Friday, October 30, 2009

Volatility Returns to End Wild Week

If you're looking for direction in this market, you're not alone. Following a week in which triple-digit moves on the Dow Jones Industrials were the norm, with the other indices more or less in concert, investors are scratching their heads, backs, bottoms and anything else nearby in almost total confusion.

The Dow was down more than 100 points three days, culminating in the biggest move of the week on Friday (-249.85), and up nearly 200 points on just one day - Thursday - after the government announced the preliminary reading on 3rd quarter GDP at a positive 3.5%. Only Tuesday was tame, with the index up a mere 14 points.

For the week, the Dow lost 260 points, one of the larger weekly declines of the year, but shallow by percentage comparison, at 2.8%. The NASDAQ gave back 109 points, and was the worst performer on a percentage basis, with a loss of 5% for the five days just ended. 43 points were disgorged from the S&P 500, a 4.5% decline. The NYSE Composite was down 327 points, nearly matching the NASDAQ with a 4.7% drop.

The main catalyst for the wild swings in the market seem to have been two-fold. First, the date, October 30, marking the last trading day of the month, also was the final reporting day for many mutual funds, so profits were being locked in with wholesale selling of weak hands. Second, the dollar was very strong against the Euro in particular, and whenever that set-up has been present, stocks have been whacked. The entire rally from March through today has been fueled by a declining dollar, making commodities and US equities more attractive.

Dow 9,712.73, -249.85 (2.51%)
Nasdaq 2,045.11, -52.44 (2.50%)
S&P 500 1,036.18, -29.93 (2.81%)
NYSE Composite 6,739.45, -215.86 (3.10%)

Losers overwhelmed gainers, 5359-1162 (nearly 5-1), and underscoring the lack of direction, new lows scored over new lows by the narrow margin of 3, 89-86. Volume was again above the norm, though reading too much into the volume scenario may be risky. Both of the big down days - Wednesday and Friday - saw increased volume, though it bears notice that Wednesday was the day before the much-feared 3rd quarter GDP report, and Friday, as mentioned above, was the end of the year for many funds. Thus, these outliers may have overtly influenced the general direction and volume of trade.

NYSE Volume 7,883,697,500
Nasdaq Volume 2,512,938,000

As expected with the strong dollar scenario, commodity prices could not be maintained. Oil was slammed the hardest, it being the de facto favorite of the speculative groups, losing $2.87, to $77.00. Gold dipped $6.70, to finish the week at $1,040.40, while silver shed 40 cents, to close at $16.26.

Whether or not the closing figures are some kind of pivot point upon which one can trade one way or another is a matter for the chartists. The NASDAQ made an intra-day double-bottom at 1040, last touched on October 2, at the start of a brisk rally. The Dow is sitting right on its 50-day moving average, while the S&P has crossed over its 50-day MA three times in the last three sessions, is above support at 1019, but broke below the previous support line at 1039 on Friday.

It's a pivot point all right, the question is still which way?

The answer to that is probably more psychological than technical. Traditionally, a strong dollar was good for stocks, though in this situation, the liquidity trade is working the other way. At some point, the leadership of banks, materials and technology will have to give way, though technology will probably still stand up better through whatever short term condition is presented. Longer term, the dollar will decline, but as the Fed hints at raising rates - and then actually does - a change in attitude must attend if stocks are to continue to advance.

There is almost certainly going to be a period of pause, and we are likely in the middle of that right now. Another 4-7% decline on the major indices should be forthcoming while the market sorts out what to do with the absence of easy money. If there is no solution, stocks will continue to decline, at least until people think they're really cheap enough.

Much has been made of the huge amount of cash still sitting out the dance, and this may present those wallflowers with ample opportunity to put some of their money to work. Not a wholesale dive in, but at least sticking a toe in the water would suffice. That could spark another rally before the end of they year, but there's also a very good chance that the highs for 2009 have already been met.

Therefore, heading into next week, pay particular attention to the dollar, financials and basic materials or commodities, and be on the lookout for a divergence from the established trend. If the dollar is higher and stocks do not sell off, look for new leadership in the other sectors. If the dollar trades lower, expect the same trade, which does nobody any good, since we've already determined that it is flawed. A weak dollar cannot support a true recovery.

Best case scenario is another drift lower, or, maybe a swift downdraft for another week before volatility settles down. It doesn't mean that one should stop trading, only that one needs to buy protection and remain nimble.

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