Minyanville's T3 Daily Recap: Extreme Volatility a Nation's Nightmare, But a Trader's Paradise

By Scott Redler  AUG 09, 2011 5:30 PM

Watching how we bounce over the next week or so will be an important indicator of future action.


Back on July 27th when the S&P broke its 50-day moving average, I stated we had enough technical damage to go to cash and sell macro longs. On July 28th Investor’s Business Daily put the Big Picture in correction mode.

I started a series of posts highlighting the massive head and shoulders topping pattern, a very bearish set-up with a measured move down to the 1150 area. This was before we broke the 1250-1270 neckline. In the blog post from CNBC's Patti Domm, "Scary 'Head and Shoulders' Pattern Emerges in S&P Chart," I shared more commentary on the pattern, and the article was passed around the world on Drudge Report.

The NYSE was 20% off the highs after yesterday’s close. The action has been fierce, unforgiving, and has taken no prisoners! Yesterday there were a lot of traders trying to buy the carnage for much of the day, and when people started throwing in the towel, that's when I thought a bounce could be imminent. I didn't expect the trade to be so volatile today, but the post-Fed announcement capitulation gave an even better opportunity to test longs.

However, the macro trade and market complexion has changed a ton. After breaking my 1255 S&P line in the sand, I’ve taken my year target down to 1275-1300 (which would be optimistic at this point to most).

Watching how we bounce over the next week or so will be an important indicator of future action. It will give us clues to whether this was over-emotional and exacerbated by margin calls, or whether it was "real". The wildcard is whether this action has done irreparable damage to the psychology of the market, fresh off 2008 wounds.

Technical Levels to Watch

1180 will be a very important level to close above on a daily basis. 1225 is the next zone. 1250 will be the huge line in sand. There are new levels of support: a very small one at 1102-1105 (this was last night’s support area), then a bigger one from 1075-1085. Finally, there is a major, major zone at 1040-1050, which is the 9/01 igniting bar that started the move last September after Jackson Hole.

Some Causes of This Decline

One cause was the fight in Washington and the mud that politicians dragged the American public through on the world stage in late July. It was embarrassing and showed how ineffective our government has become. I agree with the S&P downgrade to AA+. They made a tough choice, but they're supposed to be objective judges of credit worthiness. That will hopefully lead to tougher decisions upcoming by our leaders. I wanted to see a big deal with over 4 trillion plus cuts and some tax modifications. We didn’t see any of that. Politicians were too caught up in how they voted for the record vs. the greater good of the American people.

QE2 gains that took over a year to put in place were wiped out in several days. This shows you what can happen when markets are artificially propped up. We need more private business and less government with less spending. European problems are going from denial to reality, and it’s very similar to the path of our banking crisis. Strong banks bought the weak banks – and it weakened all of them. This is happening right now as the PIIGS are relying on the strong countries like Germany and France to prop them up. Eventually the weaker ones will likely have to default, nuking the entire system.

There are structural problems around the world that will need years to sort through. The S&P’s are in a 12 year range, and I continue to believe that active trading, using a tier system and strict discipline, is the best way to protect your capital and potentially profit in today's broken markets. Such an approach gives you the ability to sell longs early when you see a pattern like a head and shoulders.

I still believe that during corrections, cash is king. While many had a great day buying capitulation, waiting for a better environment to buy the best stocks is more my cup of tea.

Market participants that need to park some money should look at mega cap tech names with clean balance sheets and yield, such as Microsoft (MSFT) and Intel (INTC).

I still feel buying the best high growth names at the right time when the trend is in your favor is key. Apple (AAPL) just held the 50-day moving average. Amazon (AMZN) is still holding above its 200-day. VMWare (VMW) held the $80 area. Caterpillar (CAT) is in the $80’s. Colgate (CL) held the 200-day moving average. These are all the best companies in their sectors and showed some relative strength vs. the indices. This is what you look for in times like this.

Lower oil should help. I was looking for oil to get to $75 and it hit $76 last night. If we see oil in the 60’s, It will help the economy. Every $0.10 gas falls is a billion in consumers' pockets per month to spend.

We will get through this, but you need to wait for a new rally to set up before macro money should be put to work. Right now we're in a traders' market.

Today the Fed basically said we are going to be in a slow growth environment for 2 years or so. They will take a bottoms up approach so the 30-year can stay low. That is great for housing and the real economy, and also might put pressure on commodities -- which could put more in consumers' hands. This will make stock picking that much more important, since these indices might act more like Japan and need more time before making a big move.

Today was a classic technical reversal (or RedDog Reversal, if you will) which can be considered Day 1 of a new attempted bounce. We will now need to see follow through on Days 4 to 7 to put a new attempted rally in place.

Positions in SPY, QQQ, AAPL, AMZN, BIDU

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