Snapshot Notes - July 24, 2008


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THURSDAY, JULY 24, 2008

What A Way To End The Streak

07/24/08 3:00 PM EST

As of:

SPX 1251

HELP ARCHIVE

We've had a few opportunities to talk about persistency over the past month or so, in terms of weeks of bad breadth, and consecutive price declines in the Banking sector.

Coming into today, the S&P 500 tracking fund (SPY) had a more illustrious streak going, as it was able to tack together six consecutive up days, the first time in months it was able to accomplish such a thing. The cash S&P 500 index didn't quite make the cut, with a small loss on Monday. Even though SPY tracks the S&P index, differences in the way the two open and close cause some small divergences between them.

With the streak ended at six straight up days by a 1% loss today (assuming we close with a loss that large today), I thought we should take a look at other times in history the S&P carved out a similar feat. I'm using the cash S&P index for this test due to its (much) longer history, even though technically it doesn't apply in our current case. Close enough in my book.

The last time the S&P's streak of six or more consecutive up days was ended by a 1% or larger decline was March 24th, 2003, which led to a short-term pause that refreshed the buyers enough to push us into a multi-year bull market.

The table below highlights the other times this has occurred since 1950:

In the short-term, the results were mixed. We saw a very short-term snapback 6 of the 9 times, but that's no great shakes. After ten days, though, 8 of them were positive and sported an impressive 2% average return. In the intermediate-term, the results were equally positive, though there was one large failure in 1981 when a one-month rally rolled over into a large decline.

There isn't anything in the study that alters what we've already gone over, in either the short- or intermediate-term. Since last Tuesday, we've gone over several compelling studies suggesting a one- to three-month (or longer) recovery. Over the past few days, we've discussed several short-term negatives that suggested any further upside probably wouldn't be sustained, and which have come home to roost today.

So the market has been acting pretty much in accordance with the stuff we've gone over, which makes me less anxious that we're seeing the pullback today. We just need to see the recent lows hold on a re-test, or at least be re-gained very quickly (within a day or two) of any violation. The best thing would be another couple days of gradually declining prices that gets us into a short-term oversold condition (we're already nearly there according to our intraday indicators), then finally a big positive day with extremely skewed advance/decline and up/down volume figures, one piece of the "bottoming" puzzle we haven't yet seen.

A Couple More Short-term Worries

07/24/08 9:10 AM EST

As of:

SPX 1251

HELP ARCHIVE

Good Thursday morning...We begin the day with a mixed reaction in the pre-market futures, with the Nasdaq 100 showing a slight gain helped along by QCOM and AMZN while the other indices are showing minor losses. Commodities are bouncing back just a bit, foreign markets were mostly negative and the morning economic reports were a tad weak. Tomorrow's Durable Good report before the open could/should be a market mover, as of course will the flow of earnings reports which so far today have had a mostly positive tone.

One of our sets of data that became extreme near the lows earlier this month was the flow of funds in the Rydex family of mutual funds. We saw a pretty dramatic wave of selling in the long (and leveraged long) funds which caused many of the ratios we watch to exceed their "too pessimistic" trading bands.

The rally over the past week has helped to move some money back into the bullish funds at a rapid clip. The relative strength of the flow into bullish funds has greatly exceeded that of the inverse funds over the past week, as reflected in the Bull/Bear RSI Spread indicator which is now above 80.

Even more striking, the flow of money has been concentrated in the riskiest funds that Rydex offers. Our Rydex Beta Chase Index has now jumped all the way up to 9, essentially meaning that the traders in these mutual fund are 9 times more likely to trade a risky, high-beta, high-volatility fund than they are a "safe", low-volatility one.

This can sometimes be a positive sign that risk-taking behavior is coming back into the market, which is something we need to see in order for prices to continue to rise. But when it gets to be too much, too fast - like we're seeing now - that's when we often run into trouble. The last time we saw these indicators at these types of extremes was in early October of last year, soon after which the indices topped out. From 2002 to the present, when we've hit this degree of extreme in these two measures, the S&P 500 was positive a week later 40% of the time (14 out of 35 days) with a flat overall return.

We're also seeing an extreme in the Ratio-Adjusted McClellan Oscillator. This complicated-sounding indicator is basically just a view of the momentum of the market's internals (i.e. breadth), adjusted for the changing number of securities traded on the NYSE.

This indicator had been grossly oversold heading into early July, and on July 3rd we discussed the possible ramifications of that if stocks continued to slide (here's a hint: it wasn't pretty). Even though we have not yet seen an extremely positively skewed breadth day to the upside, which in itself is a little troubling as we went over yesterday, we have still seen a big change in momentum from what we'd been subject to earlier this month.

The Oscillator is now at 63, well above what could be considered overbought. The only other days that recorded this extreme of a reading since last October were December 10th and February 1st, both of which marked short-term highs for stocks.

Historically, such an overbought reading led to mixed results going forward. Over the past decade, it has led to fairly consistent negative returns in the short-term (the S&P was positive 40% or less from 1 to 5 days out), but quite positive longer-term results (it was up about 75% of the time after two weeks).

I mentioned yesterday that as the major indices start to bump up against possible resistance levels and we hit these types of overbought readings, aggressive traders may be trying to sell the rally short, but personally I wasn't quite ready to do that given the strongly positive intermediate-term bias afforded by the other studies we've discussed since last Tuesday.

We still have that negative-short-term-but-positive-longer-term struggle going on today, where one's approach could vary greatly depending on one's time frame. With the inability of the major averages to hold the early push yesterday, and the other negative short-term factors we've gone over, I don't think any further gains are going to be sustained in the coming sessions.

All the best,

Jason Goepfert

President and CEO

Sundial Capital Research, Inc.

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