gapped up the next morning by 0.5% or more was January 18th, not exactly a good time to be a buyer as the index went on to lose more than 1% during the day.  Historically (back to 1993 using the SPY exchange-traded fund), results were better with the S&P closing higher than the open 66% of the time, but the average gain was only +0.2%.  I could find no particular bias looking further out.

Taking this all together, it does seem likely that we will get a very short-term bounce based off readings like the VIX and Price Oscillator.  But we're already seeing a rebound of 8 points in the pre-market in the S&P, and the stats above don't give me great comfort in trying to chase a gap up opening. 

In January and March, we had several opportunities to go over very solid edges after particularly wicked down days.  I don't see the same kind of setup here - the kind of edges I've spent a good deal of the weekend going over were inconclusive or just moderately positive.  They were not the same kind of setups that got me so excited in March.  Even if looking for a short-term, knee-jerk reaction back up, I had a hard time coming up with supporting evidence.  Given our overall downtrending market with a clear series of lower highs and lower lows (in the S&P and DJIA), I'm not too interested in trying to go long on only mediocre-looking long setups, which is what I'm seeing right now.  If anything, I'd be more inclined to sell short the next round of overbought readings.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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