Insiders Are Starting To Wade In

03/06/09 9:00 AM EST

Good Friday morning...We begin the day with what so far is looking like a flat open, but that could change dramatically by the time the bell rings.  The jobless number came in slightly worse than expectations, but drastically better than the rumors that were floating among trading desks.

On the site, we update the proprietary score of corporate insider purchases and sales from the very useful InsiderScore.com service.  After nearly becoming net sellers at the beginning of this year, those insiders have started to ramp up their purchases.

As of this week, we see that the ratio of purchases to sales is to the point where it has only been exceeded by the week of March 12th and November 19th and 26th of last year.  I want to show a slightly different version below, this time only looking at the component stocks of the S&P 500:

There was a notable spike in purchases here, too, eclipsed only by those two weeks in November.

This activity has finally pushed the Smart Money Confidence up a notch, to 63%.  That's high enough to be considered historically extreme, but like we're seeing with the Dumb Money, it's not quite to the readings we saw at the prior intermediate-term bear-market lows since 2007, when we usually saw the Smart Money at 70% or higher.

Again like the Dumb Money, we probably will not see a more extreme reading for this cycle given where our indicators are currently sitting, unless we fall hard for another one to two weeks at least.  Given yesterday's (potential) failure to follow through on the bottoming pattern we witnessed on Tuesday and Wednesday, that's troubling.

The main thing I've been watching for during these dives to new lows is some sign of intraday panic, very similar to what we've seen at or near the prior lows.  Things like a spike in volume, a surge in new lows and a jump in volatility are all missing.  We have some kinda-sorta extremes in all of them, we're just not quite getting that final push.

It's possible that this is the "apathy" stage of the decline.  We got the panic last October and November, now we're seeing the last gasp where it just wears you down day after day.  Given the amount of money already sitting on the sidelines, the massive de-leveraging that has occurred among hedge funds, and the historic extremes we saw last year, I suppose that's possible.

Overall volume is showing some sign of that, as didn't spike very high once again yesterday.  In fact, it was the lowest volume of the past week.  We have never before, going back to 1965, seen a time when the S&P 500 dropped more than 2% to a new 52-week low on the lowest volume in a week.  It's only happened once at a new three-month low (01/22/90, seven days before a multi-month rally).

If we forget about the percentage decline yesterday, and just look at any time we had that kind of volume on a day the S&P closed at a new yearly low, then here are the last five occurrences along with the return and risk/reward in the S&P over the next two weeks:

10/07/02:  +14.6% (max gain +14.7%, max loss -2.1%)

07/23/84:  +9.2% (max gain +11.0%, max loss -1.1%)

05/29/84:  +1.3% (max gain +3.4%, max loss -1.1%)

08/11/82:  +14.6% (max gain +15.1%, max loss -0.2%)

08/06/82:  +9.0% (max gain +9.0%, max loss -1.5%)

03/06/78:  +4.5% (max gain +5.1%, max loss -0.4%)

The average two-week return was +8.8% with an average drawdown of -1.1% and average maximum gain of +9.7%.  Three of those occurrences marked the end of a multi-month or multi-year decline.

Prior to 1978, the record wasn't nearly as good, in fact it was quite poor.  Out of 14 instances, only 5 led to a bounce over the next couple of weeks and it didn't mark the end of any major declines.

Bottom line - Intermediate-term

For the past couple of months, I've been repeating the same first paragraphs in this part of the summary - we had a bunch of positive studies during November/December, they failed during mid-January, so in order to get a positive outlook again we either needed another pessimistic extreme in Dumb Money Confidence, or a much-improved technical picture.

That latter condition is a moot point for now - the technical picture does not really have a chance to improve any time soon.  So we needed an extreme in the Dumb Money, and we reached that last week.  We haven't quite reached the 13% extreme we did at prior lows (and almost certainly won't due to stubbornly complacent put/call readings), but when we've seen the Dumb Money this low, and then saw further short-term deterioration in price like we have, it has been near inflection points (see here and here).

Given that, and other positives we've discussed recently, I've been on the lookout for signs of extreme intraday selling pressure and/or a price pattern similar to what we outlined on Tuesday.  As for the price pattern, we did see that on Tuesday and Wednesday (though Wednesday's late collapse weakened it somewhat).  That means we had the setup (extreme sentiment) and the trigger (the price pattern) that has occurred with regularity at past lows, and with exceptionally few false positives.

But then we got yesterday, which violated the bottoming pattern that had been carved out the past couple of days.  We did pop back Tuesday's low in the futures (around 681) by yesterday's close, so the case could be made that we're still hanging in there.

If we can't hold this morning's gap, then further failure would lead to the classic scenario of a down close today, and a gap down on Monday.  I would look to be a buyer into that if it's large enough, or as well if we would happen to approach 660ish today, particularly during the morning hours  Based on this morning's gap up (so far), I am less inclined to be a buyer near 675 as was the original plan, because if we fail to hold the opening gap, the selling pressure should be great and I don't want to step in front of it too early.

Bottom line - Short-term

I mentioned yesterday that after Wednesday's attempted recovery, our shortest-term guides were no longer oversold, and were actually closer to overbought than anything.  Thursday's drop alleviated any potential overbought conditions there, but wasn't enough to get us back to oversold.  So like yesterday, any potential long trades at all would be strictly on an intermediate-term time frame with allowances for further short-term drawdown.

While I most certainly did not want to see even more evidence of folks losing their jobs, today's in-line jobless number has served up a bit of optimism for the market, which ironically has not been a good sign over the past decade.

There have been 12 times the S&P futures gapped up the morning of a jobs report, the day after losing at least -1%.  Buying that open and holding for the day resulted in only 4 winning trades.  Of those 4 winners, a week later the S&P was down every time, averaging a return of -3.2%.  It has been better to see a gap down, and a close below the open, after which the S&P put in a positive performance over the next couple of weeks 6 out of 7 times.

With our short-term guides mostly neutral, and volatility likely to be high following this morning's jobs report, there isn't much of a solid edge that I see for the near-term, either way.  Probably the best bet would be a long trade if we happen to fail and trade down anywhere near 660, preferably early in the day.  I would be looking to establish positions at that point, but more on an intermediate-term time frame instead of a day trade.

All the best,