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From our last choke points commentary on Dec. 26th.2007, the estimation was that a contraction in volatility and price range of the S&P was occurring from the Aug. 2007 lows to the Oct. 2007 highs and that a price expansion below ~144 using the SPY was to be sold into the lows of the Aug. 2007 level, and a price expansion above ~ 149.50 on the SPY should be bought for at most a ~10% price move higher. As perfect hindsight dictates, the former of the two was so easy to see as the only obvious choice to make!!! That move having played out for the time being and a wash of the Aug. 2007 lows a fading memory, the only thing to determine is now what? To say that the breach of the Aug. 2007 lows was no small event is an understatement. It is my strong belief that we are now in at what can be described as a worst/best case environment for the entirety of 2008. I absolutely laugh at when the talking financial media monkeys come out and say something like… “Well, we’re long term investors so over the next 3 years stocks are going to do such and such…” Please…! Tell me what is going to happen in the next 3-5 days before you try selling me the winning lottery ticket 3-5 years from now! In that case, to make the statement as to the worst/best case environment for 2008 seems a bit hypocritical, yes? Well, what I will do within that statement and it’s inherent constraints is my best to estimate where the highest probability direction for the next 5%-10% price move will be first for the SPY and then describe my best estimation for the market structure within that context for longer term 2008. As always, estimates are subject to change as further events evolve, so this estimate will also be subject to evolution with those events along with price action. My worst case scenario is in the context of a trending lower stock market environment, where the first bear market low having been established on Jan. 22nd 2008 and the current move up off those lows can take the SPY up to 142.50 and as high as 150.50. I use the term “as high as” for the specific reason that the Fed./Treasury are again using what Alan Greenspan termed back in 2002 in his speech to congress as “unconventional means”… “ to support financial markets”. This… anything goes …type behavior, by the those with the electronic printing press, can and will have violent, short term, upside price impact and makes it very difficult for free markets to follow their natural path, but in the end the outcome remains the same, just like the alcoholic going thru the DT’s, so is the “stimulus” plan, which is currently being poured into the mouths of the financial/credit based markets as the equivalent of “more booze”. If you really want to have fun with these monkeys, everyone that gets a stimulus check, might consider taking that check and go out and buy gold with it! That would really be fitting, don’t you think? But I digress… Because trading and investing is a day by day process and those looking for crystal ball exactitude won’t get that here, I’ve attached the chart below to give a best estimation of where those that may be looking for “an area” to get out of any current long positions, an area that I’ll call “A Gift”. This area represents a 12.5% to as much as a 20% bounce from the Jan. lows. I know that is a big window, but when the price action risk/reward set-up presents itself as acceptable, it will only then be revealed, until then, patience is the discipline.
Presently, the probabilities for the SPY favor the continuation lower without a breach of the Feb.1 highs in my estimation. Everyone looking to get out of their longs and all the shorts looking to sell higher are usually the two largest groups and the most frustrated. Remember, markets don’t go down because short sellers drive it down, they go down because longs are liquidating and there are no more buyers to push it higher. Those two groups are begging for the “kill zone” as referred to in the chart Now I make the above statement with the disclosure that I am currently short 35% - 50% from Mon. Feb 4th. 2008, currently looking for a deeper test of the Jan. low using a Rydex EOD approach and can stop flat and/or reverse at any EOD without notice. That said, as the conclusion to my worst case scenario, should the SPY present the gift of retracing back up into such kill zone, my worst case scenario will be looking to sell short 100%-200% using the Rydex EOD system approach with the estimation in mind that the SPY is making it’s first significant bear market rally and that the lows of Jan.22nd will eventually be broken lower by at least 5%. I will write my best case scenario following this choke points 3 article over the next few days in my choke points 4 article. Stay tuned. Remember… the recent Jan. lows were put in by more electronic money printing and cheaper credit under what I would consider false negative pretenses of the SocGen. events. The commercial credit markets and banking solvency issues are currently being given “pain killers” to make the impression of stabilization, there has yet to be a true house cleaning of all the “dead wood”, look at Japan’s stock market for a bigger picture reference.
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