Corrections Take Time, Be Patient

As I surf the twitter and blog world tonight, I see an unusual number of people claiming a market bottom based on “historical readings” among many of the secondary indicators.

Several of my indicators are also starting to enter those same levels but what many are failing to realize is that the market can take several months to complete a full correction and reach a bottom.

See below for the most recent two year chart with individual corrections for both of the recent bottoms in 2010 and 2011 (highlighted below the 20% figure).

As you can see in 2011, the secondary indicator started to flash “bottom” signals in June but the market didn’t complete its volatile correction until September.

In the summer of 2010, the secondary indicator started to flash “bottom” signals in May but the market didn’t complete its correction until July, two full months of up-and-down action.

The lesson: 2012’s secondary indicators started to FLASH a market bottom last Friday, for the FIRST time. Based on past corrections (going back a decade), this will only be the start of a volatile period of up-and-down action that could last several months (the swings can be greater than 10%). Be Patient!

When to Buy – Low Risk & High Reward

This post contains three simple charts that will give all investors a fantastic risk vs. reward setup/ signal. By following these simple charts, any investor should be able to consistently outperform the market (buy when the market is deeply depressed and sell when it becomes over-bought). Please keep in mind that these signals are for longer term investors as they only appear once every year or so.

The three charts represent the % of stocks above the 50-day moving average for the NASDAQ, the % of stocks above the 200-day moving average for the NASDAQ and the % of stocks above the 50-day moving average for the S&P 500.

The recent sell-off has been steep (points only) but unfortunately, we haven’t come close to historic bottom signals. This simple fact (using the charts below) suggests that the market has further room to consolidate so be careful with your buy and sell decisions.

The Gold Climax Top: Down nearly 20 Percent

August 21, 2011: A Gold Climax Top?

Signs are pointing towards a possible climax run for $GLD but please note that this may only be the beginning. Climax runs can push stocks and commodities to extreme levels with parabolic shapes at nearly 90 degree take-offs. Gold is starting to make a similar run, right now!

Well, Gold is now off 16% from that climax top post in August and more than 19% from the ultimate top which is within 1% of a confirmed bear market for the metal.

More important is the recent chart pattern which resembles a Dow Theory Breakdown or 1-2-3 breakdown. This pattern suggests that Gold has further downside.

I don’t know what 2012 will bring but for now, I continue to remain bearish on Gold, especially considering the strength in the US dollar.

With that said, this is the market and things can change in a day so stay tuned to my daily twitter updates (featuring charts and 140 character analysis).

Identify the Primary Market Trend using The Dow Theory

The correct determination of the direction of the primary trend is the most important factor in successful speculation (trading and investing). The primary trend (also referred to as movement) is the broad basic trend generally known as a bull or bear market lasting a period of time from less than a year to several years. The primary trend is the most important of the three movements discussed within The Dow Theory.

The Dow Theory also includes movements such as the secondary reaction and the daily fluctuations. I am not interested in daily action because these short term movements are typically unimportant.

Edwards and Magee said:

“The Dow Theory is the granddaddy of all technical market studies” and “It is built upon and concerned with nothing but the action of the stock market itself (as expressed in certain “averages”), deriving nothing from the business statistics on which the fundamentalists depend”

The purpose of this post is to highlight the Principle of Confirmation which states that The Two Averages Must Confirm. The authors note that this principle has often been questioned and is the most difficult to rationalize of all the principles yet it has stood the test of time.

They go on to say:

“the fact that it has “worked” is not disputed by any who have carefully examined the records. Those who have disregarded it in practice have, more often than not, had occasion to regret their apostasy”.

Please repeat the following rule several times and learn it, understand it and trade by it:

“What it means is that NO valid signal of a change in trend can be produced by the action of one average alone”.

Here is a chart from the 4th edition of their book Technical Analysis of Stock Trends, published in 1957

Now take a look at today’s Dow Jones and Transports. Do you see any similarities?

Of course you do, the Transports have not confirmed the change in trend along with the DOW. In fact, the $DJIA is now back below the resistance line after this week’s negative action.

Many traders on StockTwits, Twitter, blogs and TV (if you still watch financial television) are miffed about the action of the market over the past several weeks, particularly the past week. Well, the trend hasn’t confirmed so the risk is still high that the so-called “leaders” are setting up for failure or head-fakes.

I’ve started to sound like a broken record with my Dow Theory tweets but if it is fact, it is fact. As traders, we must be patient and wait for the confirmation before loading up on new shares. A trend change may still occur but we must cast a shadow of doubt until both averages confirm.

If you don’t want to listen to me, a lowly stock blogger, at least listen to what Robert Rhea said in 1932:

“The movement of both the railroad and industrial stock averages should always be considered together. The movement of one price average must be confirmed by the other before reliable inferences may be drawn. Conclusions based upon the movement of one average, unconfirmed by the other, are almost certain to prove misleading.”

Please note that “railroads” have been replaced with “transports” in today’s world.

Trading can essentially be broken down to managing risk and as Victor Sperandeo stated, “market forecasting is a matter of probabilities; the risk of being wrong is always present”.

So why tilt the risk against you if history shows us that both averages must confirm for a sustainable change of trend to take place. It’s a wacky world out there but the rules haven’t changed so wait for the confirmation before jumping in with both feet.

Market observation from Thursday, November 17, 2011: The NASDAQ has now flashed four distribution days since the start of the month. This is a red flag and a signal to lock in profits and sell losing positions before they grow in size.

Continue to follow me on twitter for daily tweets, charts and links to great articles.

A Gold Climax Top?

Signs are pointing towards a possible climax run for $GLD but please note that this may only be the beginning. Climax runs can push stocks and commodities to extreme levels with parabolic shapes at nearly 90 degree take-offs. Gold is starting to make a similar run, right now!

I have nailed several climax tops in the past and will use two prominent examples to highlight the extreme runs they made before dropping hard. These examples will also show us what to look for when selling into exhausting strength and possibly taking the opposite side of the trade on the down side.

Both Platinum $PL_F and PetroChina $PTR formed climax tops that I highlighted in real time on the blog back in 2007 and 2008. I started to notice both climax tops early in the run so use that information when analyzing my take on the current $GLD chart. I am most likely early and I feel that gold may have more rebound power if it does start to drop. What do I mean? I mean that Gold may drop hard (short-term), only to find support and then resume its up-trend.

I don’t know if Gold will fall apart the way that Platinum and Petrochina did a few years ago because the global economy is in bad shape and humans have been programmed to turn to the shiny metal as protection against “all things bad” – such as fiat money, recessions and depressions, etc.

Platinum Climax Top? | February 18, 2008

What catches my eye is the extreme run-up over the past two months as the metal seems to be making a climax run (out of character during the 10-year up-trend). Similar action started to happen in PTR and I highlighted it in the exact manner as I am doing here with $PL_F in a post titled The Real PTR Climax Run.

The Real PTR Climax Run? | October 10, 2007

…the HUGE volume on the latest push to new highs clearly indicates something is going on.
…a climax top is where the stock has advanced for many months and suddenly races up for one or two weeks much faster than any prior one-or two-week period or since the beginning of the stock’s long move up.