Perhaps the understatement of the year is to say that stocks have had a bit of a tough time lately. For example, the Dow had a rough go last week and dropped -4.1%. For the month of February, the DJIA wound up plunging -11.7%. For the year, the venerable industrial index is down -19.52% already. And from the beginning of the bear market, the results are downright ugly as the Dow is off by -50.14%.
To make matters worse, the bears say that we’re heading lower – much lower. Our furry friends point to the recent breakdown on the charts as exhibit A and suggest that the Dow could soon be staring at 6000.
In fact, there are lots of chart-based prognostications right now as it seems everyone who’s ever bought a stock is suddenly a professional chartist. But, since there are some decent points being made, we thought we should pass them along.
First, as was pointed out in Barron’s, if the Dow were to break below 7000 it would mean that one-half of the entire gain from the 1932 Depression low to the October 2007 high would be gone. Yep, that’s right, if the DJIA drops another 2% or so, the subprime slime will have wiped out half of a 75-year gain. Wow.
Another long-term chart-watcher points out that one can draw an uptrend line on the S&P 500 chart that starts in 1982 and is connected by several lows along the way. Everybody knows that the fall of 1982 marked the end of the misery that was 1965 – 1982 and was the beginning of a massive secular bull market. However, I’m guessing that not too many people know that a break below 700(ish) on the S&P will violate that uptrend. Ughh.
Then there is the weekly chart pattern that many suggest is a double-top – a formation that began at the turn of the century. The thinking here is that if we go much lower, the chart pattern would be confirmed and as such, projects a significant downward move. Ouch.
Wait Just a Doggone Minute!
However, let’s also recognize that the doom-and-gloomers have already had their day in the sun and that investors are often VERY good at preparing for what has just happened to them. So, with stocks having already plunged more than -50%, it isn’t exactly surprising to hear our furry friends howling about another big drop.
But, before you succumb to the emotion of the day and start digging that hole in which to bury your head (and your cash) let’s take a minute and take an objective look at what is really going on with the internals of the stock market.
Cutting to the chase, the bulls are pleased to announce that there are many bullish divergences occurring at the present time. In English, this means that although the market indices are breaking to new lows, there are lots of internal indicators that are not “confirming” the move lower.
Bullish Divergences Abound
Before we go any further, I want to warn you that what follows has been know to cause the eyes of all but the most enthusiastic market watchers to glaze over. So, if you’re short on time or just not into the technical talk; feel free to skip ahead to the next section.
Okay, now that it’s just us market geeks; let’s get to it. What follows is our list of bullish divergences or non-confirmations seen during the current move to new lows.
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Declining vs. Advancing Volume: Currently the ratio of declining volume to advancing volume is about 3 to 1, which ain’t great. But at the same time, this is FAR better than the ratio
we saw last October and November.
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Advance/Decline Line: No, we’re not talking about the NYSE A/D line, which is full of all kinds of things that aren’t stocks. If you take a stock-only A/D line (meaning the A/D line of
only operating companies) and smooth it out, you will see that the trend of the data recently (Feb 23rd) hit a five month high and is well above the lows seen in October.
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New Lows: The same result is seen here. While the Dow and S&P are hitting new lows, the number of stocks hitting new 52-week lows is not anywhere near where it was in
November.
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It’s a Small World After All: Ned Davis Research report that of the 42 global indices it follows, only half have dropped back to their November 20th levels.
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N’s Over S’s: The NASDAQ is the current market leader as the ratio of NASDAQ returns to the NYSE is at its highest level in 4 years. And more importantly, as of yet, the NASDAQ
Composite has not followed the Dow and the S&P to new lows.
- All Tech, All the Time: History shows that technology tends to lead after important market bottoms. So, the fact that the tech sector is the second best performing sector since November 20th is a good thing. It also doesn’t hurt that the sector isn’t involved with toxic assets.
Ditch the Dow Death Watch
The bottom line is we’d encourage anyone still in the game to simply stop doing the Dow death dance. The current message from the market is that despite the Dow and S&P heading to new lows, the internals are in much better shape than they were in November. Thus, we will argue that the current decline is not hitting on all cylinders at the moment.
The point is that the current action is more akin to a market in the process of making a bottom and perhaps in the early stages of a recovery.
As for our current strategy, we WILL admit that it’s not game over for the bears and that they still have time to get their act together. However, let’s also keep in mind that the stock market looks ahead 6-9 months. And if the Fed is correct in its projections that the economy will begin to recover in the second half of 2009, then the stock market may begin to discount this within the next couple of months.
Wishing you all the best for a profitable week ahead,
David D. Moenning
Founder TopStockPortfolios.com
Positions in Stocks Mentioned: None
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The opinions and forecasts expressed are those of David Moenning, founder of TopStockPortfolios.com and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report and on our website is
