Exposing Ideas to the Envelope of Serendipity

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Sunday, October 25, 2009

Cloudy Picture

The markets have encountered some turbulence in recent trading sessions, with an increase in volatility along with a mounting distribution day count threatening to stall the long-standing rally's momentum and get a more significant correction underway. Market internals continue to be weak, and quite a few stocks have come under pressure as intermittent waves of serious selling have hit the bull over the last couple of weeks.

The picture is far from clear, however, with the major indices still barely off rally highs and solid breakouts in crude oil and gold suggesting a pull-back in equities may be limited near-term. Continued pressure on the U.S. dollar also strengthens the bulls' case, although a technical bounce before long is certainly possible. Add to the mixed messages the impressive performance of many market leaders, and the visibility is somewhat cloudy right now. Earnings season or not, the robust gains and breakouts into new all-time highs in stocks such as AAPL, AMZN, and BIDU, are not typically seen in a market preparing to roll over hard-- not that there has been anything "typical" about this market.

Whether we're witnessing a blow-out before a fall, consolidation before continuation, or a standard correction getting underway, remains to be seen. There are plenty of divergences to digest and no one truly knows where we are headed next. I am still seeing many charts that point higher over the intermediate-term, but that doesn't preclude a near-term correction of some degree; and I am also seeing increasing numbers of stocks sustaining technical damage which has me still in a cautious mode. There have been many nice short and long trading opportunities for the nimble, but the day-to-day price swings and volatility can also be very treacherous, and vigilant risk management is imperative at this juncture.

Let's first take a look at the rally's ringleader, the U.S. dollar. Entrenched in a downtrend and under pressure since March, its inverse relationship to equities has remained intact. I am watching carefully to see whether that relationship continues, or whether signs of a decoupling might not start to emerge. So far, it's still the status quo.

Gold's recent breakout into new all-time highs and a chart that suggests considerably higher prices to come will also be interesting to keep tabs on. Will gold and equities run largely in tandem, or will they diverge? First up is a longer-term weekly chart, then a look at the more recent daily action.

On the near-term chart it is easier to see the potential for a mild pull-back before continuation higher.

The recent breakout in crude oil has also been impressive and bodes well for higher prices in the sector. Near-term, a consolidative pull-back can't be ruled out, but intermediate-term charts look quite bullish.

The financial sector has finally seen some profit-taking during the past couple of weeks, and many key stocks in the group are testing support right now.

And last but not least, a look at IYT, the Dow transportation index ETF and a market barometer for many. The sector has lagged slightly, but the chart still has a bullish bias for now. Dow theorists in particular pay close attention to the performance of this sector.

That's it for now. It should be another interesting week with abundant trading opportunities for the more active traders, with plenty of earnings action still to come and the month of October winding down. Caution is certainly called for here, and there would seem to be insufficient information to take a strong stand in either direction just yet, and that is ok. It is generally prudent not to be too decisive about market direction before the market is. Trade well. --Brinkley
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