OnIslandTrader's Blog : Where to from here?

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Yesterday's washout was the kind of trading action typically seen at the bottom of a correction. We gapped down hard in the morning, but instead of watching investors panic and sell into the weakness we saw buyers step into the market and steadily bring us back to even on good volume. It was the kind of price action that would have warranted removing our hedge earlier in this rally, but something felt different this time. After some review, that "something" turned out to be a major disintegration in breadth over the past few weeks of selling.

Let's review.

The market hit its high towards the end of April and quickly gave up ground on the back of Goldman and Greece. After a short but powerful snapback rally the market gave out once again, eventually taking out the lows of the Thursday panic and lending validation to the initial panic that was supposedly a "technical" phenomenon. Although it seems we have found support around the 105 level of the SPY, we have also built a formidable head-and-shoulders formation in the process. The 115 level will likely prove tough to overcome. If you look closely you will also notice that the S&P is once again below its 200-day moving average. Lots of no goods.


Meanwhile we have seen both the NYSE and Nasdaq BPIs collapse with no turnaround in sight.


At the same time we have seen the number of stocks hitting new highs dry up and the new lows list explode upward for the first time since the rally began.


The Advance-Decline charts are the only indicators bullishly diverging from the market, but even they do not suggest much strength. The cumulative New Highs minus New Lows indicators are some of our favorite breadth indicators -- when the line is rising we want to be long the market and when it's falling we want to be short or hedged. For the first time since the March lows of 2009, the NYSE and Nasdaq High-Low charts are both heading lower (though to the bulls credit you could argue we're in limbo at this point).

Still, when you look at how strongly this line was climbing for the duration of the rally you can't help but be concerned with the recent hesitation.


Despite the recently found support and yesterday's reversal, removing the hedge at this point would be premature. Today's lack of follow through is cause for concern, along with all the weakness in breadth described above. Stay hedged for now, but add to your long positions as strength emerges.