Everyone is looking for a reason, the most frequent question in my opinion (other then what is the market going to do?) and the one that draws viewers in herds to financial media like CNBC is the question, “Why did the market go up today? “ or down.
Whatever you'd like to believe there's someone out there who will tell you exactly what you want to hear, no matter what that is. Today the NEBR news that the recession ended in June of 2009 seemed to coincide with the start of some buying and the recent Obama speech thought by many to be more business friendly is another reason given. Both seem insignificant compared to the market's action and I don't believe either was behind the real movement.
The truth is, it really doesn't matter, both probably have little to do with the real reason. Honestly,”the recession ended a year ago”, is that news that important today? Is that news worthy of a rally of this magnitude? Does it change the economic situation we currently face in any way, shape or form? No, they are passing blips that will soon be forgotten. The real reason, if it is revealed, won't be revealed until it is no longer a factor in most cases as you'll soon see.
The fact is the market gapped higher and moved higher from there. Last night I made a strong case that AAPL is being used for its weight to move the market, I said this about AAPL,
“Also note the triangle that formed in AAPL Friday. Triangles are often signs of a top when accompanied by a 3C negative divergences. The reality that we see 3 or 4 times a day though is that even if this is as I suspect, a bearish top, the most likely outcome will be a false upside breakout-perhaps a gap up to clear the stops and orders above the very obvious triangle. Typically I'd say there's an 80% chance we will see this, but it should be short lived and once price falls below the apex (point) of the triangle, the longs will be at a loss and the supply/demand equation will rapidly shift as longs sell losing positions and flood the market with supply pressuring prices lower-this is the reason for a false breakout-that and the market makers pay day.”
Given the percentage chance I laid out last night is it a surprise we saw a breakout today? I think not, whether we like it or not.
Interestingly, Bill Cara wrote this today about false breakouts, something I'd mentioned every day as we have seen 3-4 a day easily,
“One of the hallmarks of the market in recent months has been the black box-driven false breakouts and breakdowns. Programmers know where most traders place stops, and one of their strategies seems to be running stops just above resistance or below support in an attempt to lure momentum traders into the marketplace. Breakout trades have been particularly poor performers this past summer; if the S&P reverses back under 1130 the odds of a failed breakout will increase dramatically.”
As I said, at some point the reasons will reveal themselves, the facts are we saw these false breakouts in every timeframe occur with such stunning frequency that I estimated- conservatively- that over 80% of obvious patterns fail, which has helped us in trading, knowing the breakout will be false. The more obvious the pattern, the greater the likelihood, so last week's triangle that broke out today, from our experience has a very high probability of failing. This also makes sense from the standpoint of what we believed this orchestrated rally would produce: a short covering rally that leads longs in. As the rally progressed, the point in which longs would enter the market became obvious. At first the thought was the higher the rally the more likely the longs would enter, but as this inverse H&S pattern gained traction throughout the bullish camp, it became obvious that it would be the trigger. Last week we penetrated the neckline intraday about 5 times, but it wasn't until today that the market did something convincing. If you are a hopeful bull who has been waiting for this breakout, today was your day. Whether the market is light on participants or not, there's still volume there, there's still traders and participants there. There are still funds there that will and did buy into today's advance. The Fed surely did not take 5407 of 6666 stocks higher.
What did seem surprising was the extent of the rally. Looking closer at the rally, what was not so surprising was one of the weakest dominant price/volume relationships I've ever seen: 29 of 30 Dow stocks in the weakest, most bearish relationship. The volume also was not surprising, I think I noted this mid-day.
Rising volume on a breakout from a H&S bottom is crucial; it should have surged at least 50% minimum. Instead what we saw, was a dichotomy. Price advanced while traders backed away from rising prices. This seems to be an oxy-moron, it is and there's only a few reasons I can think of that would explain it, the most obvious is manipulation of stock prices (like AAPL and XOM) or more importantly index prices through the use of select stocks. Yet the majority of the stocks rallied, the reason is simple, “A rising tide lifts all boats”.
VIX, etc.
“According to Bloomberg, for the week ended September 17, corporate insiders bought $1.4MM in shares in a whopping 7 different companies. This was just marginally offset by sales of $441MM in 98 different companies, a ratio of 290 to 1 of stock notional sold to bought. But wait: this is GREAT NEWS: last week the ratio was 650 to 1! So this is a huge improvement and certainly yet another reason for today's rally, even though last week total notional sold was $332 million, or just under 25% lower, and sellers came in well lower at "just" 72. But who needs details when you have the Fed... Certain not retail, which has now pulled money out of domestic stock funds for 19 straight weeks. So for those wondering just who is orchestrating today's move higher, please let us know if you find out.”
The last sentence is one of the most important of the article.
What we know....
As of August 25th shorts were thick in the market, there's no edge for institutional money being on the same side as retail money. We know the move was set up about a week in advance, we knew it back then. We know that insiders are exiting the market in droves. There's a lot of reasons insiders may sell, but there's one reason they do not sell, they do not sell because they think the market is going higher.
So what happens here, institutions buy and hold to sell to who? We have the passing economic reports and most of you probably don't remember what was said two weeks ago, but I'm quite sure you recall the trend of GDP or Consumer Sentiment hitting 19 month lows. The underlying, big fundamentals of the market are bad, let me restate that BAD.
So I'm not going to speculate as to who, what, when where and why. I'm sticking with what I know right now and the reason... Many times in the past I've made calls that were a lot harder then this one, I just didn't have so many people listening to every update. I found the calls were difficult and many times made no sense, the market moved against the calls for awhile, a week or two, but eventually, objective data pulled through-the 5+ year trend in oil ended, the dollar had a huge rally with no apparent logical reason, the March 2009 rally WAS a bear market rally, the 2007 top WAS a top, and on and on.
You know the objective data, I post it nearly every night so there's no need to repeat it for a 5th time in the last week or a 25th time in the last 2 weeks.
I will say this though, emotions control traders actions, specifically fear and greed. If you see how long it took to build the bull market vs how long it took to tear it down, you'll understand that FEAR IS THE STRONGER OF THE TWO EMOTIONS. From fear and greed we get the mechanics of supply and demand. Before this bounce/rally started I told you specifically, “This is going to be scary”. So forget about how long it's been, think about when you were first scared and think of when you were so scared you were or are ready to shut down all of your trades. That's where they need to take this market. That's what I was telling you in August.
I want to show you a few examples and like I did before the rally got started to try to prepare you, I will once again ask you to forget the chart patterns the indicators, etc, put yourself in the moment, on both sides of the trade and feel the emotion of the chart. That's where you will find the true usefulness of a chart, when you can convert data into understanding of human emotion, because in the end that's what a chart shows us and that's why charts have worked for hundreds of years.
This chart is several months before the waterfall sell-off of 2008.
Back then we didn't have the same level of false breakouts we have now, but note the H&S top, it's small, but it lasted about 2 months so traders were definitely watching it. Bears were excited, more declines to come, bulls were hopeful that something would propel this market higher-H&S tops are not infallible, but they are pretty reliable.
On the day labeled “False breakout" the SPY moved +2.76%-a huge gain for an average. Today's gain seemed huge but it was only 1.54% in comparison, this gain was nearly double today's. Imagine the fear of the bears as that day took out the right shoulder possibly invalidating the H&S top. Imagine the bulls excitement that maybe, just maybe the Fed and the government were going to hold this together after all. However like today, volume went nowhere and look what happened the next day. This was a one day set up and the emotions must have been strong, contrast that to the September rally and think how much stronger the emotions are.
Above we have a rally that lasted nearly 2.5 months. At this point, the bear market rally that started in March of 2009 was showing some signs of cracking, but surely a 2.5 month rally may have been just the thing to suggest, “we are not done, this is not a bear market rally, this is the new bull market”. Then we saw 6 days of resistance, it looked like the S&P just wasn't going any higher, but then a breakout (at the blue arrow), a two day rally that gained 1.73% and broke resistance to make a new high. Imagine the emotions on both sides of that trade. The next day started a plunge that would take us down 16%.
In this last example, the SPY had an 8 day rally that gained nearly 10%. The last day of the rally at the blue arrow brought the SPY to a blue sky breakout, no resistance whatsoever to stop this from going higher. Then a simple bull flag pullback/continuation pattern played out (white arrow), everything was fine. At the yellow arrow price started to breakout of the bull flag, suggesting another 10% move was about to begin, the next day the market lost 3.64% and went on to decline from there. There were several days which held out hope that the blue sky trade may continue and I'm sure a lot of traders were on their knees begging their positions go higher.
The point is the market takes us to emotional and sentimental extremes and that is where we often find reversals and false moves.
We don't know what they'll look like, we don't know how or when they'll happen, but the best we can do is to go with the objective data and either have the courage to follow that data or succumb to our emotions.
From experience I will tell you that often the difference between following the probabilities into emotional extremes and giving in is a simple matter of our risk management. If we have robust risk management we know that even if the probabilities are wrong and the trade fails, we can survive to fight another day. When we don't have that security, the emotions start making the decisions for us.
Lastly tomorrow is Fed day, the entire timing of the breakout may very well turn out to be related to the Fed as we have seen time and time again leaks coming from the Fed. I think the meeting is a big puppet show. I think these guys speak a lot more often then the FOMC meeting schedule. So I believe the decisions have already been made, there's no other way to account for the 3C signals/tells that we have seen so often. Being what they say is going to have a profound effect on the market and being that most Fed officials were once part of the Wall Street machine, I think it's highly likely the information is leaked. That being said, it is the case more often then not that the initial reaction to the Fed is reversed with in a day or two.
Our Current 3C position:
SPY: the 1 minute chart followed the rally almost exactly, there weren't any late day divergences one way or another. However the more influential 5 minute chart, where I'd expect to see the start of a major reversal is in a negative divergence. In this case, 11:30 was the top for 3C leaving it in a negative divergence. The most important hourly chart was able to move up from it's leading negative divergence, but still remains below the level in which the rally started, giving us a substantial leading negative divergence.
DIA: The 1 min 3C on the DIA at the end of the day did go into a leading negative divergence starting at 3:53, from there it plunged in a straight, uninterrupted line down, more then any other time during the entire day. The 5 minute chart is in a relative negative divergence, not as severe as the 1 minute, but definitely a change in character as it had followed the price trend. Every other timeframe remains in a negative divergence with the hourly, much like the SPY, at levels not seen since the start of the rally making it a leading negative divergence. To remind you, this is the timeframe that can effect intermediate trends so it is a significant divergence.
QQQQ: As I said last night, the Q's have lead the rally up, I believe in a decline they will lead the decline. They put in the earliest and most severe 1 min negative divergence. I would normally interpret this as early weakness-even a gap down. The most accurate timeframe (each timeframe in each average accumulate and distribute differently, I always look for the most accurate in calling past reversals) is the 30 minute, it fell out of sync on 9/15 and has not recovered, it remains in a leading negative divergence.
IWM: This is probably the best gauge of the market. The 1 minute is in a leading negative divergence, suggesting early weakness. Typically each average has a version of 3C that works best as each is accumulated differently. This is the one that shows negative divergences in nearly every timeframe across all 4 versions.
As for AAPL, looking at 6 different timeframes in 3 versions of 3C (18 possibilities) 15 are negatively divergent. This appears to be worse then the change in character I noted last night.
That's it for now... Tomorrow will arrive soon enough. The question remains-False Breakout?
