Last Minute Reprieve . . .

The future by its very nature is unknowable. A truism, certainly, but its why we keep questioning our forecasts. We constantly ask ourselves how we can determine, sooner rather than later, when a forecast may be wrong.

Last week, we noted the importance of a high volume follow through day to last Monday’s (8/16) rally. We view big volume as a sign of broad institutional participation, a strong level of conviction in the fundamentals, and a degree of confidence in the near term. Low volume implies no institutional buying, little conviction and no confidence.

Failing to see that volume spike would serve to confirm that last Monday’s rally was an over-sold bounce. Once that over-sold condition gets worked off, the argument goes, the market should resume its downward trend.

Today is the ninth day after that rally. We should have seen that big follow thru day by now. Last week’s rally is looking more and more like a one-day wonder – at least according to guidelines we laid out. But what might make this view – technically sound though it may be – wrong? Are we getting prematurely bearish here?

The GOP convention is in town next week, followed by the long holiday weekend. Instead of insisting a sell off is imminent – which is what the lack of confirmation suggests – I propose the following: Let’s violate our technical rules! Let’s give the markets 2 more weeks. (We’re compassionate conservatives!) Push the deadline for the confirmation date back to the week after Labor Day (September 10th). That provides time to see if the institutional romance for stocks is rekindled. And as long as there is no terror event during the RNC, we may even see a low-volume drift-up next week.

Lacking any sort of high volume confirmation day between now and September 10th – or some other significant change in the internals – this market is then damned to revisiting its 2004 lows. The timeline is most likely between now and Halloween. That sell off would send sentiment measures to extreme levels, clearing the decks for a year ending rally.

Consider this “extension” a last minute reprieve from the Governor. We now reset our clocks two weeks forward to see if that volume confirmation day bothers to show up. This also presumes that Oil behaves, no major pre-announcements rear their ugly heads, Iraq quiets down, that the economic data continues to support our thesis of a modest recovery, and that the Fed doesn’t startle the markets.

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  1. David commented on Aug 27

    The literature that I recall is that the correlation of the DOW to NYC weather was signficicant thru the 60’s – i.e. enough of the market’s movers, shakers and machers were in NYC that the sunny days mattered.
    That correlation has BROKEN DOWN. NYC’s local weather does NOT matter.
    Your 2 week extension is over-generous and not supported by data (not that tech analysis is ALWAYS supported by data).
    Anyway, keep up the gd work.

  2. anon commented on Aug 27

    Funny thing about that MACD. Take your chart and superimpose it over the NASDAQ, and the first thing that jumps out at you is that the last two trips down to 20 didn’t spell disaster.

    I still think we are going down, but based on the last 6 months of history, the MACD isn’t necessarily telling you anything useful.

    In other news, I got back from the beach last week, and I finished Mandelbrot’s book. He does a much better job convincing me that there is serious dry rot in the pillars of modern finance theory (Price changes aren’t independent of prior price chages, returns don’t observe a bell curve, and price changes aren’t smooth) than he does of convincing me that fractal geometry can be usefully applied to make money. To be fair, he only theorizes that fractal math might someday be useful; nowhere does he claim that it is now. His stuff on power laws is very worth reading. Clearly the best part of the book. (Maybe because the math is easier).

  3. Barry Ritholtz commented on Aug 27

    I utterly loved the book Chaos by James Gleick.

    Its the most applicable work of physics to the markets I’ve ever come across. The phrase, “Non-linear, dynamic, sensitive to initial conditions” sticks in my head from the book –and thats directly a key meme about markets random actions.

    It was somewhat challenging (think Monty Pythons “My Brain Hurts” , but definitely worth it. Highly recomended. Hardcover at Amazon is $5, paperback about $2.

    James Gleick: Chaos: Making a New Science

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