Steady as She Goes

Breadth was positive once again yesterday and the Dow and S&P are perking up a little. We are also seeing money rotate into the small caps as speculators are testing the waters once again.

Note: We will take Friday off this week.

The 80/20 Smart Money Rule

Major indices lag tech, which is very strong here. Other areas that are strong are China, India, and energy and manufacturing.

The mixed market, along with headlines on sub prime and other recessionary fears has reduced bullish sentiment to an incredible 25% in this week's Walker Sentiment Report.

This very nearly fits the 20/80 rule, which says when 80% of the crowd is leaning one way, the 20% that stand in opposition are likely represented by smart money. With the crowd selling here and smart money is buying, which way do you think the market is going to go from here?

Buy of the Decade?

Every day we scan the market pundits to get an idea of where the market mood is at. Why so many are bearish when the charts look so good is a real head scratcher to be sure. Nevertheless, the overwhelming level of skiddishness out there combined with a Fed willing to prop up the market and charts that are just screaming buys here, we may be on the edge of a serious sustainable market move higher.

In fact, the stars are lined up to give us another 2003. Long time subscribers know what that means. We made more in 2003 than we have in the years since. Add this up and that means that we could make more in the next 6-12 months than we made in almost five years.

The near term market picture is a bit choppy, but it is likely that the bears are going to get stung again later this week as we get the end of the month buying spree.

Keep it Simple

Breadth was excellent yesterday as the market was able to follow through higher. Especially note worthy is the fact that the lagging small cap sector broke out on volume putting an exclamation point on the response to the Fed surprise liquidity injection.

Even better, the wall of worry remains firmly in tact as twice as many are pouring money into puts as they are calls.

This is a market that shouldn't be overanalyzed. Use the KISS principle here and keep it simple. Buy the dips and protect your gains. Rocket scientists are likely sitting on the sidelines afraid to buy this market.

Note: Since tomorrow is options expiration, we will take the day off. Use the volatility to get a good entry price on positions we recommended this week.

Breakout is the Word for the Day

Everyone had an opinion about what the Fed was going to do yesterday. Now, everyone is going to have an opinion about what the huge rate cut is going to mean to the market.

We will let the charts speak for themselves. Here's a weekly view of the S&P ETF SPY.



Note that the heavy sell off this summer was quickly contained; just as it was last February (the large down draft on the left of the chart. The price then formed a base of support for several months and now yesterday broke out big time.

This indicates to us that we are on the verge of a very big move higher. Add to that the fact that market sentiment levels, as of last week, were printing bearishness that hadn't been seen since the market bottom in 2002.

Unless the market spends the rest of the week selling off and the SPY closes back below its breakout point on Friday, we offer that we are looking at the beginning of a significant market move.

Given the shot in the arm the Fed gave the economy yesterday, we doubt it is going to whipsaw lower here. At least one would hope.

Looking for a Jumpy Market Today

The Fed meets today and the market is looking for a rate cut. The raging debate is how much of a cut will the Fed offer; 1/4 point or 1/2 point.

The $24,000 question is, how will the market react to whatever the Fed does? We don't know and neither does anyone else.

Stocks are set up with a bullish posture. Yesterday no one took a chance as volume was extremely low. Today there will surely be volatility, but we won't really know what the market thinks about the Fed decision for at least another day or two as the market needs time to hash it out.

Bullish Technical Set Up

The market continues to trade in a solid holding pattern in front of tomorrow's Fed meeting. Sentiment levels remain at the overly bearish stage and technically the charts are extremely bullish here.

This is the right combination for a strong move higher into the autumn months.

Of course this could all change if the market doesn't like the Fed's decision. But right now, let's focus on the hand we are dealt and the hand we are dealt is very bullish.

Ignore the Noise

Indices are in a bit of a holding pattern as the market awaits the Fed decision on interest rates. The ongoing debate now is not whether rates will be cut, but by how much. The Fed meets in 4 business days, but there is some potential that rates could be cut earlier.

Another Friday morning surprise? Perhaps Monday morning after an ugly Friday?

Meanwhile, everyone is trying to draw conclusions about what to make from the day-to-day trading action. We doubt very much that anything meaningful can be drawn here. The QQQQ is trading just over its inverted head and shoulders (H&S) pattern, while the Dow, and S&P have yet to break the necklines of their own H&S patterns.

As noted last week, anything that goes on below the neckline area is just market noise and is insignificant in determining what to expect next.

What is most interesting, however, is the fact that so many tech and energy stocks are breaking out to fresh 52-week highs. It's probably best to just forget what the indices and the Fed are doing and just focus on what is working right now.

Right now, there are a group of stocks heading higher, so buy the dips, keep stops tight and don't pay attention to the market noise.

Tech Wall of Worry Building Brick-by-Brick

Despite recent market weakness, the tech sector has continued to climb a wall of worry and has healed its damaged technical conditions.

Dips in this sector are now excellent buying opportunities, but entry points matter in this market that has been so rough on price chasers.

Buyer Strike

Sellers didn't get their follow through yesterday. Even so, the buying was weak and not much can be made of it.

Technical conditions are eroding and the second shoe may in fact be ready to drop. The problem here is that the Fed needs to be added to the equation. All things being equal, we would say this market is in for a hurtin'. The Fed may have something to say about that.

This is why the market is such a mess here. No one wants to bet against the Fed. But even so, the buyers are on strike.

QQQQ $48 is the Tell to Watch For

On Friday the market behaved as if the sky were falling after the jobs report came in with a shocking loss. If the report is correct, and considering the revisions that usually follow these reports there is no guarantee that it is, then the economy is already in a recession.

We frankly don't know, and so it seems neither does the market. The market has been bouncing around in confusion for weeks now. It's very hard to take Friday's downturn seriously considering how many times the market has whipsawed recently.

Currently the S&P and Dow are still trading in inverted head and shoulders patterns. If the prices can break the neckline of these patterns it would send a very bullish message. The NASDAQ has already broken out of this pattern and on Friday the price merely pulled back to test support.

The tell here will be the NASDAQ. If the NASDAQ fails here, then it will be important to get short, because it would signal that the second shoe may be ready to drop.

Friday's trading was just market noise. Nothing important can be derived from it. Right now we need to watch the NASDAQ. If the QQQQ goes back under $48 and doesn't recover before the close, then look out below.

Limbo

We should probably start an S&P watch, because the market pretty much hangs on the balance of the inverted head and shoulders pattern it trades in.

As you can see from the SPY chart below, a break above $150 would break the neckline of the pattern and most likely project the beginning of a strong new multi-month trend higher. You can also see, however, that the price can pull back to $144 and still remain within the pattern.

As such, this market is in limbo until this situation resolves.

Momentum Lacking

Yesterday's pull back from near term overbought levels was predictable. What is not very predictable is what the market really wants to do next. It may be a few more days before it really shows its hand.

Europe and Asia are up as we write this, so yesterday's losses are likely to be regained once again today. We aren't willing to go out on a limb any further than this at this point.

Tech Threatens Old Highs

Volume hasn't been strong recently, but a quick examination of what followed the last few market corrections will show that volume was relatively light at the beginning of the new trends. This is likely due to the fact that doubters persist and refuse to get on board the fresh trend until it becomes readily apparent that indeed the market is in rally mode.

With the tech sector leading the way higher and with the financials continue to show strong accumulation, it's just a matter of time before the S&P breaks the neckline of its inverted head and shoulders pattern and marches back up the hill with tech.

Financials Continue to See Accumulation

Volume should start to pick up this week now that the professional money managers are returning from vacation. The inverted head and shoulders pattern on the S&P has not yet confirmed, but prices are ripe for a wall-of-worry climb if that's what the pros have in mind.

With the NASDAQ taking the lead and moving right back into its broken uptrend last week it's hard to make a strong bearish case on the technicals. In fact, the financial sector, which has been choppy, continues to see strong money flow indicating it remains under accumulation.

This makes sense since the sector collapsed on the unknowns. Now that it is known that the Fed is willing to step in and bolster it, and especially now that Bush has offered up a plan to bail out the banks who were facing a sub prime crisis, it stands to reason that prices will once again seek their averages.

Head and Shoulders Bottom?

The S&P, despite the violent downside moves over the past few weeks, appears to be trading in an inverted head and shoulders pattern.

Indeed, should the market respond favorably to the 10 a.m. Bernanke speech, the neckline of this head and shoulders pattern could be broken to the upside, triggering a strong weekly buy signal.

They say don't fight the Fed and that sentiment seems to be what is going on here over the past two days as buyers have stepped up to the plate. Despite Tuesday's ugly sell off, the market has been marching straight back up the hill, carving out the right shoulder and placing the market in a position to start a fresh leg higher in the secular bull market.

No one knows for sure what Bernanke is going to say today, and no one knows for sure how the market is going to respond. Bulls seem to have a big advantage going into the game today though. Let's see if their advantage remains after today's close.

Things Just Get Silly

Yesterday it was clear from a technical standpoint that the market had rolled over. Major indices had, and still do, strong bearish money flow divergences. Indices had made a series of lower lows and the rollover was one more lower high confirming the downtrend. The only thing missing was volume. But since this is late August it's hard to expect much. Sr. traders are on vacation now after all.

Yesterday's reversal was quite the shocker then. It appears as if this market is entirely random; ran at the whims of the Jr. traders playing with their programs.

It's unclear now who has the upper hand, bulls or bears. Under normal circumstances we would continue to give the nod to the bears, but since the market refuses to play right it's probably next to impossible to guess.

Indices are back up at major overhead resistance. The QQQQ is back kissing its broken trend and the SPY is trading up against its downsloping trend line. Technically the market should turn lower once again. But if the market decides to react positively to the next to sure fact that the Fed is going to lower rates in September, you can throw the technicals out the window because the market is going to do what it's going to do despite what it "should" do.

Market Rolls Over into Intermediate Downtrend

Market technicals spoke loud and clear Monday. Indeed, yesterday the market folded on itself, entering yet another intermediate downtrend. br>
Major indices moved up on light volume last week merely to tag their broken 50-day averages. With yesterday's roll over, a test of August lows is close to a certainty. br>
At this time we will avoid making further predictions about where this market is heading. However, if August lows are penetrated, the broad market will then necessarily be considered to be in a primary downtrend. Whether this will occur or not is hard to say. But right now there is a disconnect in the market as high levels of uncertainty have emerged due to the credit crunch and concern that the Fed is more interested in fighting inflation than keeping the economy out of a recession. br>
When institutional money is uncertain, they sell.

Rally Came on Decreasing Volume

Yesterday we wrote: "Selling short at these levels does not seem offer a great deal of potential."

We need to back track on that statement today.

Yesterday's market breadth was hugely bearish and the number of stocks tagging their 50-day averages from below on rapidly decreasing volume is a strong warning sign that the market's sell off that started late last month is threatening to reassert itself.

We may be second-guessing ourselves here, but the technical conditions of this market are clear. They are signaling a downturn from near current levels.

Shorting this Rally Just Doesn't Feel Right

Last week indices pulled up to resistance areas on light volume. On Friday the S&P, Dow, and NASDAQ all pulled up to their 50-day averages on less than strong volume.

This is a classic short set up.

Even so, something just doesn't quite seem right about shorting here. Firstly, it's the end of the month and typically the end of the month experiences strength due to increased liquidity in the market.

But more than that: Bank stocks continue to see leading money flow divergences, indicating that the sector that leads the market is poised to move higher. Then, if you drill back to the weekly charts, all three averages are exhibiting weekly buy signals.

Finally, and this one is most striking to us, is the fact that none of the ultrashort ETFs (exchange traded funds that move up when the indices move down) look very attractive to buyers here. Sometimes it's easier to see the direction a stock intends to go by flipping the chart over. Looking at the DXD and QID (ultrashorts for the Dow and the NASDAQ 100), it is plain to see that these averages are not good buys at this point and as such, their underlying indices are not good sells.



The bottom line: After last week's run, indices are probably due for some type of pullback or consolidation. We would certainly not buy at these levels. Selling short at these levels does not seem offer a great deal of potential either though. Dips from here are probably buying opportunities.

If we had to make a prediction, we would say that either indices are going to power higher above resistance here, and then pull back and regroup for a buying opportunity. Or, they will suffer a minor pullback, which will then be a buying opportunity.

But let's wait and see.