Sunday, July 11, 2010

BEAR'S BEWARE II

In my last article Bear's Beware I warned that shorts were running the risk of getting caught in an explosive rally as the intermediate cycle was due to bottom. Well, it did bottom and bears have watched their profits quickly evaporate as the market has surged out of the intermediate cycle low.

The initial thrust out of one of these major cycle bottoms will usually gain 6-10% in the first 8-13 days. We are now 6 days in and up 6.9% so far. I expect we will see a test of the 200 day moving average before we see any significant pull back. These initial moves out of intermediate bottoms don’t tend to wait around as smart money smelling blood in the street pile in quickly.

It's only the little guy, who doesn't understand what has just happened, that continues to fight the trend change. This is usually about the time that I see the technicians start calling for this or that resistance level or trend line to put a halt to the rally. They are, of course, assuming this is a bear market rally and it will soon be over.

First off, let me say I'm not convinced yet that the cyclical bull is dead. I would need to see the market come back down and break the recent lows first. If both the transports and industrials do that then yes, we will have a Dow Theory sell signal and at that point I would have to assume that the market has begun the third leg down in the secular bear market that started in March of 2000.

Now let me say this, bear markets don’t begin because of lines on a chart. They begin because something fundamental is broken in the economy or financial system. Now we certainly do have a broken financial system, no doubt about it, but then again this cyclical bull was never built on the foundation that we had fixed anything in the financial sector. We certainly haven't fixed anything in the economy with unemployment remaining above 15% if one counts everyone out of work. No this cyclical bull was built on a foundation of massive liquidity. I’m not convinced yet that that fundamental base is broken. Only time will tell.

But even if this is a bear market rally let me assure you that bear market rallies don’t end because of lines on a chart. If you think you are going to spot a top in a bear market rally by drawing a few trend lines or some meaningless resistance level you are just kidding yourself. It ain’t gonna happen. It never has and it never will. Lines on a chart don’t halt bear market rallies anymore than they initiate bear markets.

I’ll tell you exactly what halts a bear market rally. Sentiment! Sentiment, at every single one of those rallies during the `07-`09 market, reached bullish extremes. Not one single rally was halted by a pivot point or resistance level prior to sentiment reaching extreme bullish levels.


Even after the recent surge, sentiment is still so depressed that it’s at levels lower than most of the intermediate bottoms during the last bear market. So let me tell you, if you think the market is going to turn tail and run because it hits the pivot at 1130 or the 200 day moving average, or because you think earnings aren’t going to be rosy, you are going to be sorely disappointed.

If this truly is a bear market then before you even begin to look for a technical turning point you first have to wait until sentiment does a 180 degree turnaround. That just doesn’t happen quickly after the kind of beating we just got.

Trust me, it’s going to take a while for investors to forget a 17% correction and dare to become bullish again. If I had to guess I would say at least 8 to 11 weeks. Even longer if the next half cycle (due around day 15-20 of the rally) and full daily cycle correction (due around day 35-45 of the rally) are strong enough to scare investors again.

The problem with the move out of the February bottom was that we got no corrections and it quickly turned into a runaway move. Those kind of rallies tend to end with some kind of mini-crash. I started telling subscribers there was a high possibility of that back in late March and early April. It happened in Feb. of '07 with the China crash and sure enough, it happened again in May with the flash crash.

Traders become extremely complacent during one of these runaway moves. At the April top sentiment had reached levels more bullish than at the top of the last bull market. As usual, we paid a heavy price for that complacency. But now we've swung 180 degrees back in the other dierection, with sentiment so depressed it even makes the `09 bottom look positively giddy. That my friends is the base for another powerful rally.

Actually I won't be at all surprised if the market rallies back to new highs ... even if we have begun the initial topping process of this cyclical bull. Remember the bear market had already begun in the summer of `07 but that didn't stop it from rallying back up to marginal new highs in Oct. before finally rolling over into the second worst bear market in history.

This idea that the markets can somehow magically look into the future is just ludicrous. I can assure you no one can see the future, and that includes the millions and millions of investors that make up the global markets.

Now let me say this - we already know where the cancer is. Does that mean the stock market will now start to discount the next bear market? In the summer of `07 we knew the cancer was in the credit markets, initially beginning in the subprime mortgage market. Did the market look into the future and discount the unraveling of the global credit markets at that time? No it did not. The stock market rallied to new highs.

Well, we already know what will eventually bring this house of cards down, it's already started just like it had already started in the summer of `07. We are going to have one sovereign debt implosion after another and that is going to lead to the cancer spreading through the global currency markets eventually infecting the world's reserve currency.

But don't expect the market to look ahead and begin discounting the unraveling of the global currency markets. Markets don't do that. What they do is slowly recognize the fact that the fundamentals are broken. Once enough traders realize that, the markets begin to roll over, usually in an extended process taking many months.

I doubt this time will be any different, especially since the central banks of the world are going to fight the bear with a blizzard of paper. Don't make the mistake of thinking the markets have to act rationally. They don't and won't. If the Fed prints enough money markets are going to rise even though the global economy is crumbling all around us.

If you are bearish and determined to pit your stash against Ben's printing press I'm afraid you are signing up for one very difficult time ahead. I seriously doubt we are going to see another credit market implosion like we saw in `08. Without a severe dislocation like that there will be no market crash this time. When the bear does return (and he will eventually) the next leg down is going to be a long drawn out process with multiple violent bear market rallies. Selling short in that kind of market isn't going to be easy. As a matter of fact I doubt 1 bear in 10 will even manage to make money in that kind of environment.

Bear's should be careful what they wish for. I suspect the next leg of the secular bear will manage to destroy both bulls and bears alike.

34 comments:

  1. Wondering how/if this applies to the hui and gold ? Reading indicates many technicians are calling for hui to plummet having double topped at 500.

    Whats your projection?

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  2. The HUI has actually made 4 attempts to break out above 519. That rarely is a sign of a market ready to crash. Mostly that is a market building up energy to break through a very significant resistance level. Once the breakout occurs it tends to travel a very long ways.

    Gold is also in the timing band for one of these intermediate cycle lows. Just like I warned the stock market bears, it is extremely dangerous to be short gold or miners right now.

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  3. So the idea is SPX and gold move up from here for about 8-11 weeks before roll over again, am I right? SPX 1111 (200-day ma), 1130 (pivot), or 1220 (the high), which is more possible, in your best guess?

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  4. Gold is in a secular bull market so don't count on gold rolling over other than the normal corrections that happen in bull markets.

    The stock market is a different story. If, and that is a big if, this is a bear market rally then it should top within 11 weeks.

    There is no telling yet whether we are in the next phase of the secular bear or whether the cyclical bull still has some more kick left in it.

    I would need to see a Dow Theory sell signal before I'd be willing to go out on a limb and call the bear.

    In the meantime forget about technical levels they will be meaningless. Rallies end when sentiment reaches extremes not when some technical level is reached.

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  5. just because something looks good nominally can be very decieving. i always look at deflated gold prices and gold appears to have ended a supercycle wave 5 of corrective wave B and has now started corrective wave C which will could bring Gold to the 5-300 range before the next bull market begins. the next wave of the crisis is going to hit so fast that everything will be liquidated. gold doesnt have a chance here.

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  6. Whoa, that was nasty comment

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  7. If we are going to get a rally to new highs then what sector is going to lead us there? In 2008 we had oil, gold, coal, and other commodities providing a smokescreen to investors keeping them in the market when actually the indexes had already rolled over and were trending lower. Right now the only leadership sector is gold, and gold is having a hard time breaking 1265, and the gold miners look like crap besides a few of the flagship miners. If the market has to depend on gold miners to provide the leadership higher I think it might be in trouble, at least in the near term.

    The dollar and long term bonds charts still look solid to me. I also notice how SH has pulled back on lower volume than during the last move higher, also good for the bear case. If I was a bull I'd be wondering what to buy right now I don't really see a lot out there.

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  8. China, India, Russia, middle east oil producers, and other smaller central banks would be glad to take all the gold they can get sub $1,000.

    India bought 200 tonnes of gold from IMF in Oct. 2009, paid on average about $1,045. By April 2009, China increased reserves of gold by 76 percent to 1,054 tons.

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  9. Anon 5:53,
    I'll be happy to take that bet. Gold is still in a secular bull market and there has never been one yet that didn't end in a bubble. Gold will be no different.

    There is no way gold will ever see $300 again. I seriously doubt gold will ever see $850 again. And I would put the odds at about 9 to 1 gold will never see $1000 for the remainder of this bull market.

    Justin,
    You don't seem to understand how cycles work. Even if this does turn out to be a bear market rally intermediate cycles just don't roll over quickly. Sentiment has to get bullish again before we can run out of buyers. Then the fundamentals will drag the market back down.

    Now let me point out that gold isn't going to lead a bull market in stocks. Gold & miners have decoupled from the stock market. Despite one of the most wicked corrections in a year and a half gold and miners have barely budged. The HUI can't even hold below 450. That's not weakness my friend, that is incredible relative strength.

    And don't forget gold is due to put in an intermediate cycle low at any time. It is now very dangerous to be short gold or mining stocks.

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  10. i just feel that any model that doesnt adjust for inflation is flawed, if you look at gold deflated...this rally has clearly run out of steam...the 1980's inflation fueled bull market was a true spike that went parabolic at a very low price. dont get me wrong, i love when gold is rising, however the 2010 rally has been weak from a volume and technical standpoint. there is a good chance that deflation crushes gold then sends it $2000-$5000 plus once the printing presses go beserk in a last ditch effort to save the credit fueled ponzi system. nothing wrong with owning physical here but from a trading standpoint i would stay cautious.

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  11. Topping within 11 weeks?

    Toby you have a fat finger and added 1 to many ones.

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  12. Cycles kind of sound similar to Elliot Wave analysis to me, which in my view is open to interpretation. I'd probably use cycle work the same way I use Elliot Wave analysis, which is a secondary tool since I consider it to be interpreted differently by different people more often than a simple support or resistance level.

    I don't think gold will lead a bull market in stocks, but if stocks were to make another SIGNIFICANT move higher, than it would help if the gold stocks started breaking out right now. But until the GDX breaks 55 or so I see no reason to be long gold stocks here, considering the fact that gold has rallied for 2 years now, and has hovered at the same level for multiple months while failing to breakout. All bearish signs in my opinion from someone who has watched gold for quite a while now.

    I think the $1000 breakout level on gold is going to be tested again at some point in the future, I don't know when but considering the fact that no one believes it will be tested again makes me think it has a good chance to be tested. If $1265 was broken significantly I would probably change that view but currently I don't see that happening soon.

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  13. Anon,
    Do your due dilligence and you will see that bear market rallies require time to roll over. Few ever top in less the three weeks. I said 11 because if this is indeed a bear market rally then it should top in less the 11 weeks. That would mean the intermediate cycle is left translated. Left translated cycles have high odds of moving below the prior cycle low. They are the hall mark of bear markets.

    Justin,
    Cycles have nothing at all in common with EW. Cycles are just average durations for human emotions. In the stock market that intermediate cycle tends to run about 20-22 weeks on average. That's about as long as humans can maintain a high degree of optimism before we run out of juice so to speak. Then the market goes through a profit taking correction.

    The cycles tend to shorten a bit in bear markets simply because humans didn't evolve to maintain a high degree of pessimism for long periods. Our emotions tend to exhaust faster on the bear side. Then we need to take a break. That break is a brear market rally.

    At the moment it's just to early to say whether this is a bear market rally or whether the cyclical bull still has a bit more gas.

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  14. Justin,
    I would point out tha Hulbert just noted that the vast majority of gold timers are pessimistic just like you. If I remember correctly the HGSI is now down to about 14%. Considering the highs come in around 89% you can see sentiment in gold and miners is now at the kind of oversold levels that can spawn just the kind of breakout you are looking for.

    Personally I don't buy break outs, I buy dips. This is a bull market after all and in bull markets the correct strategy is to buy dips.

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  15. Technically you can buy both dips and breakouts in bull markets and make money. But personally I do a lot more breakout buying than dip buying since dip buyers get crushed in bear markets from time to time, such as in 2008. Dip buyers usually don't know when to let go in bear markets.

    As for Hulbert, only the price action will determine whether the contrarian view is right or not. If GDX breaks out there are so many beaten down gold stocks it won't be hard to make a bunch of profits just buying them and watching them mean revert anyway. I'm just going to let the price action tell me I'm wrong first.

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  16. Bullish hammer on gold's weekly candlestick chart now. Last bullish hammer was March 21, which led to a 14-week run towards all time high.

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  17. Most retail traders do tend to buy breakouts not understanding most breakouts fail. Then they get knocked out of their position when the move dips back below the breakout level.

    The vast majority of gold's daily cycles do just that. A slight brekout to new highs then a move down into the daily cycle low. Repeat.

    Retail traders trying to ride a breakout just end up losing money in a bull market with this strategy.

    Right now you have a breakout above the significant $1200 level that is holding very well but you are unable to take advantage of it because you keep needing confirmation before you can pull the trigger.

    Me on the other hand I already have 9 years of confirmations. That's plenty in my book. It doesn't matter to me if I don't time an entry perfectly. It is a bull market after all and in bull markets timing mistakes get corrected.

    So I just buy dips and don't worry if I don't pick the exact bottom. All I know is buying a dip means gold was on sale. I like sales! ;)

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  18. I might care if I didn't crush the market over the last year and a half or so (including some fantastic buys on the miners when they were REALLY on sale) but since I have already done that I'm more interested in where we are at going forward than where we've been. And I've also got my long term holding I'm not worried about either that is already quite profitable, it's just I'm interested in a better sale than you are I guess for that position.

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  19. HA HA HA!!! HOO HOO HOO!!!!

    The Toby Plan: EVERYBODY is bearish, therefore I will be bullish, because I'm smarter than the average bear!

    What's more: I will broadcast this secret plan to the public, who will never try the contrarian move of betting bullish because everybody is bearish [because I and others like me told them]

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  20. I have to admit I have no idea what you just said.

    I'm long term bullish on gold. I view it like a value investor. That means when we get dips gold is on sale. I want to buy those sales.

    I could care less what the stock market does. I'm certainly not going to trade it long orr short as long as the secular gold bull remains intact (which should be quite some time yet).

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  21. Toby,

    I am looking at the gold chart and it looks like gold put in a daily cycle low on july 7th, would you agree?

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  22. Yes and it formed a weekly swing low today as long as we hold above the lows come Friday.

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  23. It does appear that gold is crawling up the 50 day MA.

    When it crawls up the bottom of the 50 MA -- does it tend to break to the upside?

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  24. The crawling pattern works best on the downside.

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  25. So, if it is crawling on top of the MA -- it tends to break to the down side?

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  26. Don't you bears just look stupid right about now LOL

    I guess the Tobster knew what he was talking about.

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  27. You bears really should have listened to T.C. you could have locked up all those profits on the short side. Instead now you are watching them evaporate just like he predicted. LOL

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  28. If you're a bull here what do you buy? Seriously, I'd like to know since my scans have hardly pulled up anything worthwhile in a few weeks. Gold stocks are drawing bear flags on the daily chart. Notice how during the recent $20 rise in gold or whatever it was ANV, probably the best performer out there, sat around like a dead duck.

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  29. I guess it depends on if you are trying to make short term money or long term.

    If you are trying to make long term then there is no debate gold and miners are in a secular bull market. Buy and go on vacation.

    If you are trying to make short term then wait for any little pullback and buy the S&P or NDX. Even if this turns out to be a bear market rally these things never top out in 8 days. The average is about 6 -8 weeks.

    As also pointed out bear market rallies never top until sentiment turns bullish again. We are a long way form that happening.

    The problem with trying to trade based on purely technical indicators is that a bottom will never look like a bottom and a top will never look like a top.

    So you will end up missing a big part of the move because you are looking at history (charts are a record of history) instead of anticipating the future.

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  30. Justin,
    Take a look at IVN. This is what happens in bull markets. After long powerful moves there either has to be a consolidation or correction. once it is finished the stock can quickly get back to work. We are seeing that very thing unfold in IVN.

    ANV has also gone through a major move, it too will need to consolidate or correct at some point but I think it is a mistake to read anything into that other than the fact that it probably needs a breather.

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  31. IVN's current move is all news related to the possibility of them being acquired. I use NEM, GG, RGLD for a litmus test on how the sector is doing as well and of those three RGLD looks awful, GG just above awful, and NEM looks just about ready to gap and crap. So all in all it looks to me like the miners are still poised for the typical late summer correction I just don't know how deep it will go. But like I've repeated I'm not as interested when the best performers such as SLW and ANV have ran for so long without a meaningful correction.

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  32. ANV looks good enough for me, up with large, increasing volume, down with smaller, declining volume, I think it is waiting to pop again.

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  33. Nothing goes straight up and the S&P needed a breather.

    Currently, the S& P is down, but 220 million of B.O.W.

    Today is just a breather...

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