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November 25, 2008

Holiday Handles

Yesterday, I described my plan to patiently wait for the first pullback, judge its nature, and execute accordingly. Well, Tuesday's session presented a very orderly decline, followed by some late-day action which has the scent of the early part of a breakout. I added a little to the long side via NDX futures, and would be quite optimistic save for one teeny problem:

bond chart

The Fed continues to commit mind-dumbing amounts of money to soak up bad assets, and a dearth of public figures exists to question the fact that this money is being created out of thin air. At some point bonds will force discipline on the Fed by sending rates higher. Perhaps such enforcement is what will erode the stock market on the other side of the mid-term rally. But first we have to get the mid-term rally, and this panic buying of Treasuries... for it can be described as nothing else... implies that some major hurdles still stand in the way. To accept a 3% yield while the money supply is being inflated at 15% (or more) carries implications of disaster. The spread also betrays how quickly bonds will crater once the floodgates open.

The good news is that stocks shrugged off today's bond action. Furthermore, it's interesting that bonds soared while the dollar tanked, so there are some interesting dynamics at work here... a huge tug-of-war that will likely lead to an explosive move. Perhaps a straddle isn't such a bad idea even with currently inflated option premiums. An ATM straddle on ES contracts costs just under 100 points. Think the SPX will move 100 points between now and the third Friday of December?

Let's zoom in on the action:

index chart

Nicely done, I would say. The market gods were not without their pernicious tendencies, though, as they gunned for SPX 850 just before the close, but the market held on to finish above that important pivot. I expect the breakout to continue into Friday's 1:00 close, but as you can imagine, I'm on edge about those expectations. Of course, we have a positive holiday bias working in our favor Wednesday and especially Friday. Let's see if the SPX can stack some handles before December hits.

I often get asked about targets for moves. In general I don't like to ponder them. Targets are hard to use properly, which is to say they should only be used to force a reduction in position size. When conceptualized improperly, targets keep traders in positions too long because the trader focuses on the target rather than what the charts say, and the charts may be screaming "get out!" That said, I expect another strong leg unfold, perhaps with a gap higher on tomorrow's open. I will reduce my positions in the SPX 970-1000 range unless something tells me to exit beforehand.

index chart

It's possible the correction will take more time and mark a different low, but the longer it lasts, the less likely we see positive resolution.


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