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Decision Time

The SPY is now at a price where the market needs to decide one way or the other where things go next. The price has been squeezed into a corner here and we will either see soon see a breakout or a decline that could lead to a retest of November's lows.

Our thoughts here, and they're just our thoughts, is that we will see the minor uptrend break and prices will move back to November lows and perhaps slightly beyond.

Despite the interest rate cut this week, prices have moved quite a way off their November lows and all the bottom callers are back as the crowd turns semi bullish.

Moreover, V-shape recoveries don't often survive in bear markets to which we remain.

The market was showing some good bullish divergences of late but it has failed to follow through with volume buying and as such we feel that the market must fall on its own weight once again. We wouldn't put money down either way until there is confirmation, but be prepared with a list of stocks to short should it break here as it could break fast.

Below are a couple of potential scenarios that could unfold from here:

When Will The Market Bottom?

That's the question that is on everyone's mind right now. The answer is, no one knows.

That doesn't mean that there won't be clues however.

We have put together an report that explains how to recognize a market bottom and how to trade it. Get in for the next bull market well before the crowd by downloading this report.

Rising Wedge

Yesterday the market failed to follow through on the buying that incurred following Tuesday's huge rate cut. As such, a trend has not yet been established and prices remain vulnerable to intraday reversals.

The SPY is trading in a rising wedge pattern. This pattern is quite bearish and unless we see some large volume up days we suspect that this pattern will resolve in a retest of November's lows.

We aren't comfortable shorting the market yet due to the recent bullish money flow divergences but unless buyers step up here this market is just going to fall on its own weight once again.

A Trend May Be Developing

The market has been range bound for the past two months. This has not offered position or swing traders much to work with as prices have stopped and reversed on an almost daily basis.

Yesterday stocks responded well to the Fed rate cut and the major indexes all closed above their 50-day averages for the first time since August.

What is different between the August breakout and this month's breakout are two important details. First, volume has been very heavy over recent weeks as a base of support was being built. Second, breadth was excellent yesterday as the vast majority of stocks were up on volume increases.

The trend is as yet unproven but if we can see a base of support establish above the 50-day averages then the rally potential into year's end could offer some excellent swing trades.

We still think that SPY $700 needs to be tested before any longer term rallies can develop but that doesn't mean that this rally can't be traded for a profit if it can first confirm.

Sentiment

Friday the market once again bought the weakness. This is bullish. Near term, however, sentiment readings are not favorable to the bulls. Long term sentiment has moved below neutral into the slightly bullish category. This does not favor a lasting move and may be a reason to short strength if we get it this week.

News Driven Market Demands Adjustments

Problem:

There are two important factors about the current market environment that play an important role into how we approach our trading strategies going forward:

A) The first factor that requires careful consideration is the fact that buyers have been fairly aggressive about buying dips. We have now seen the market hammered with bad news for weeks. This tells us that bad news is likely priced in and that a slightly bullish bias exists at this current time. That said, this is probably not a market that is ready to rally significantly; rather it's a market that is fighting off efforts to take it lower. This is an important distinction.

B) Second, on a daily basis this market is news driven and range bound.

The second factor is probably the most important factor to consider because it is this that has been affecting our trading results and it is to this that we must adjust our strategies to meet the current challenges that we are faced with in this unusual market.

The lack of a trend and the extreme volatility driven by daily news events has caused trade set ups to appear good and solid on one day only to evaporate the following day. Agilent Technologies (Ticker Symbol: A) is a great example. Two days of heavy volume and a tight range indicated that it was ready to break higher. When the market gapped down Friday the set up that drew us in eroded and A gapped down with the market.

Solution:

The solution to this is to adjust our strategies to the market conditions that exist. That means we must anticipate gaps and weak opens on some days. Likewise, because we have good evidence that dip buyers are aggressive even if follow through buying is not, we need to look for ultimate support on the strongest stocks and wait for the price to come back to us.

In other words, forget about following strength in this market. We need to buy weakness in strong stocks. This means we need to be patient. Much more patient than we have been; waiting for the weak open like the one last Friday before buying in.

Another Weak Friday Open

Stocks are set for another sharp drop for the second Friday in a row. Last Friday buyers bought the bad news. Will they do so again today?

Base Breakout

The market formed a base after trading in a range over the past 6 or so weeks. On Friday buyers bought the bad employment report and on Monday stocks broke out of the base.

All this is quite bullish for the intermediate term outlook. Nevertheless, volatility remains at historic highs so chasing prices is not advisable. At best this provides the all clear sign to buy the dips as long as position sizes are kept low and stops are used.