Tuesday, May 27, 2008

Equity Market Comment - 5/27/2008

The 30 minute chart of the S&P 500 cash index made a nice positive divergence today with prices moving to lower lows and the stochastics not confirming the low. This is typically a bullish development, but notice the last two price bars of the day and you will notice a bar with the line straight through equal on both sides. This is known as a Doji pattern and shows some serious apprehension near the end of the day about the higher prices we achieved earlier in the trading day. The real clincher to me is that we saw not just one Doji, but two in a row and this being late in the day when the institutional players are the market movers.

This coupled with the 30 minute stochastics working back into overbought territory tells me that the first leg down is not complete and we should see another push lower before we can expect anything substantial to trade to the upside.

Of course this is simply the short term outlook. The intermediate term remains in the defensive mode with any rallies to be used to sell or hedge into. We are entering into June, which has a very bad record for Big Capitalized stocks so this brings caution as well.

I remain very defensive with a 45% allocation to equities and some option hedges that bring the actual allocation down to 35% so it is safe to say that I remain very very cautious in here. The last time I had such a low allocation to stocks was in 2000 about 2 months before the tech meltdown.

Before I begin to sound to negative, there is some good news and that is the housing market looks to me like it has found a bottom and in all liklihood the worst should be over. Not that it was without its casualties as this correction saw the average home lose close to 30% of its value and in some pockets of the country where prices were grossly overvalued the values saw a 50% decrease.

Now before we all cry in our milk over this supposed collapse in housing prices, we need to call this correction in prices exactly what it is and that is a normal 25 year cycle correction in prices. The last major correction we had in housing prices was way back in 1983 to 1984, so this move in values was long overdue. It seems to be very difficult for some people to swallow as they had become accustomed to their home values going up 10-15% per year and now they see their values sitting just about right where they were when the properties were purchased. While it may be a bit painful for some and especially those who leveraged themselves to the hilt against their inflated home prices, take refuge in the fact that this is a normal correction in an ongoing bull market in real estate and these values will once again begin climbing.

The NASDAQ was by far the stellar performer today with a nice bounce off the lower channel line.

This movement might be the first sign of the start of a counter trend rally, before we get another leg down, but the jury is still out on this one. We need more than simply a bounce off the lower channel line to warrant a change in our short term trading strategy. A nice confirmation would be for the stochastics on the top of the chart to turn up and cross, but I don't think it quite has the strength to accomplish this just yet. This would mean that there will be one more push lower into new low ground for this move before we can muster a decent rally to retrace some of the downside we have had.

I had anticipated a low to come into place mid day Thursday and as of now, there is nothing to steer me away from this scenario, so look for lower prices to continue tomorrow.

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