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November 29, 2009

It Has Begun

The markets snuck in some ugly action over Turkey Day. Nothing like commencing a serious sell-off while the public is distracted by a major holiday, eh?. Was it just a coincidence that the spyders saw $675 million in SoS during the session just prior to the announcement of Dubai's debt default? I think not. I also believe that retail traders view the bearish action as just an anomaly of light-volume trading. These folks are going to feel trapped under the weight of a heavy, red candle next week, in my opinion.

s&p 500 weekly chart

s&p 500 chart

Relative weakness also continued to be a burden to bank stocks:

banking stocks index

At this point all indicators point heavily in favor of our fabled correction having begun. This correction should be steep enough to convince bulls and bears alike that the market is heading into the abyss. I suspect SPX 950 is in the cards since this important pivot is converging with the lower band of the crash channel. However, SPX 875 is not out of the question. As regulars know, I do not like to incorporate targets into my trading, but at the same time, a trader must be aware of potential pivots in order to protect profits. As equity indices approach important pivots, I will consider the usual suspect list of indicators in order to determine when to lift hedges.

Speaking of hedges, let's burn a paragraph or two discussing strategy. As noted in previous posts, I expect this correction to take down just about everything that has been rallying throughout 2009... including precious metals. At the end of the correction, PMs should begin a parabolic move to shame previous cycles in this bull, while equities make a meager attempt at 2009 highs. The Docfolio has already shed leverage with regard to precious metals, and I have partially hedged my mining shares by selling calls against my pile of GDX. My net exposure is still quite large, but I am in no mood to sell anything else. First, I could always be wrong about any type of serious correction or I could mis-time my re-entry. Second, the markets have offered us the perfect way to hedge:

spx to gold ratio

I used Friday's mid-day bounce to bulk up my equity shorts, and I plan to add a bit more as conditions warrant. The beauty of this play lies in the SPX/GOLD ratio: the hedged portion of the Docfolio should make money regardless of market direction. By the way, while I use the SPX for analysis, my short line has been taken on the Russell 2000 because it has recently been the weakest of the indices I watch.

When the correction is over... or more specifically, when I perceive it to be over... I will lift equity shorts and lay on some leverage via silver futures. Typically, silver will vastly outperform gold during the parabolic phase of a cycle. I also prefer to add silver rather than augment mining positions... despite my expectation that mining shares will outperform even silver... due to the fact that the futures are traded nearly 24 hours. I expect the end of the parabolic move to be extremely volatile, and the ability to shed exposure overnight can be quite valuable.

 

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