Securities Research Services

Thursday, January 31, 2008

Market Momentum Trumps Rate Cut

The Fed is tripping all over itself to lower rates. It has now dropped rates 1.25% in just 8 days. This is a historic number. Add to this a sentiment reading that is increasingly over bearish, and you would think that the trade set up would be bullish.

You would think.

The charts tell another story though. The market's downtrend pulled back on light volume in anticipation of yesterday's rate cut in a classic bear market pullback pattern. Then, yesterday's rate cut was met with a bull trap spike that trapped eager bulls in a mid day, high volume reversal. A classic failure of the 1st thrust pullback, which projects more downside to come.

It could be that the rate cut worked and the economy will pull itself together. The market may in fact not be reacting directly to rate cuts and sentiment here at all.

We think that the most apt metaphor for the market is that of an oil tanker. Oil tankers, when full, must make slow turns that cover several nautical miles before they can reverse their course. If the captain were to attempt a sharper turn, the momentum would cause the tanker to break apart.

The market is like this. Once the momentum gets going to the downside, it takes a great deal of time to change the direction of the move. Momentum is heavy after a high volume failure like the market just experienced is going to take some time to release its energy so that prices can once again turn higher.

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