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Don't Ignore the Market


The simple fact is that the market is acting well in the extreme short term and while it doesn't mean we're out of the woods we must stand up and take notice.


We find ourselves at an inflection point where just about every piece of news imaginable indicates that our financial markets should be falling lower. The mortgage mess is just starting to heat up while the credit crunch is in full swing. Despite some improved retail numbers the general consensus is that the consumer is strapped, gas prices are high and inflation for everything except what the government counts in their basket of goods is ramping. Yet despite all this the market is actually starting to rise.

Most traders will clearly be scratching their head over this dislocation while others skip the scratching and move straight to pounding, choosing to fight the tape and its ascent. While it is always fun to debate and form one's own opinion regarding the macro outlook, the simple fact is that the market is acting well in the extreme short term and while it doesn't mean we're out of the woods we must stand up and take notice or at least give it the respect it deserves.

Every market that goes higher starts from some point and while there is great danger in being overly anticipatory, it is he who identifies the move first that will typically reap the most rewards. It is during this early time when the crowd has not yet embraced the move, rather they are fighting the trend and standing stubbornly aside. Ironically, as the ascent continues, these individuals become more and more optimistic and the crowd mentality slowly shifts. Ultimately the pendulum shifts in completely the opposite direction and ironically is about the time when positive news flow starts to creep in and actually supports higher stock prices. Of course, we all know that it is also around this time when you have to start becoming more and more cautious and slowly creep out of the optimistic mentality, moving towards the exit.

The problem most traders face, however, is not just how to identify an early move but how to play it. In my opinion, it is during these early stages that time frames become incredibly important. Most would believe that during the early possibility of a turn, the short term time frame dominates as hyperactive speculators jump in and out in a matter of minutes not risking any more than they have to and capturing as much gain as possible. This activity breeds volatility, which is why a tape acts so erratic at key junctions such as the where we are now. In one sense that opinion is correct but I believe this early playground is wide open and actually may present more opportunity for those with a longer time frame.

Despite this volatile short-term activity, it is also around this time when the new winners start to make themselves known and present perfect opportunities for the longer term trader who can start to slowly wade back in with a much longer leash and a smaller investment size. They are typically stocks that are just starting to show improved relative strength despite after having weathered the recent storm relatively well. They are typically also those that are the most fundamentally sounds as traders seek to move back into their favorites that they sold only weeks before during periods of high emotion and fear.

The individual seeking a longer time frame can easily start to move slowly back into these areas with a long leash, giving themselves the most opportunity for reward while keeping their risk in-line by holding a less than normal position size. Should the market not be turning and these stocks falter again, stops will be taken, but if the market does move steadily higher, the longer term trader will be well on his way to building back solid inventory in order to fully participate with the next move.

At this very moment the market has been showing signs of resiliency and is improving. The technical conditions remain extremely precarious but there are also subtle signs of improvement and early speculators are starting to step back in and scoop up inventory. It may simply be another push towards the new longer term trend line resistance, or it may be a move back towards new highs. There isn't a soul out there who knows for sure but if you find yourself already having formed an opinion on what will happen, whether you believe it or not, you are actually predicting the future.

At this juncture especially, we must remain flexible, open-minded, and with both ears listen to the charts.

For the short term traders there is clearly opportunity shaping up in many higher beta China stocks such as Aluminum Corporation of China (ACH), China Southern Airlines (ZNH) or Actions Semiconductor (ACTS) while the longer term trader may want to consider wading back into some Intuitive Surgical (ISRG), Mastercard (MA) or even some Google (GOOG). Charts are starting to talk: We just have to listen.
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