Post 2002 Market Crash Outlook [7:58m]: Play Now | Play in Popup | Download (258)

I this episode I have to first recognize and pay homage to what was hopefully a once in a life time event, one that I wish none of us will ever have to experience again. And also recognize that it may not be over just yet. And with that I’ll share with you some good motherly advice, along with the concerns I have in last week’s rally, and why I’m optimistic for the near term.

Was October the beginning of the end for the markets, or was it simply an abrupt end of what was arguably the worst bear market in US history? The evidence is inconclusive right now, so all we can do is navigate the best we can, and take what the market gives us. There’s money to be made no matter what the market does going forward, so long as you listen objectively to what the market has to say, without emotion, and then act accordingly.

I’m going to quote the sage advice of my wife’s mother Jenny, who has long since passed. Jenny raised 4 children, who have all gone on to great successes in life, and those successes are undoubtedly the result of the strong will, values and wisdom that Jenny has imparted upon them. My wife told me that her mother Jenny would often tell her in the face of uncertainty, that you should prepare for the worst, hope for the best, and take anything in between.

There are certain things that are under our control, and other things that are not. What is in our control are the choices we make, what’s not in our control is the direction this market decides to take. So, what I’m trying to say here is, don’t assume that the latest reversal has marked the bottom, it’s simply too soon to tell. There’s still a great deal of uncertainty out there. Sure there’s lot’s to like about the action last week, but there are indicators in the weekly and monthly charts that have not yet confirmed a reversal.

Wilderness investors have managed this unprecedented market collapse by preserving capital, we’ve been in mostly cash, and made a little money along the way with selective shorts. And when we saw the reversal coming, we took measured steps and nailed it with a quick trade on the QLD. That was a singular event, and we were fortunate, and that’s great. It’s got to feel good to dodge a falling knife without a scratch, and then make a quick 15-20 percent right off the bottom. But don’t let your glee turn into giddiness. What we need now is to keep our heads, because the days ahead will require our utmost attention to what the market will tell us, not what we want to hear.

  

So, before you get the impression that I’m expecting all doom and gloom, let me tell you that I see some real promise in how the market closed out October of 2008. For example, I like the way that the indexes have recaptured the 20 day moving averages, for the most part. I’ll explain what I mean soon. I also like how our favorite stock, Apple (AAPL) performed by leading the Tech sector, compared to the other leaders of Tech, like Baidu (BIDU) and Google (GOOG), that haven’t yet been able to catch a sustained bid. Especially Google, since it reported strong earnings, the stock advanced then simply ran out of gas.

The good news is that the leaders of Tech short-term charts are showing good strength, with the intermediate charts showing evidence of turning around. It’s the long-term charts that are worrisome. There has been no indication whatsoever that the long-term direction is improving. And quite frankly, it’s the same story with the markets as well. The only way that’s going to happen is if we have a sustained rally for the next few weeks at least.

So, getting back to the 20 day moving averages. In a normal, healthy market, where volatility is within manageable levels, I would rely on the 20 Day Simple Moving Average (SMA). But in times like these, with the incredible whipsaw day to day, you need to follow the 20 Day Exponential Moving Average (EMA), simply because it reacts to this kind of market quicker and thus more accurately.

Now, when your coming out of a Bear market, your looking to regain the 20 Day Moving Average as your first level of support. And with last weeks action, all the indices poked their heads well above that line with strong surges, and more or less held it going into the weekend. The Dow for sure, as it finished Friday well above its 20 Day EMA by over 126 points. But the Dow is made up of only 30 stocks and so it’s not as accurate a barometer as the S&P 500 and the Nasdaq, which are collectively comprised of hundreds of stocks. And that’s the concern, as the S&P closed Friday at 968.75, which was just a hair below its 20 Day EMA, which was 969.95. And the Nasdaq closed Friday at 1720.95, and it’s 20 Day EMA was 1733.40.

So, this inability of the S&P and Nasdaq to break out from their respective 20 Day EMA is somewhat of a concern. Perhaps that’ll happen this coming week. But that’s a tough call because I’m uncertain how the election might affect the market, if at all. One bright spot, and a big factor for my overall optimism in the short and medium term, is the strong Advance-Decline line that we maintained all week. This is a sign that more and more stocks are breaking the destructive patterns they were following, by sporting increasing volume as they rally. The other very promising sign for the near term is the strong positive divergence across all the indexes with respect to the MACD and the RSI on the daily charts. The weekly charts are showing no such divergences, but the MACDs on the weekly charts is finally starting to curl upward. My belief is that the positive divergences on the daily charts will keep this rally afloat for the next week or two.

The greatest source of my optimism has got to be the fall of the Volatility Index (VIX), what many call the Fear Index. The good news is that this breakdown doesn’t appear to be slowing down. I expect the VIX to drop even further, and that’s excellent news for the markets. In retrospect, the rise and fall of the VIX is going to be a case study in how fear can feed upon itself, until it consumes all its power. It was amazing how one Bull flag led to another, until we spiked several times to form a lateral topping pattern. During this time, even though we had successive spikes higher than the next, momentum was being lost, as a negative divergence formed on both the MACD and the RSI.

On Friday the VIX exhibited a MACD fast line crossover, which is a classic bear reversal, and it broke through its 20 Day EMA. Now there’s a chance we’ll test that 20 Day EMA, and if the test fails then the divergence will strengthen, and from that I see the VIX free falling spurring another market rally.