Snapshot Notes - July 8, 2008


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TUESDAY, JULY 8, 2008

Banks Help Reversal's Prospects

07/08/08 3:25 PM EST

As of:

SPX 1386

HELP ARCHIVE

After a whippy morning, buyers have come out in force and taken the major indices to new highs for the day, with little letup in buying pressure over the past hour. The most beaten-down sectors are the leaders, with Banks and Housing indices up 5% or more.

This is nothing new, we've seen similar rally attempts five other times over the past month, each one failing miserably. One difference this time is that we're simply more oversold than we were at any other point, so there should be more available buying power to sustain an advance.

As for the price pattern, there isn't anything too terribly consistent about consecutive-day reversals from a new low. I checked for any time since 1950 that the S&P 500 dropped at least 1% to a new 52-week low, then rallied at least 1% the following day. Returns from one day to one month later were in line with random returns.

I checked again, this time adding that the S&P Banks Index also rallied at least 3% on the same day. We only have data back to 1989 for that index, but we still got 7 prior instances. A week later, the S&P 500 was higher all 7 times by an average of a very impressive +5.0%, with an average intra-trade loss of -1.9% compared to a maximum gain of +5.9%.

While longer-term returns were still mostly positive, the vast bulk of the gains came during the first week after these reversals. I'm not a fan of using only 7 instances, but I'm impressed by the consistency of the forward returns and the risk/reward of the trades. For those curious, the dates were 09/28/90, 09/24/01, 07/24/02, 10/08/02, 10/10/02, 01/23/08 and 03/11/08.

We're getting some short-term overbought readings already given the amount of buying pressure this afternoon, particularly in the Cumulative TICKs. That measure for the NYSE has reached above +3000 this afternoon, which has coincided with some short-term trouble for the indexes this year.

I've been mentioning for the past few days that we were oversold on an historic scale according to a plethora of breadth and some sentiment measures, even though we weren't seeing the kinds of "puke" readings that let us better judge risk/reward when trying to buy into a declining market. Today's reversal helps the bull case somewhat, not just because of the reversal (which is not always a good indicator), but because Banks are ratcheting higher and we're coming off of a tremendous oversold condition. I'm not intending to chase the rally, especially as we approach 1280ish on the S&P, but if we can add a bit more to this rally then settle back for a day or two without completely collapsing again, then I'll be looking to add some long exposure for a trade.

Oversold Measures Continue To Pile Up, Panic Doesn't

07/08/08 9:15 AM EST

As of:

SPX 1386

HELP ARCHIVE

Good Tuesday morning...We begin the day with a slight dip in the pre-market futures, after they have climbed significantly from their early morning lows. The S&P futures have recovered nearly 20 points over the past few hours. Commodities are backing off once again, foreign markets were exceptionally weak but have come well off their lows, and the main economic focus will be new home sales at 10:00am.

Something we touched on yesterday was that the market was oversold (exceedingly so by some accounts), yet we weren't seeing several kinds of other sentiment readings that we normally get at bear-market lows.

There is no question that we are stretched to the downside, viewed any number of different ways. The 10-day and 21-day moving averages of the Up Issues Ratio for the NYSE and Nasdaq are at historic extremes, the percentage of stocks trading above their intermediate-term moving averages are just as stretched, and TICK readings are now at as depressed a level as we ever see. All this means is that we've seen a lot of very heavy selling pressure, across a large number of stocks, and the market typically rebounds after such horrific stretches.

The problem, as we discussed last week and again yesterday, is that we've been "oversold" for at least a week or so now, yet prices continue to drop. Historically, when breadth gets this bad - and stays this bad for an extended period of time - it has coincided with true bear markets that continue to yield yet more losses over the intermediate-term.

That's what makes this particular juncture so difficult, and a whole heck of a lot more so than August, November, January or March. We're as (or more) oversold as we were then in terms of breadth and some select sentiment measures, but we're not seeing the kinds of panic readings we were at those times. The "Panic Button" indicators I wrote about last week haven't moved much at all, unlike what we saw as the market was making its past few lows.

We don't have to see panic in order to bottom, of course, but it becomes much more difficult to judge risk/reward when we don't see it. How do we know if this is some kind of positive divergence, in which case we should be buying, or if this is just a prelude to a further slide that finally generates the kinds of readings we normally see before stocks make a typical bear-market low? I don't have a good answer to that, which is why I don't like to guess on divergences.

We do have some extremes other than just breadth. Our Indicators At Extremes section on the Daily Overview is showing 24 "bullish" indicators and zero "bearish" ones. That's good, but in January and March we got 30+ indicators in the bullish column.

Probably the most interesting one to me at this point is the Composite Model. I don't write about it often, but yesterday it moved to 72% (the chart on the site shows various moving averages, but the raw daily reading was 72%). This got me a bit excited, as earlier this morning the pre-market futures were down big. When that Model has been this extreme, and the S&P gapped down 0.5% or more, then buying the open and holding for three days resulted in 13 winning trades out of 13 attempts, with an average return of nearly 4%. The history isn't long, only back to 1999, but most of the readings occurred during the last bear market and still gave those great results.

Alas, the futures have ticked steadily higher as we approach the open, and we're now facing a pretty flat market from yesterday's close. The Composite Model results are still quite positive over the next few days (up 77% of the time with a +1.8% average), but the risk/reward isn't nearly as good compared to if we had seen a large gap down open.

Our most sensitive indicators are relatively oversold at this point, which has put a very short-term halt to the selling pressure the last few times we've seen them cycle to this point. So we have a fairly good confluence of short-term and intermediate-term indicators all hinting at oversold conditions, which is something we haven't seen too much of lately.

We're still not seeing anything near what I would consider to be panic or true fear like we have at the other sustained lows, so I'm not counting on us being near a multi-week bottom just yet, but if we can hold yesterday's lows then the chances for longs here look better than they have over the past few weeks. I said a similar thing yesterday in terms of the S&P holding above 1255ish and the NDX above 1800...the S&P failed its test while the low for the NDX was 1800.19 (don't tell me there aren't a whole lot of folks watching THAT level).

This is the tricky thing about trying to buy into bear markets without seeing panic readings - we can keep setting lower thresholds for sell stop orders on long positions, and we end up dying by a thousand paper cuts. So, again, it looks OK for small long positions for traders trying to bet on an oversold bounce (again), but it doesn't look like a great edge to me.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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