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Building a Bottom: A Three-Part Process

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Stocks can't reach higher levels unless foundation is complete.

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Another False Down?

There's a most interesting and useful article published in Forbes today by "Dr. Doom" himself - Nouriel Roubini. In the article, Mr. Roubini raises several excellent points, including his bear-market rally conclusion. It could be argued, as Mr. Roubini and others have, that stocks -- which have been on the upswing since early March -- are doing little more than producing a counter rally to the firmly entrenched bear. This argument has merit, provided stocks fail to complete their 3-part process of building a bottom from which higher levels can be achieved.

The first components of the bottoming process were described 3 weeks ago in my article, Why Divergences Work. As noted then, "headline indicators making new lows weren't being confirmed by more than a few other important indices..." Also noted in my March 12 article, what set the stage for the catalyst was the fact that "... the markets were primed for any good news," with the catalyst being the positive Citigroup (C) news that their business over the first 2 months was doing just fine. With the setup in place, the stocks reacted to the catalyst quite well with the requisite power move "when both the advance/decline on the NYSE and its advance/decline volume met or exceeded a 10 to 1 ratio." To help seal the deal, stocks then met yet another bottoming process requirement, in which "sustainability," which must be met with "(1) no big retrenchment" and "(2) another big up-day." As the following chart shows, that was accomplished the very day of my article (March 12).



So far, so good. But is that a market bottom? Or is Roubini right when he says "…we've had 6 bear-market rallies, and at the beginning of each one of these suckers' rallies the delusional perma-bulls repeated that this was the beginning of a bull-market rally. And for 6 times these perma-bulls were totally wrong as the rally fizzled and new lows were reached. And for 6 times I correctly pointed out that these were bear market rallies"?

At this moment, the answer lies in whether stocks take that final step and produce what's needed to complete the market bottoming process: the upside breakout.
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No positions in stocks mentioned.
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