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Invest What You See

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A few mediocre earnings reports and a disappointing consumer sentiment survey knocked the stuffing out of the market on Friday. It is easy to see why that level was going to be trouble if you look at the horizontal volume bars on the left side of the chart.

You’ll notice the overpowering green portion of the volume bar on the left side of the chart right at Friday’s turning point – this represents a lot of previous buyers at that level who heard the news and decided to cut and run. In other words, they exhibited normal behavior – they rode their investment down during the swoon, got back to break-even, heard the mediocre earnings news and bad consumer sentiment, and sold in order to get their money back. Nothing surprising there.

Technically, however, there are some worrisome aspects to this market, in spite of the early positive earnings reports. I’ve drawn a number of lines on the chart above that I’d like to discuss, but primarily the two orange line have me concerned.

You’ll notice the orange lines are indicative of a series of lower highs and lower lows on the index. This generally indicates that the bears are winning the battle and overpowering the bulls in each standoff. Additionally, this is confirmed by the relative strength indicator dipping below 50 and the MACD indicator not being able to move above 0 in the recent six-day rally.

I’ve also drawn a series of blue retracement lines that mark the late June to early July swoon in the index. Its is not uncommon and in fact can be healthy for the index to recover from a low to a high and then pull back 1/2 way or so before it makes the next move higher. You can see that we moved more than half way back, so my best guess – until we see Monday’s action – is that we’ll move back to the 1055 level before news of positive earnings turns us higher again and we move up toward the 1140 level.

And finally, the diagonal purple line at 1040 is really the last level of support if we don’t get positive earnings surprises fairly soon and the 1055 support level doesn’t hold. You’ll also notice that the volume bar on the left at 1040 is all red meaning we have only previous sellers at that level. That makes 1040, along with the other instances where the market reversed at 1040, a fairly strong support level.

If the market backs up to 1055 and especially to 1040, we’ll be putting some cash into the market that we continue to hold in client accounts in anticipation that later earnings announcements will surprise on the upside.

Remember to invest what you see based upon what is happening in the market. And I see a temporary retracement based upon a lumpy economic recovery that is showing up in uneven earnings growth (not so hot in the financials but much better in export driven industrials), but that will ultimately turn higher as other multinational companies report (you can see it in the graphs of the TED Spread and the Harpex Shipping Index from an earlier blog post that business activity in Europe should lead to positive earnings surprises for our multinationals).

We’ll continue to watch the charts for signs of investor behavior that we can use to guide the timing of our actions. Be sure to return to the blog to see what we are doing and the logic behind it: there’s so much confusion and we are here to help.

Mark