Thursday, December 18, 2008

Boink! (At the 50-day Moving Average)

No one knows.

After receiving
a very bearish Dow Theory confirmation in November the stock market immediately turned sharply upward. I was hoping to buy in to a major rise in the markets but I just didn't realize it would rebound so quickly in the face of so much significantly dire global economic news.

I'm certainly no professional at this.

But, as I mentioned in a earlier post, this is the other edge of a high VIX. The market can jump in either direction rather rapidly. From October into November the Dow essentially lost 2500 points. Then from November 21 to December 8 it gained back about 1500 points.

Like a bouncing ball.

A very quick simplified course in chart reading: The chart above was created by me with BigCharts. It shows Dow activity from late September until today. The "blocks" are candlesticks, ways of showing how much the Dow was up or down on a given day. Dark blocks are down days, clear blocks are up days. The two blue bands framing the blocks are the Bollinger Bands. Well over 90% of all stock action occurs inside the Bollinger Bands. The thin tan or brown line sloping gently downwards is the 50-day moving average. I have selected the day in November that the Dow hit its lowest recent low. You will notice immediately after the lowest low the market rallied up.

From there it hit the 50-day moving average and stalled as indicated in the zoomed in portion of the chart below...

The important thing to note from a chart reading standpoint is that the Dow is struggling at the 50-day moving average. You can clearly see that the action from the past few days has hovered right along the descending line of the average. If this is a bear market rally (a secondary move up in the course of a general move down) at some point the Dow has to rise above and remain above this average. So far, it hasn't had enough umph to do that. The good news is that as long as it wanders around the average the market most likely won't break down in the near future.

The primary trend remains bearish, however. The secondary trend is now perhaps bullish.
The Dow Theory bearish confirmation from November remains meaningful and still holds until the market confirms a trend reversal further up - around the 9600 range.

Unless the market remains above the 50-day average then the average will continue to slowly drop. A couple of weeks above the average, however, will cause a shift. This would not be out of the question in the first quarter of 2009.

If the market manages to raise the 50-day moving average trend line then the next average to watch is the
200-day moving average. This average is much more significant as it reflects a longer term view. Generally, the longer the trend, the more accurately it reflects the conditions of things.

Let's pull back now and look at the last two years of the Dow, this time the thin brown or tan sloping line is the 200-day average.

As you can see, the market was pulling the 200-day average up as it rose bullishly, but then the trend curved lower as the bear took over late in 2007. I have selected the most recent highest high for the market on this chart which was over 14,000 last October. Quite a drop in one year.

But there is reason for hope in this graph as well. According to Dow Theory and many charting theories, the further the market drifts above or below the 200-day average, the sharper the pullback will be toward this average. Taken at face value, if we can get beyond the 50-day average, we could be looking at a ride toward the 10,500 range in the Dow before
resistance is met again at where the 200-day average will be at that time.

The VIX is much lower today indicating stabilizing conditions. We are either building support for a greater bear market rally or we are pausing at resistance before the next drop down.

It might turn out the
Jack Schannep's call for a buy in was right after all. Perhaps the Dow is building support enough to break the bear. The best indication might be a trading range around 8500 give or take 500 points. No meaningful Dow confirmations in that scenario.

And that is what the Dow has been doing since December 8.

No one knows. But it is fascinating to watch.

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