Ian Woodward's Investing Blog

Mailbag Question:  Ian, This may be a real stupid question but here goes … being in such a volatile and highly out of the norm type market that we have seen in the past 10 months or so ( Bear or not ) … and being that we look for the NH’s ( over 125 – 150 ) to greatly outnumber the NL’s  in the ratio for start of the leg up … how can we realistically look at the Hi/Lo ratio now when they have been so overwhelmingly skewed to the Low side by such drastic numbers? With so many stocks ( and groups ) slaughtered to their low side … by the time any type of NH’s to appear in large numbers we may be so far into the recovery or next leg up that we miss the beginning.  Am I missing something here or maybe this one technical aspect not be as valid now as if we were in a semi-normal market ( again considering how absolutely and utterly whacked this market has gotten to the downside).This is just something that has been bugging me for some time as I look at the daily Hi/Lo ratio staying at such a DOWN situation for so long.  Yours, Steve 

                  

Answer:  Hi Steve, that is not a stupid question, as the last time we were stuck in a rut like this was in 2000 through 2002. The New Highs took a long time to come to the surface, since everything was cleaned out, and new Leadership had to regroup.  As we know there were still several decent bear market rallies during that time.  I tried to answer the mood of the market in my note on the blog, but the subject matter was essentially whether we had a legitimate Follow Through Day (FTD), and the caution that we might be headed for yet another disappointment and a failed rally:

1. >>>”When a Market is so oversold as this one is, the tide goes out so far that most boats are still stuck in the mud, and it sometimes takes a pull back and a second effort to take off on a rally…that is why 50% of the Follow Through Days (FTD’s) fail on the first attempt and then move up on the second shot.  (Editor’s Note: It looks like we got it just in time!  A second follow through day with oomph.)  
2. This is especially true in a Bear Market. It needs a one-two punch from the Bulls to drive it up, while at this stage of the game the Bears only need one punch from here to drive it down.  Net-net, the Bears have the upper hand after two weeks of trying by the Bulls.”<<<
3. The net of all of that is that the Market is so oversold, and the rally so far classed as “Failed” in my eyes, especially after yesterday’s distribution day on a couple of the major Market Indexes.  The odds are that we should expect at least a retest of the lows before we will either see it hold for a double bottom or breakdown further.
4. I will grant you that we should not put too much emphasis on the New Highs vs New Lows parameter, but at least I want to see New Lows stay DORMANT.  By that I mean that they have to stay below 30 (say) for a while to show that we have completely bottomed…and what do we have today (Monday) if I trot over to the WSJ Page? We got 32 New Highs and 124 New Lows on the NYSE…not good.  But let me accept your point for a moment and forget the New Highs showing some spark of life, since you make a very reasonable point.  At least you will give me the logic that New Lows had better stay dormant for starters, otherwise we have not truly bottomed.  But let’s look for other clues:

 

The Downside Gloom and Doom

1. You will agree that for there to be any signs of real buying enthusiasm we must see irrational exuberance as expressed by Eurekas…not one my buddy on the NYSE. 
2. In addition to that we need to see some Kahunas to show signs of excitement.  We got a couple of Little Kahunas on 7/29 and 7/30 on the NYSE, but then it was followed by one to the downside and three black crows for candlesticks. Where are the five white soldiers?  No cigar.
3. I am a biggie on the McClellan Oscillator and more importantly the Summation Index.  We have not been this low since the Oct 1998 Asian Contagion, after which it took off like a rocket when the Banks banded together to solve the Japanese Financial run on the Yen, if my memory serves me correctly.  The message is it took a Catalyst of some good news to propel the market with vigor back then.  We are lower this time around, with a reading of -2874 on July 16^th, when the previous low during all the kafuffle from 2000 to 2003 was no lower than -2218 on July 26, 2002.  On that occasion there was a bounce for seven weeks to 1294, only to fall back again for a month before it finally took off for a three month rally.  We have currently cut the -2605 by half to -1390, but no where near positive territory as yet…again implying there is no enthusiasm from the Bulls, leave alone irrational exuberance.
   

   4.  Staying with the internals, the next thing to turn our attention to is the extent of the Accumulation versus Distribution in both the Industry Groups and the Stocks themselves, and this was the central focus I provided in my note on the blog.  With that stake in the ground, we know that the %E’s hit the lowest ever recorded of over 34% a few weeks back as I showed in the newsletter.  I have also proved that if the %E’s are greater than 17% when a rally attempt is launched, we will invariably get a failed rally on the FIRST attempt from such depths.  That is precisely what has happened so far.

   

   5. If we go by yesterday’s action all the old favorite commodity wolf packs are being trashed so that game is over for now.  We then look for rotation and where do we see it…Health Care, a bounce in beaten down Financials, a bounce in beaten down Home Builders, precious little in Technology (until today).  So yes there is money to be made in beaten down stuff but there is no beef.  The bottom line is that there is NO real Leadership right now.

   6.  Throw in the slowing down of Global markets, with Europe feeling the pinch of a Recession, Japan never getting off the mat at all, and so on and so forth.

   7. At times like these, one CANNOT separate the overall mood of the public from what spills over into all the talking heads discussions the various airways provide.  The net bottom line is that the every day John and Jane Doe are fed up to the hind teeth with the increasing cost of living, and all the “fru-frau” about Oil.   That, on top of the fact that the “Do Nothing Congress” has decided to go on vacation for five weeks and in effect run out the clock on what is the hot topic at every water cooler conversation and that is “To drill or not to drill…that is the question?”  Net-net, throw all the bums out, and John and Jane Doe have learned now is not the time to be “playing the stock market”.

   The Upside Hope for Sunshine

   So much for the downside; what about the upside?  I return to my Wall of Worry Meter on Wall Street.  There is the old cliché:  “The Market Climbs a Wall of Fear”.  We are now at the stage where this market needs a Catalyst; it’s as simple as that.  At a time like this when there are so many cross-currents, it is hard to narrow it down to one item, but I will offer three to perhaps give us a Summer Rally:

   1. Oil down below $100 will stop the hubbub at the water cooler; just as I gave you the XLF at a critical juncture to watch a few weeks back, watch USO.  We need to see it break down below 96 and fill the gap down between 95 and 94; and then make its way down to seek at least a low of 90.

   2. Oddly enough I feel the Olympics could be a Catalyst as China becomes front and center for the next two weeks.  You can rest assured there are background talks going on to reverse Wall Street’s downward slide that triggered a 40% sell-off in China Silverback Stocks, keep U.S. consumers buying China goods, and keep $1 trillion in U.S. dollar-based investments from free falling into an abyss, which in turn could rock the Chinese economy for years to come.

   3. Continued calming of the Financial Markets with easing of the credit crunch and keeping inflation in check, with no further easing or tightening at this juncture by the FED.  Net-net, we need a continued rise in the U.S. Dollar.

   Let’s hope one or all of these kick in before too long and we have some respite from the brutal weeks we have had. 

   Editor’s Note!  This was written last evening and e-mailed first thing this morning, and one never can tell with this tricky market.  Maybe we have seen a turn-around from all the gloom and doom and have finally got a big day upwards to compensate for all the woes of the past week.   This would be the one-two punch I was waiting for.   We might even have a Eureka signal after tonight’s download to cap it off!

   Best regards, Ian.

This entry was posted on Tuesday, August 5th, 2008 at 2:51 pm and is filed under HGS Principles, Market Analysis. You can follow any responses to this entry through the RSS 2.0 feed. Both comments and pings are currently closed.