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“The Stock Market Broke on Wednesday!” That was the title of my Market Wrap-Up four weeks ago. Following that article, I was quoted in the same breath as Richard Russell, and the “Comstock Boys”, people for whom I have the utmost respect and admiration. I felt like a genius then. Today, based on a recent phone call from my friend Dave, I’m an idiot. The recent stock market action, consisting of a lower low and a heap of panic buying, although impressive, was not healthy. At the same time those fundamental market commentators painted as “perma-bears” are being ridiculed in some circles. That’s the way it has always been. The stock market is designed to fool most of the people. Unlike the Discovery Channel, in the stock market, avoidance of peril usually comes from not running with the herd. Has this changed? I don’t think so. In my view, it’s a good time to have cash, some speculative issues in sectors that are “hot”, and a pocket full of Nasdaq puts as a risk reduction measure. Panic buying, as indicated by practically vertical moves in indices and stocks should be viewed with caution and suspicion. It would also be foolhardy to depend on any organized support of the stock market rumored because of the presidential election. Tonight, I would like to back up these views by examining representative charts and stocks.
Recently, after the bull run of almost 1-1/2 years beginning in October 2002, there has been the appearance of broadening formations on the charts of some key leading stocks and indices. Although after last week’s rally, public optimism is at a high level, and those fundamentally bearish on the market are being dismissed as “perma-bears”. However, there are some indicators that soon reality will find its way to the stock market. This is shown in the appearance of several bearish “Broadening Top” patterns. I will quote from Technical Analysis of Stock Trends, 8th Edition by Edwards and Magee, originally written in 1947. “There is one particular manifestation – a special case, as the mathematicians might say – of the Broadening Price Formation whose general nature we have discussed… This particular form appeared at the 1929 Tops of many of the active and popular stocks of that day, but with less frequency at the Bull Market highs since 1929…. It is known to market technicians under the specific name of Broadening Top, and although it conforms to our general descriptions for all Symmetrical Broadening Price Patterns, it has been so precisely defined, and so often cited on technical writings, that we may well take some time to examine it. The Orthodox Broadening Top has three peaks at successively higher levels, and between them, two Bottoms with the second bottom lower than the first. The assumption that has been that it is completed and in effect as an important Reversal indication just as soon as the reaction from its third peak carries below the level of its second Bottom….” Here are five examples of possible Broadening Top Formations that have not yet been completed, but deserve watching for potential short sales, or put purchases, if and when the patterns are completed. They are Intel (INTC), the AMEX Semi-Conductor Index (SMH), Footlocker (FL), General Electric (GE), and Wal-Mart (WMT). As Edwards and Magee suggest, they are “active and popular stocks of that (our) day”. Intel (INTC)
In spite of the recent panic buying rally in technology and semiconductor stocks, the Intel chart looks weak. It has completed 4 points of the 5-point pattern. Will it make it back to a higher high? In this speculative environment, it’s quite possible. A decisive break of the lower “neckline” formed by 29.66, and 26.03 (whether or not the Broadening Top were completed), would suggest a price target in the low 20’s or less. True, there are several other reversal patterns that could be suggested by an inspection of the Intel chart, including the previous and now completed double top pattern. One of the more obvious technical observations is that the 50-day moving average served as support from March of 2003 until early December. Now, it may be serving as resistance, and probably a good entry point (with stop loss) for those aggressive short sellers that still have some capital left. Note also the bearish implications of the downward sloping 50-day moving average crossing the 200-day moving average. Semiconductor Index While not as immediately as weak as Intel, the semiconductor holders index may also be forming a broadening top. As with Intel, it might not make a higher high required to complete the Broadening Pattern; however, clearly the pattern of lower lows is not a good technical sign. A decisive break of the lower low trendline would likely signal much lower prices, and a profitable shorting opportunity. In my view, with the panic buying going on, “you can afford to be patient”. Wait for the completion of the pattern, or a broken (down) trendline before establishing a position.
Footlocker As with the prior two charts, Footlocker (FL) has yet to complete its’ Broadening Top pattern. The pattern would be completed if FL were to make a higher high, consistent with the trendline shown, and then break below the lower low trendline which includes the two lower lows. A head and shoulders completion (with the lower line as the plunging neckline) is also a possible bearish chart pattern worthy of observation and (possible) completion. The lack of volume during the, as yet, uncompleted right shoulder suggests head and shoulders will probably be the completed reversal pattern for Footlocker.
Are there other characteristics are worthy of note in our bearish Broadening Patterns? “…The Broadening Formation may be said to suggest a market lacking intelligent sponsorship and out of control – a situation, usually, in which the “public” is excitedly committed and which is being whipped around by wild rumors. Note that we say only that it suggests such a market. There are times when it is obvious that those are precisely the conditions, which create a Broadening Pattern in prices, and there are other times when the reasons for it are obscure or undiscoverable. Nevertheless, the very fact that chart pictures of this type make their appearance, as a rule, only at the end or in the final phases of a long Bull Market lends credence to our characterization of them….” Volume …”With the Broadening Formation, trading activity usually remains high and irregular throughout its construction. If it develops after an advance, as is almost always the case, the first Minor Reversal which starts the pattern will occur on large turnover, with will the second rally in the pattern, and the third, and high volume also frequently develops on one or more of its Minor Bottoms. The whole picture – both price and volume – is, thus, one of wild and apparently “unintelligent” swings.” Wild rumors? An excitedly committed public? Unintelligent price and volume swings? Do these words, written in 1947 sound familiar? Nothing has changed on Wall Street. It is time to keep the gunpowder dry and wait for this insanity to end. This is likely to be indicated by decisive breaks in the technical patterns, such as the broadening patterns and the plunging necklines illustrated above. Broadening Pattern Entry Point – General Electric Edwards and Magee make clear their recommendations on the pattern. They stress the importance of patience to confirm the pattern, “The assumption that it (the pattern) has been that it is completed and in effect as an important Reversal indication just as soon as the reaction from its third peak carries below the level of its second Bottom”. Some aggressive traders may be inclined to enter at point “5”, with a stop loss at a decisive break above the upper neckline. Here is an example of a popular issue of our time, General Electric that formed the 5-point reversal pattern but did not complete the pattern by breaking below the neckline.
While point 5 could have been shorted for about a 10% gain, with a tight stop loss for risk protection, failure of General Electric to break below the neckline indicated that the pattern was not valid and no major reversal took place. Although the overall chart shows wild swings, the most recent action is that of a stock that is in a sloppy uptrend. Wal-Mart – Broadening Pattern Institutional favorite Wal-Mart has completed all 5-points of the Broadening Pattern, yet the neckline has not been broken yet. Below is a weekly chart with the points noted.
More illustrative of the speculative nature of the general stock market and Wal-Mart in particular is the daily chart of Wal-Mart. Note the wide gap.
The chart shows wild swings inspired by a constant barrage of press releases, and a stock that has under performed the Dow Jones Industrial Average. “The Broadening Formation may be said to suggest a market lacking intelligent sponsorship and out of control – a situation, usually, in which the “public” is excitedly committed and which is being whipped around by wild rumors.” Also note the wild trading volume swings of late. “The whole picture – both price and volume – is, thus, one of wild and apparently “unintelligent” swings.” Summary/Conclusion The market is showing characteristics of a speculative top as indicated by the appearance of broadening patterns. This is indicative of a market that is manically moving on rumors with wild swings of both price and volume. While the crowd still appears very optimistic, the wild rallies should be viewed with sober caution and suspicion. Hedging speculative long positions may be a prudent way of navigating this wild ride. Is There a Greenspan Put? – Chart Suggests, “Not Necessarily” It seems to be almost common knowledge that the Fed will do whatever it takes to levitate the stock market because this is a presidential election year. This is known as the Greenspan Put. The Greenspan Put is on the lips of practically everyone that works in money management and the financial media. This statement is also ringing in offices, health clubs, the mall and coffee shops in suburbia. It’s difficult for me to imagine how the overwhelming majority can be so right on an issue about the stock market! Many of those exposing the Greenspan Put, are citing historical trends in the stock market. But is there such a historic precedent? Below is a Nasdaq chart covering the last three presidential election cycles. Note the market action between the Blue and Red vertical lines, corresponding to January 1 to November during presidential election years.
Of the last three presidential election cycles, the market went lower in two of them. Greenspan was the Fed Chairman through the last three presidential election cycles, yet the market went down during the 2000 election, which resulted in George W. Bush in office. The stock market also went down during the 1992 campaign to try to reelect George Bush senior. Senior was defeated and Bill Clinton took his first term in 1993. The market rallied in the 1996 election year when Bill Clinton defeated republican Bob Dole. So is there a Greenspan Put now? The charts do not support that there is a Greenspan Put. Yet why does the Greenspan Put seem to be on everybody’s lips? And why does it seem that everyone is thinking the same thing at the same time? In the absence of technical evidence of a Greenspan Put, I’ve also heard it conjectured that Greenspan has some incentive to get George W. Bush reelected, because he failed to help get George Senior reelected in 1992. Alan Greenspan is 78 years old. Although the man appears to be very fit for his age, it is difficult for me to believe that reelecting George W. Bush is an important agenda item for Alan Greenspan at this time in his life. Is it possible that there is a Greenspan Put, as so many people suggest? Yes, it is possible. Can we say with certainty that there is a Greenspan Put? Not necessarily. Would it be unreasonable to assume that the existence of such a “Put” would save the stock market if there were a crisis? I don’t think so, and I’m not investing my money as if there were such a safety net either. Today’s Market Here’s one more potential broadening top – the Russell 2000.
The stock market had a lot to digest this morning:
So with all of this good news what happened to stocks? All indices were near the flat line. This was surprising to me. I thought all of the good news would result in a good old Nasdaq party, especially the day before a holiday. Behold the reversal of 10-Year Note interest rates. The break of the descending triangle is but a distant memory. As I told Walter Traversy on CFRA radio 580 in Ottawa Canada after the descending triangle broke to the downside a few weeks ago, “I’m no bond expert, but I can’t believe what the chart is telling me. It is (was) telling me that interest rates are (were) going down.”
Gold was down $2.70 per ounce to close at $419.40 per ounce and silver finished down $0.10 to close at $8.07 per ounce. The XAU and HUI were each down about 1% for the day. The dollar index was up $0.73 to close at $88.97. The dollar has been meandering since early March. Have a great evening! Martin Goldberg
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