Trading Thoughts

Some Thoughts About the Current Market

I don't intend to either lecture or patronize. Sometimes, though, I like to set down my thoughts as a way of better understanding them myself and maybe providing something of use to others. If what I write seems either too simplistic or completely irrelevant, so be it, but I believe it is a useful exercise.

As a general matter, we need two things to trade: 1) liquidity; and 2) volatility. The E-minis always have enough liquidity to trade, even at night (though the evenings can become too dull to do anything sometimes). This is probably a function of the robots as much as anything else, but so be it. That's why the E-minis are many futures traders' favorite battleground.

That leaves volatility. The E-minis swing wildly between periods of lots of volatility, and other periods of fairly little volatility. Lunchtime and evenings usually have the lowest volatility, the opening and closing hours of the cash market the most. A nice in-between period is when the Europeans start trading around midnight Eastern time and the subsequent few hours, as they perk things up without many of the overblown pyrotechnics of the cash market.

In my opinion, and I am probably in the distinct minority on this, the periods of lower volatility are the best times for the little guy, the average trader at home, to trade. Those times almost certainly are the best times to learn how to trade. If you are wrong on direction, you'll have plenty of time to think about it and pull the trigger. During the high-volatility periods, if you're wrong, you often don't get a lot of time to think about what you should do before the losses start mounting up fast and furious. Of course, to be fair, you also can see your profits skyrocket faster during those periods, too, so a your preference will depend on your degree of risk-aversion. The greatest danger of trading at night is boredom, but you can almost always find a trade.

Lately, we have seen a surge in volatility. The daily chart is deceptive, because it shows a nice, smooth uptrend, but the intraday moves are something else. I don't have any figures on this, but it seems pretty obvious from watching the market closely that moves are sharper and changing direction with more fierceness than is usually the case. Erratic price swings, abrupt directional movements that end on cue and then suddenly become rangebound before the next jarring move are typical. Perhaps it simply is the summertime effect. The basic technical tools of trendlines and moving averages, though, remain as useful as ever.

Because of this volatility, don't feel bad if you are leaving money on the table because you aren't catching every move that in hindsight can appear obvious. It's easy to be decisive and sure of yourself and wind up poorer. This volatility is tricky, and then for good measure they will throw in a wild card (flash crash, ordinary piece of economic data that inexplicably sets off a firestorm of buying, etc.) to mix things up further. Even the most experienced traders are confused by this market at times. If you aren't profitable in this rising market, though, give some serious thought to what you are doing, and why. The reverse also is true: don't fall into the trap of thinking that you are God's Gift to Trading simply because you are having success in a constantly rising market. Keep honing your skills.

In any event, it pays to think carefully about your style of trading. If you are having difficulty, consider simply buying or selling and letting it ride, changing sides only when you clearly see yourself being wrong. Or, if you are experienced enough to do it, grab little chunks here and there and limit your risk, patiently building up your account.

The things you don't want to do are: a) trying to react to every little cross-current; and b) fighting the market. Either type of trading is sheer poison. The more experienced you get or are, the more you realize that the key to successful trading is realizing that sometimes you should wait out the moves against you, but other times you absolutely need to close the position and move on. Knowing which applies in a given situation and pulling the trigger based on your own set of rules without second thoughts makes all the difference between being successful and blowing up your account. What you buy and even when you buy are distinctly less important. Also, in general during volatile times, smaller positions are wiser than larger ones, and that applies to everyone.

Following these simple guidelines may wind up saving your account as this market evolves.

SPY June 7 2013

SPY June 7 2013

A continuation day leaves us right back in the middle of the uptrend channel. That everyone is watching this channel makes it a "Big Deal" when it gets violated. The normal breakout of the descending triangle to the downside ran into the immovable object of the bottom trendline - and, you know, we can't have that violated! That would be, I don't know, sacrilegious or something.

When the channel finally is violated with a confirmed breakdown, you can expect some wild selling, because that won't happen so long as people believe in QE. For now, we are in the same status quo as we have been in all year, now that we have the obligatory flush - also standard for this year - out of the way. Really, the only thing different this time was the fact that the upper channel trendline was violated first, making the standard drawdown to the bottom of the channel seem like a bigger swing than usual.

Bottom line, as we said yesterday, we still are looking for new highs, and blindly shorting this market except in special situations and for limited time periods is likely to hurt you. Am thinking 1700 eventually will be a minor barrier to be brushed aside as long as the Fed doesn't mess with QE and everything else stays relatively as it is. Summers are notorious for volatility, though, so we have to pay close attention.

SPY June 6 2013

SPY June 6 2013

A textbook day for day traders. Everybody was waiting for and watching the 1600 level on the S&P E-mini futures. When it appeared early on that the market might ignore that and simply move higher, abruptly the futures reversed and went screaming down to take out that level and overshoot by a point and a half.

That was the decisive point since the move down from 1685 began. As we tweeted this afternoon, the quick reversal was vital, and we got it. Once momentum built, everybody who was caught short - the usual crowd that always anticipates Armageddon - had to cover either right away or higher later. Pay me now, or pay me later. The result was that we saw a classic short-covering squeeze that sent the futures to the low 1620s.

Looking forward, the employment report tomorrow will freeze things as the night goes on. However, it should not change the tone of the market, which is in bounce mode. After our Bearish interlude, we resume our Bullish stance and anticipate new highs at some point this summer because the excess has been wrung out of the market and the same factors that brought us to this point remain in play. Continuation of this bounce is likely, though periods of consolidation along the way are almost inevitable. The Nikkei remains a problem, and in point of fact, the mid-day weakness was caused by the Yen's inexplicable leap higher against the Dollar.

To the downside, a break below 1612 would be damaging and show not enough excess was take care oft today. One troubling factor was how easy it all was. There didn't seem to be many stops right below 1600, and the reversal was awfully quick, almost perfunctory. We still have to look over our shoulders for a while, but our target was hit, and now it is time to look ahead.

SPY June 5 2013

SPY June 5 2013

Orderly sell-off that broke the 1620 level without any trouble, winding up down around 1610. No panic, just a transfer of funds from longs to shorts. SPY remains in the long-term uptrend channel, any surge in fear is unlikely until and unless price falls substantially below 1600 and stays there. How the market reacts at 1600, the strength and duration of a bounce there, will be a good tell on where this market is headed over the next month.

As we noted yesterday, the failure at 1650 confirmed the intermediate term downtrend from May 22, and that is how we are viewing the market until we see what happens at 1600. The more time we spend at the lows with value building up there, the more Bearish the prospects become. Refer to the support levels discussion from last weekend for key levels to watch.

SPY June 4 2013

SPY Daily June 4 2013

While the daily chart doesn't reflect it, Tuesday was full of crazy volatility. We were looking for continuation of Monday's late strength and got it, with futures working back up to about 1650. Then, we ran into the downslope from May 22 and sold off. The Monday low held, though, and a late bounce  almost led to a green close. It was a week's worth of moves in one day. Everybody is talking about this being the first down Tuesday after 20 straight up Tuesdays, but that had to happen eventually.

Several takeaway lessons from today. Letting positions ride unattended is not a good idea with this normal summer volatility. The downtrend from May 22 was confirmed, validating a descending triangle that in hindsight began on that day. Regardless of where they form, descending triangles are bearish patterns that indicate distribution. Our outlook thus shifts to Bearish until proven otherwise. When the market speaks, we listen.

We are left with a choppy trading range until the futures break out of the descending triangle. The more the futures challenge 1620, the less likely it becomes to hold. A break to the teens will energize Bears and discourage Bulls and almost certainly lead to a test of the bottom of the major uptrend channel at 1600. A break higher out of the triangle is more likely to be a Bull Trap than anything else, and shorts would be all over such a move, as usual, but with renewed vigor.

So, the outlook is cautiously Bearish in the intermediate term, but longer term remains Bullish as long as we remain in the major uptrend channel. Short term, watch the 20-period moving average on the 5-minute chart. Overtrading and getting whipsawed is your biggest danger during the summer. Watch the Nikkei, it rebounded slightly last night, and continued strength there would be a Bullish harbinger for the US equity markets.

S&P 500 E-mini Futures 4-hour chart

It isn't pretty, but the downtrend off the May 22 high helps confirm the impression that we are deep into a topping pattern.

SAN June 3 2013

SAN June 3 2013

Just updating the SAN chart. The channel lines we drew a couple of weeks ago are holding up well. SAN is in a very shallow uptrend, but that is sustainable and fine for a play like this that you don't want to worry too much about. There is real value in SAN at this price, as shown by the fact that it is sitting at its long-term point of control. It has crossed over all the major moving averages except the 200 day MA, which has been difficult but will happen eventually.

Banco Santander (SAN) is a global banking giant with assets spread out actross the globe, including South America, Europe, and China. If you choose to receive the dividend in shares, it comes out to about 11%. Despite its name and headquarters, only a minority of its assets and obligations are located in Spain.

SPY June 3 2013

SPY June 3 2013

During the overnight session, the futures faded at first when the Europeans started trading, then bounced back later. The same phenomenon happened when the US markets opened, but on a much grander scale. A huge morning pullback bottomed at 1620.75 on the futures, then it was off to the standard grind higher after having scared out as many Bulls as possible.

While the market still could roll over, and could do that at any time for any reason anyway, there were numerous positive developments today. SPY remains solidly in its longer-term uptrend channel, and the move back down into that channel has to be considered healthier for long-term market health than going parabolic above it. The SPY also is back in its sideways channel.

The Japanese appear to be trying to do something to stop the Nikkei 225 from continuing its free-fall, with government pressure on pension funds to support the market. That news seemed to help lift the US markets late in the day. The Nikkei drop has been the one thing the Bears can point to as a real market problem, fixing that will restore a lot of investor confidence.

The late SPY rally broke to new highs right before the close. SPY remains above the important moving averages, with the 30-day moving average providing support today. For those who like Japanese Candlestick analysis, the daily candle today formed a bullish Hammer. Such a pattern suggests that sellers exhausted themselves during the course of the day, leaving the road open to buyers later to take control back from them. Closing near the highs after a big dip is a Bullish sign, candlesticks or not.

The major support lines we discussed over the weekend remain important, but the risk appears to have shifted back to the upside, as they say. Tuesdays have been Bullish this year, and traders may have been anticipating that a bit late in today's trading.

We look for at move back into the upper 1640s tomorrow. If this rebound gains steam, more and more shorts lured into shorting by the big dip will have to cover and send the averages even higher. QE remains in place, though every day, it seems, yet another Fed Governor has to shoot his mouth off about what he thinks should happen with it. Today, it was Dennis Lockhart of the Fed Bank in Atlanta. He didn't say anything new, but any talk about the future of QE sends shivers down spines across the country. In a way, that's good for Bulls, because the repetitions gradually dull that sensitivity each time it happens.

If you attempt to fight the primal forces underpinning this market's move higher for more than a short swing or scalp, you are just looking for trouble, though, yes, you also might get lucky one of these days. Action such as today's isn't really pleasant for anyone, but those who adhere to the underlying trend have been better off this year.

Support Levels June 2 2013

Major Support Levels to Watch

It's the weekend, and that means - everyone's Bearish! Surprise, not. This weekend, though, there may be reason to be a bit more cautious than usual about the market's direction. The Bull market of the past half-year finally has had a couple of down weeks. Furthermore, Friday May 31 2013's close violated a key support level and scared all the longs.

Does that mean we are headed straight back down to 1100? Or at least 1600? Nobody knows. But one thing you have to expect from the market is  - the unexpected. You were, um, expecting that, right? Since everyone expects a big drop, we just might cruise right back into the mid-1650s where we were before the big money managers left their offices to board their float planes for the Hamptons on friday afternoon. Personally, I rate the possibility of a quick snap-back at 50% or higher. Betting against this market has been very unwise this year.

But we have to be prepared. The late friday sell-off may have been deadly serious. Several indicators appear to be lined up for a real pullback. The common chart pattern of the major averages has that hanging look that, in your usual equity or futures chart, often precedes a real buster of a waterfall down. It's a good time to really listen to the market and assume nothing. In other words, pay attention to what happens. We can do that in part by watching how the market reacts at certain key levels.

The first level to watch, strangely enough, is right where the market is now. The futures chart below of the S&P 500 E-minis shows that we are sitting right on the 30-day moving average. The futures also are sitting smack in the middle of the old uptrend channel, which is right where they should be. It's a good level to hold, but moves lower usually don't end in the middle of the channel, they go to the bottom of the channel because everyone kind of expects that and helps make it happen.

If the current  level does not hold, the next levels to watch include the 50-day moving average and the bottom of the uptrend channel, which are in the same general area. The channel bottom currently is around 1590. Slightly above that, at 1597, is the 50-day moving average. Both of those levels are very significant. They also will be moving up slightly every day for the foreseeable future, and buying at a rising 50-period moving average usually is a good plan, with a stop somewhere below. Just be aware that technical moves down often overshoot the true support level, but not for long (if they are going to hold at all, that is). So you could see a quick spike down to, say 1583, then a quick reversal back over 1600 and higher from there after some consolidation. Wouldn't surprise me a bit. That would be roughly a 100-point pullback, just like happened last year at this time. But anything might happen.

Besides those levels, on the chart below are old support/resistance levels. I put those in for future reference, though they are not in play at this moment: 1594, 1568, 1533.

E-mini S&P 500 Futures on June 2 2013

Another way to look at a real pullback is with Fibonacci Retracement lines. The difficulty with using this indicator is that, if you use the true start of the current move last year, the Fib lines that usually matter, at 38% and 50% retracement levels, are still so far below that they are not yet in play. This advance is so old and entrenched and its scale so vast that normal technical indicators like that have lost some of their utility. The 23% line is at 1605. It might give some support, but that usually is not a major pullback support line.

E-mini S&P 500 Futures on June 2 2013 with Fibonacci Retracement Lines based on November 2012 low

Taking some liberties with use of the Fibonacci tool, and assuming April 17 2013 as the start of the current advance paints a more interesting picture.

Futures June 2 2013 Fibonacci Retracement Lines based on April 17 low

Notice that with this interpretation, we already are at the 38% retracement level, and that the 50% level is only 20 points lower, at 1627. That's not nearly as scary a pullback for Bulls to contemplate.

The Hindenburg Omen

The current buzz is that the ominous "Hindenburg Omen" was triggered (confirmed) on May 29 (Wednesday). The Hindenburg Omen technically applies only to the Down Jones Industrial Average, though the underlying reasoning is sound across other averages. You hear about it only now and then, and it has a checkered history in terms of predictive power. It seems to gain publicity when some feel the time is ripe to scare some folks. Nevertheless, to be scary it has to have some kind of germ of truth. No crash since 1985 has occurred without a Hindenburg Omen preceding it, which certainly sounds scary. However, there have been a bunch of confirmed Hindenburg Omens over the years that have not led to much of anything. It is one of many things that may precede a period of what technicians like to call "volatility" and normal people call "a market drop."

The mere fact that some are claiming a Hindenburg Omen warning may itself account for the late-day sell-off on friday. Who wants to hold over the weekend when a major crash alert is in effect? That takes us into self-fulfilling prophecy land. But that doesn't mean a crash necessarily must follow.

I want to put a few thoughts out about the Hindenburg Omen. It has gotten a lot of press since the close on friday, but supposedly it came into effect after Wednesday's close. The ones who "decide" that it is in effect are not part of some philanthropic institution. That if didn't suddenly become a big deal until later should tell you something. The ones who knew about it early were going short the futures at 1648 and probably sweating very mildly when they bounced up to 1657 early on friday. But they would have been smiling later. Trading these things can be tricky and often a big mistake unless you are in the loop from the beginning.

The actual details of the Hindenburg Omen are unimportant. Technicians can't even agree on the criteria for a Hindenburg Omen. The addition of ETFs to the market has confused the Omen's utility further. You can't really pin down how reliable the Hindenburg Omen is because everyone who looks at it uses a different definition of what it is and when it was in effect or confirmed. Must it be confirmed once, twice, thrice, within two weeks, consecutively, within forty days, etc. Everyone has a different answer, and even the guy that first thought of it, Jim Miekka, has changed his version of it over the years. There are other quibbles, but this is the sort of stock market myth with a creepy name that you will be hearing about, so you should be on your guard until, as they used to say in the movies, the coast is clear.

The one statistic I like about the Hindenburg Omen is this: according to at least one (Wall Street Journal) study, after the trigger of a Hindenburg Omen, the likelihood of a 2-5% correction is 92%. Those are heavy odds, and we are all about playing the odds. So, just for an indication of what a Hindenburg Omen correction might mean, I have drawn those lines in on the futures chart below. They actually aren't that far off after friday's drop. There is no "bottom" call for a Hindenburg Omen, its purpose ostensibly is as a total crash warning. So, you take the lines on this chart as pullback possibilities that might be far exceeded.

E-mini S&P 500 Futures on June 2 2013 with Hindenburg lines

I have put in the Hindenburg lines for the Dow Jones Industrial Average below.

Dow Jones Industrial Average on June 2 2013 with Hindenburg Lines

Finally, since we are talking about the Dow Jones Industrial Average, I have put in a chart with Fibonacci Retracement lines for that market average below.

Dow Jones Industrial Average on June 2 2013 with Fibonacci Retracement Lines

I realize this is a lot of lines, a lot of technical mumbo jumbo, and it all can be confusing. The charts might, however, come in handy if the friday afternoon pullback on May 31 2013 gathers some steam. In that event, you perhaps will return to look at these charts again.