First it was Greece and now it’s Spain, which lost its AAA status after it was cut one notch by Fitch Rating.  Also contributing to the nervousness was further deterioration in relations between North and South Korea.  What should have been quiet day with seasonal upside bias turned into the worst performing May for the Dow Industrials since 1962.  The Dow closed down 122 points to end at 10,136.63.  The S&P 500 Index lost 1.24% and the Nasdaq Composite dropped .91%.  The Dow and S&P turned in their biggest monthly losses since February 2009 and the Naz turning in its worst monthly loss since October 2008.

Are the other PIIGS next?

Energy took it on the chin again as crude oil closed just under $74/barrel.  DUG, the leveraged short oil & gas ETF, gained 4.10% after successfully testing a pullback to its 200-day SMA.  FAZ, the 3x financial bear ETF rose 5.51% but is still below its 200-day SMA. EPV, the leveraged short Europe ETF, added 3.27%.  SMN, the leveraged short basic materials ETF, rose 3.55%.  Please click on the symbols for details.

Despite the poor action today, QQQQ, the Nasdaq-100 Index ETF, is doing its darndest to hold above its 200-day SMA.  The moving average is right on top of the 23.6% Fibonacci retracement level, which you would think is bullish.  The problem is, QQQQ has formed a diamond top, which is found in the distribution phase of an asset’s life-cycle.

Put another way, QQQQ is forecasting a heap ‘o trouble.

Until it closes below the rising support line it’s too early to say for sure which direction it will take.  The weekly chart below shows you what I’m referring to.  Please click on it to make it full-screen:

To forecast the downside price level, you add the height of the diamond from turning point to turning point, and subtract this from the breakout point.  The diamond is 9.1 points “tall” so subtract that from the support line.  Assuming QQQQ broke down next week (the red down arrow), the forecast target objective would be:

43.70 – 9.1 = 34.60

And lookie at what that coincides with that target objective – the 61.8% Fibonacci retracement level at 34.83.  You may recall from previous blog entries on Fibonacci that retracements of 61.8% are commonly interpreted as meaning the previous trend has reversed.

The Nasdaq has had the best relative performance of the major indexes since the March 2009 lows.  The bigger they are, the harder they fall, right?  Maybe, maybe not…past performance is no guarantee of future returns.  The answer to that question is something we will know in the fullness of time.

Please take a minute to remember and reflect on the brave men and women who died while in military service for our country.

Enjoy your weekend.

Not quite yet.

The Dow jumped up 284 points higher today to close at 10,258.99, on news of China’s commitment to continue investing in Europe.  The S&P 500 Index rose 3.29% and the Nasdaq Composite gained 3.73%.  Today’s move was accompanied by a sharp rise in commodity prices and a sharp sell-off in Treasury bonds.

Oversold bull ETFs made big gains today.  URE, the leveraged real estate bull rose 10.81%.  It never closed below its 200-day SMA so you may want to consider this one for a long swing trade on a pullback.   UCO, the crude oil ETF gained 10.49% on rising oil prices and an improved market tone.  RSX, the Russia ETF, added 9% on more than double its average volume.  Semiconductors has a big day and USD, the semi ETF, jumped back above its 200-day SMA to add 9.30%.  Please click on the symbols for details.

I’m not overly impressed by today’s action.  For starters, there’s the matter of volume.  Yes, I know we’re heading into a holiday weekend and the short-term bias is up (see the December 4th blog entry, “It’s Always Something”) but volume was only slightly above average for the Dow Industrials and the S&P 500 Index and below average on the Nasdaq.  The volume trend has been decreasing the past few days.

Second, there’s a matter of Dave Landry’s Big Blue Arrow, which he uses to identify directional bias.  Both the Dow Industrials and the S&P 500 Index are still below their 200-day SMAs.  The Nasdaq is back above the SMA, which shows its relative performance is better than the other two indexes.  All three indexes continue to trade in descending trend channels.

TLT, the 20+ Year Treasury Bond ETF was a big winner going into the May 6th market collapse, using the bow-tie strategy (see the April 28th blog entry for details).  With the positive move in equities today, bonds sold off and TLT gave back 2.32%.  The pullback notwithstanding you would still be long, based on the strategies exit rules.  Please review the chart below, which you can make full-screen by clicking on it:

Dave Landry, developer of the bow-tie, suggests holding the trade until the ETF starts trading back to or below its 20- or 30-day EMA. That doesn’t mean you should automatically sell there, although taking partial profits is never a bad idea. Use other technical indicators to confirm the trend is changing. If you’re still in the ETF and the moving averages reverse to a proper downtrend order, however, exit the trade.

My personal preference is to hold the trade as long as the moving averages don’t reverse into the proper downtrend order. It’s okay to continue holding the trade if the 10-SMA falls below the 20-EMA, as long as the 30-EMA is still below either the 10 or the 20.

If you’d rather take profits sooner rather than waiting for the moving averages to reverse into a proper downtrend order, consider using a trend line violation as your trigger.  I added a thick black rising support line to the chart.  Closing below this line would also be below the 20- and 30-day EMAs, as per Landry.  That would still get you out with a nice profit, albeit giving back quite a few percentage points.  The candlestick pattern of three long black bars from last Friday and Monday/Tuesday of this was a clear warning sign that there was selling pressure underway.

I think today’s action was short covering off the news out of China, coupled with the pre-holiday bias higher.  Until all the indexes are trading back above their 200-day SMAs, I consider the trend still to be heading down.  It wouldn’t be the first time I’ve been wrong, however, and like you I will have to wait to get my answer in the fullness of time.

The market did its best to follow-through to the upside on yesterday’s reversal, but gave up the ghost in the final hour to close near the low of the day, surrendering over 200 points from today’s high.  The Dow Industrials closed at 9,974.45, its first close below 10,000 since February 8.  The S&P 500 Index lost .57% and the Nasdaq Composite dropped .68%.  The S&P Midcap Index turned in a gain, however, up .26%, and the Russell 2000 Index rose .37%.  Stocks fell on reports that China may consider reducing investments in European government bonds, triggering concerns the credit crisis will worsen.

UCO, the leveraged crude oil ETF, gained 5.49%.  It is extremely oversold here.  AGQ, the leveraged silver ETF, rose 2.90% but closed near its low of the day.  IDX, the Indonesia Index ETF, added on 5.16% and is back above its 200-day SMA.  Please click on the symbols for details.

GLD gapped open higher and closed up .95%.  Time to start watching for a Gatekeeper short entry strategy rather than the First Thrust strategy I discussed yesterday.   You want it to rise back to its 61.8% Fibonacci retracement level (around 119.30) or ideally, it’s 78.6% level (around 120.60).

ITB, the home construction ETF, exited a 3-day High/Low long trade after closing above its 5-day SMA.   The initial buy was on May 17th at 14.11 and the strategy scaled in a second unit on May 18th at 14.00.  Today’s exit at 13.18 resulted in a loss of 6%.  Please see the blog entry from May 20th for details on the entry.

The indexes are approaching their lowest closes of the year, which occurred in early February.  QQQQ, the Nasdaq-100 Index ETF, is trying to hold above its 200-day SMA but isn’t doing a good job.  Please note that the SMA and the 23.6% retracement level of the 2009 – 2010 advance are almost on top of each other, but QQQQ isn’t finding much support there so far this week.  There is strong support at the 38.2% level (40.87), as seen on the weekly chart below.  Yes, this is a weekly chart on which I plotted daily moving averages, so don’t get confused.  Please click on the chart to make it full-screen:

The 38.2% level is 7% below today’s closing price.  What interests me is that if Qubes drop that far and do find support at that level, it is well below the 200-day.  A rally from there may be an opportunity for setting up a Gatekeeper or First Thrust short entry.

On the one hand I hate to think of the Qubes dropping another 7%…that’s a lot more pain for people to live through.  On the other hand, our “job” is to trade the markets unemotionally and to try to make money regardless of whether the markets are going up or down.  Which direction it ultimately settles on is something we will know in the fullness of time.

The job of Mr. Market is to confuse the largest number of people in the shortest period of time, a.k.a. zigging when everyone else is zagging.  Well…he did it again.  Within minutes after the opening all the major exchanges were down 3%.  The rest of the day, however, the market clawed its way higher and the Dow Industrials closed down just 22 points at 10,043.75, after being down as much as 287 points.  The S&P 500 Index actually closed up .04% and the Nasdaq Composite closed down only .12%.  Sabre rattling in Korea and more worries about Spain’s credit markets added to the concerns this morning.

That great whooshing sound you heard?  That was Wall Street exhaling a sigh of relief.

Both bullish and bearish ETFs made gains today.  CZI, the 3x China Bear ETF, gained 4.76%.  TLL, the leveraged short Telecommunications ETF, added 2.67%.  But UYM, the leveraged basic materials ETF rose 3.84% and XME, the S&P Metals & Mining SPDR, was up 3.04%.  Please click on the symbols for details.

Today’s action on the Dow and S&P 500 Index was in candlestick terminology, a bullish hammer.  This ‘stick has a small body near the high, a long lower wick and little or no upper wick.  They look like this:

Today’s low on the major indexes was below the May 6 low so it’s possible the markets are completing the Corrective wave C.  On the Dow Industrials there were two bullish hammers in the last three days, a possible sign a bottom is  forming.  Please click on the chart to make it full-screen:

Note that volume was well above average today whereas it was just below average on Friday.

Today’s positive action notwithstanding it’s important to remember that the indexes are below their 200-day SMAs.  So too are many bull ETFs.  Price throwbacks like today should be evaluated for opportunities to set up short entry strategies, like the Gatekeeper and First Thrust.

Developed by my AAPTA colleague Dave Landry, the goal of the First Thrust pattern is to catch a major transition at the earliest possible point.  The rules for buys are simple, as are the rules for sells.  First, for buys:

1) The asset makes a major new low.

2) The asset must then rally sharply.

3) The asset must next make a lower high and a lower low.  In other words, the first sign of a correction: a 1 – 2 bar pullback.

4) Go long above the high of 3.

Reverse these for sells:

1S) The asset makes a major new high.

2S) The asset must then pull back sharply.

3S) The asset must next make a higher high and a higher low.  In other words, the first sign of a correction: a 1 – 2 bar pull up.

4S) Go short below the low of 3S.

The rise the past two days in GLD may be an ideal First Thrust short setup:

GLD has retraced 38.2% of its decline from the high two weeks ago.  Retracements that get no higher than 50% are not considered trend reversals, i.e., if GLD doesn’t go much higher, the down trend is considered to still be in force.

Note how volume the past three days has been much lower than it was the previous two weeks.  The short entry would be taken if GLD starts trading below today’s low.  Don’t want to short or can’t short because you have an IRA?  Consider buying GLL, the leveraged short gold ETF, if GLD starts trading below today’s low.

It’s very possible that GLD will continue trading higher rather than undercutting today’s low.  If that’s the case then wait and watch to see if it retraces at least 61.8% and preferably 78.6% of the decline since the May 12 high.  If it does so, that would be a Gatekeeper setup.  I discussed the Gatekeeper strategy in last Friday’s blog entry, on May 21st.  If you short GLD on the First Thrust  or go long GLL, and it reverses with GLD trading above today’s high, you might want to consider exiting the trade.

We don’t know what the markets are going to do tomorrow but we do know Mr. Market will do his best to confuse the heck out of us.  Only he knows what will be in the fullness of time.

The market rolled over today after making a valiant but ill-fated attempt to follow-through to the upside after Friday’s gains.  The Dow Industrials lost almost 127 points to close at 10,066.57.  The S&P 500 Index fell 1.29% and the Nasdaq Composite dropped .69%.  Continued concerns over Europe’s debt crisis beat out Morgan Stanley’s raising its target price on Apple Inc.

News before the open about the seizure of a Spanish bank tanked financial stocks today.  SKF, the leveraged short Financials ETF, rose 5.07%.  The U.S. Dollar rose again in reaction to continued pressure on the Euro, so DUG, the leveraged short oil & gas ETF, climbed 4.64%.  Silver did well and AGQ bounced back above its 200-day SMA, adding 3.40%.  Despite the good news about Apple, SSG, the leveraged short semiconductor ETF, gained 2.91% and is tip-toeing up to its 200-day SMA.  Please click on the symbols for details.

Most technical analysts and even some fundamental analysts utilize technical indicators in their evaluation of the market.  Who doesn’t look at where the market closed in relation to its 200-day SMA, for example?  So why is is that at times certain indicators seem to be very reliable in predicting market action, e.g., finding resistance and support levels, and at other times the same indicators don’t work well at all?

With the exception of volume, technical indicators can be characterized as either trending or non-trending.  Examples of the former are moving averages, MACD (Moving Average Convergence/Divergence), and DMI (Directional Movement Indicator).  Examples of the latter are stochastic and RSI (Relative Strength Indicator). Another way to describe indicators is to characterize them as either oscillating or non-oscillating.

Trending indicators are more reliable when the ETF is trending.  Buying on pullbacks during a trend is a common theme in Dave Landry’s, Larry Connors’, and Cesar Chavez’ swing trading strategies.  A pullback to a major moving average like the 50- or 200-day SMA frequently act as as support when the market is rising or resistance when the market is falling.  We saw that with the SPY two weeks ago.  Please click on the chart below to make it full-screen:

The SPY ran into strong resistance at a confluence of the 50-day SMA and the 20-day EMA.

When the asset is non-trending, i.e., oscillating, it is trading within a range.  Buying near the bottom of the range and selling near the top of the range are effective ways to capture a profit.  Below is a chart of GLD range-trading in February and March:

So how can you distinguish between when an ETF is trending and non-trending?  If it has been trending for some time, that’s easy to see.  Dave Landry draws a Big Blue Arrow in the direction of the trend in these cases, and trades in the direction of the trend.  But what if the ETF hasn’t been trending very long or you just can’t tell?

ADX to the rescue!

ADX stands for Average Directional Index indicator.   The ADX indicator measures the strength of a trend and can be useful to determine if a trend is strong or weak.  The indicator is a combination of the positive directional indicator (+DI) and the negative directional indicator (-DI). These three lines make up the Directional Movement Index (DMI).

The +DI tracks the upward trend of the stock, while the -DI tracks the downward trend. ADX combines the two and produces a unified trend strength indicator.  High readings indicate a strong trend and low readings indicate a weak trend or lack thereof.

It is very important to note that ADX measures the strength, not the direction, of a trend.  You could take two ETF’s moving at the same rate of speed, with one trending  higher and the other trending lower, and they will have similar ADX values.

When the ADX is above 30 and rising, the trend is strengthening.  When it’s below 25 and falling, the trend is weakening, i.e., becoming non-trending.  When ADX is 20 or below, particularly below 15, the stock/index/ETF has “non-trended long enough” and you should anticipate a new trend begining soon.  Use other technical indicators and/or chart pattern interpretation to forecast the direction.

When the action is bullish and the ETF is trending higher, +DI appears above -DI on the chart.  When the action is bearish and the ETF is trending lower, -DI appears above +DI.  When non-trending, the +DI and -DI lines will cross over each other frequently.

So let’s look at the two charts above but with ADX included in the chart.  First, SPY when it was trending:

Note how on the days SPY bumped into its moving averages and stalled, ADX was near 30 and continued rising.  The SPY was in a strengthening downtrend.

Now the GLD chart with ADX:

Back in late February through late March when GLD was trading in a range, you can see the ADX was very low (below 15).  With a low ADX you want to use oscillating indicators like stochastics to identify price levels at where you want to look to buy and sell.  I highlighted with yellow circles how the stochastic indicator accurately identified the selling level (March 3 – 5) and the buying levels (March 12 – 15 and 24 – 45).

Remember to use the DMI indicator to determine the direction of the trend.  ADX measures strength but not direction; +DI and -DI measure which trend (bullish or bearish) is stronger

When GLD was range-bound, you can see how ADX was very low and the +DI and -DI kept crossing through each other.  When GLD broke above the rectangle high in mid-April and ADX started rising, the +DI rose above the -DI and stayed above it until last week:

No indicator works all the time, of course, and they are subject to interpretation.  A common mistake made by many newbies to TA (and unfortunately, some experienced technicians as well) is to use the wrong style of indicator at the wrong time, e.g., using trending indicators during non-trending conditions.  Then they wonder why the indicator “isn’t working.”  Find a few indicators in each style you find useful, e.g., moving averages for trending and RSI for oscillating, and use them in conjunction with the ADX.  With practice you should find your “prediction” skills improving and your account balance trending higher.

The markets rallied from an oversold posture today on the heels of Congress passing the most comprehensive regulation of the financial industry since the Great Depression.  Coupled with increased volatility due to options expiration, bank shares led the rebound as fears eased over the European sovereign debt crisis.  The Dow Industrials rose 125 point on heavy volume to close at 10,193.39, while the S&P 500 Index gained 1.5% and the Nasdaq Composite added 1.14%.

Leveraged foreign nation ETFs were winners today.  LBJ, the 3x Latin America Bull ETF, gained 9.42%.  CZM, the 3x China Bull, rose 8.08%.  Financial stocks also were winners and UYG, the leveraged Financials ETF, jumped up 4.79%.  Brazilian stocks made back some of this week’s haircut, reflected in EWZ, the Msci Brazil ETF, rising 4.21%.  Steel stocks made a nice move today and SLX, the Vectors Steel ETF, gained 4.64%.  Please click on the symbols for details.

Many ETFs made bullish engulfing candlesticks today.  This pattern is one where a small black body is followed by and contained within a large white body.  They are considered bullish in a downtrend and are interpreted by some technical analysts as a sign a downtrend has ended.  Here is what it looks like:

While the bullish engulfing candlestick does signal potential bottoming action, it’s important to keep in mind that many ETFs are trading below their 200-day SMAs.  That’s bearish, not bullish.  Assuming there is an upside follow-though next week, what I see forming are potential First Thrust and Gatekeeper patterns.

The Gatekeeper, developed by my AAPTA colleague, Dave Landry,  is a reversal pattern that looks to identify when a market, stock, or ETF has completed a “last gasp” higher, a.k.a., a top.  The Gatekeeper incorporates some of the elements of Fibonacci analysis that I’ve described in previous blog entries.  While the Gatekeeper can be used for buys/bottoming action, I’ve found it more effective for short sales/topping action.  Please keep in mind that you don’t have to actually sell short when using the Gatekeeper; you can apply the technique to an ETF and buy its inverse when the short signal is triggered, e.g., track QQQQ for a short and buy PSQ when it’s triggered.

Here are the short sale rules for the Gatekeeper:

1) The stock/market/ETF must make at least a new two-month high.

2) This should be followed by a sharp sell-off.

3) After the sell-off, the stock/market/ETF should retrace to at least 61.8% and ideally 78.6% of its sell-off.  In general, this should occur within 10 – 11 days.

4. Look to place a short entry at the low of the bar in Rule #3.

5. If filled, place a protective stop above the high of Rule #4.

6. Use your choice of profit exit.

Speaking of QQQQ, it made a dandy Gatekeeper pattern last week.  After the May 6 meltdown, QQQQ rallied sharply and retraced almost exactly 78.6% of the decline from the April 26 high.  May 13 was the day QQQQ retraced 78.6% and the low of that day was the trigger price to go short.  Please review the chart below and click on it if you’d like to see if full-screen:

May 14 gapped open lower so the open that day triggered your short (or your buy of PSQ).  The open on 5/14 was $41.28 and today’s close was $43.56, a 5.5% gain.

You might still be short QQQQ/long PSQ, however.  With the Gatekeeper I like to use a close above the trend line that forms after the short to signal my exit.  You’ll see I plotted two trend lines, a very aggressive exit (in red) and a lesser aggressive exit (light blue).  Which trend line to use as an exit is what I’d like to discuss next.

In this chart you see a Fibonacci retracement series plotted on the throwback from the May 6 low to the 78.6% high, on May 13.  Note how the yesterday’s low was a 61.8% retracement.  Today’s action made a lower low but the close was higher than yesterday’s close, so a case can be made that support is at the 61.8% retracement level:

A commonly used interpretation of Fibonacci analysis is that a pullback of 61.8% indicates a likelihood of a trend reversal.  Arguably then, yesterday’s pullback indicated the rally was over and lower prices are coming up next.  In Elliott Wave theory, the decline from April 26 to May 6 was Corrective wave A; the 76.8% bounce was Corrective wave B; and the pullback since then is a potential Corrective wave C, which needs to close below the May 6 low to be confirmed.

If you believe the May 6 low will be taken out then you would probably would not close the short unless QQQQ closed above the light blue trend line, back above the 50% retracement level.  If you believe the correction is over and QQQQ will rally to make a new high (or at least, move higher than today’s close), then you’d probably want to exit sooner to lock in some profit, by covering on a close above the red trend line.

All of this analysis is subject to interpretation and debate, of course.  What I can promise you is that what QQQQ does next is something we will know in the fullness of time.

Enjoy your weekend.

For the first time since July 2009, the major indexes closed below their respective 200-day SMAs.  Today’s action resulted in the steepest drop in a year.  The Dow Industrials lost 376 points to close at 10,068.61.  The S&P 500 Index lost 3.9% and the Nasdaq Composite fell 4.11%.    An unexpected jump in unemployment claims along with continued worries about sovereign debt, no good explanation for the May 6 dump, and sabre rattling by Dear Leader in North Korea, all contributed to today’s meltdown.

The S&P 500 has now fallen 11%, more than the June – July 2009 9.4% pullback or the January – February 9.2% pullback.  The SPY has pulled back to its 50-week (not day) SMA, which was tested on the May 6 swan dive.  Although that low needs to be taken out for confirmation, the index definately appear to be in an A-B-C correction.

Inverse ETFs jumped today (again) like someone lit a firecracker under a sleeping cat.  TZA, the 3x small cap Bear ETF, rocketed 14.24% higher.  TWM, the inverse leveraged Russell 2000 ETF, climbed  9.49%.  SMN, the leveraged short basic materials ETF rose 9.5% and SRS, the leveraged short real estate ETF, added 9.47%.  And so on, and so on….  Please click on the symbols for details.

The VIX (the Chicago Board Options Exchange Volatility Index) is at its highest level since March 2009.  We all know what happened then – the market bottomed and started a 70% rally – but its important to keep in mind this was after the VIX had fallen from its high in the 80’s back in 2008.  You say that can’t happen again?  Never say never.

There were some forward ETFs that turned in great gains today.  TLT, the 20+ Year Treasury Bond ETF, rose 2.09% today, which is a huge daily gain for a bond ETF.  TLT was a bullish bow-tie buy in late April and is closing in on the high made May 6.  Search the blog list for earlier discussions on the bow-tie and TLT.

The major indexes falling below their 200-day SMAs puts a new complexion on swing trades.  It’s time to start scanning for short opportunities or buying inverse ETFs.

On May 13 I discussed a short sell opportunity in UNG.  Larry Connors and Cesar Alvarez in their book High Probability ETF Trading presented the Multiple Days Up (MDU) and Multiple Days Down (MDD) strategy for trading oversold and overbought ETFs.  Use the MDU rules when the ETF is below its 200-day SMA and the MDD rules when its above its 200-day SMA.

The short entry rules for the MDU are simple:

1) The ETF is trading below its 200-day SMA.

2) The ETF closes higher 4 of the past 5 days.  This means closing prices are higher than the day before for 4 out of of the past 5 days.

3) The ETF closes above its 5-day SMA on the entry day.  When this happens you short the ETF on the close today.

4) Aggressive version – Buy a second unit (scale-in) if prices close higher than your initial short entry anytime you’re in the position.

5) Exit on the close when the ETF closes below its 5-day SMA.

Using this strategy a short was placed on May 13 and a second unit shorted on May 17, for an average price of $7.57.  The exit criteria with this strategy is a close under the 5-day SMA and that occurred yesterday. Please click on the chart to make it full-screen:

A close yesterday below the 5-day SMA at $7.23 gave the trade a 4.5% profit. Not bad for a week and a half trade in a very bad market.

The next step is to wait and see what happens when the market rallies.  We don’t know when but eventually it will.  Should it stall out trying to get back through its 200-day SMA, there will be all sorts of First Thrust and Gatekeeper patterns set up.  If and when that happens is something we will know in the fullness of time.

So went the first words my Driver Ed teacher told us in high school.  Pretty simple, eh?  The same basic principle can also be applied in our market analysis.

Yesterday’s late upside reversal was all but washed out today.  Housing starts improved, which gave the market a nice bump this morning, but the euro tumbled to a more-than-four year low as Germany’s ban of certain bearish investments fueled concern that Europe’s debt crisis will worsen.

The Dow Industrials slumped 114 to 10,510.95.  The S&P 500 Index Index fell 1.42% and the Nasdaq Composite slipped 1.57%.  Semi-conductor stocks which rely on overseas sales were hit hard today, so SSG, the leveraged short semi ETF, gained 5.37%.  Financial stocks also tumbled and FAZ, the 3x inverse Financials ETF, soared 8.6%.  Both are still below their respective 200-day SMAs…but perhaps not for long?

Brazilian stocks were waxed today and this was reflected in BZQ, the leveraged short Msci Brazil ETF that added 6.18%.  It is now bumping up against its 200-day SMA.  EPV, the leveraged short Europe ETF, rose 4.17%.  The Euro’s fall is the U.S. Dollar’s gain and UUP, the bullish dollar ETF, added another 1.07%.  UUP is very overbought here but can become even more overbought before selling eventually begins.  Please click on the symbols for details.

The Connors 3-day High/Low buys I mentioned yesterday scaled in a second buy today as lower closes were recorded.  ITB, the DJ Home Construction ETF which went long yesterday at 14.11 scaled in today at 13.97, for an average price of 14.04.

Although this market has reluctantly turned some longer-term investors into shorter-term traders, I still like to watch the big picture.  Dave Landry’s Big Blue Arrow is one way to do this; only taking long trades when the major indexes and/or the ETF is above their respective 200-day SMAs is another.

In addition to these I like to watch what an index of ETFs is doing.  High Growth Stock Investor software comes with a “Major Markets ETF” index, composed of TAN, FAN, SMH, IYT, ITB, FXI, IWO, IWM, GSG, UUP, PGF, PWND, QQQQ, DIA, XLE, XLF, GLD, SPY, XLU, UNG, USO, VB, VBK, and VBR.  HGSI allows me to combine the prices into one synthetic “symbol” that I can chart.   After charting this symbol I can apply whatever technical indicator(s) I want, just as if it was a stock.

I’m a big fan of the Bongo Indicator, which helps you get you and keep you in line with the directional bias of the market.  I had an opportunity to speak about the Bongo this past weekend at the AfTA (Association of Technical Analysis) ETF Master Seminar in Dallas.

Developed by a team of High Growth Stock Investor users, the Bongo describes a relationship between three Wells Wilder’s Relative Strength Indicators and a 9 period moving average. When the short term RSI (8-Period) is above the medium term RSI (14-Period) and the medium term RSI is also above the long term RSI (19-Period), and the closing price is above the 9-period SMA, then the Bongo Daily is “Yes”. If the inverse is true, it is “No”. “Yes” has bullish implications while “No” has bearish implications.

The weekly Bongo works the same way as the daily but the reading is taken following the last close of the week, rather than the end of each day. The weekly indicator has intermediate term implications usually lasting weeks if not longer. Divergences between daily and weekly Bongo can be an indication of a potential price reversal.

The best time to buy is the day (Bongo Daily) or Monday (Bongo Weekly) following a Bongo crossover from “False” to “True,” i.e., yesterday (or last week) the RSI’s were not lined up in the proper order or the closing price was below the 9-period MA, and today (or Friday, if Bongo weekly), the RSI’s are in the proper order and the close is above the 9-period MA..  Backtesting showed somewhat better results taking Bongo Weekly signals than Daily signals but in a strongly trending market, the Daily signal will get you in and out sooner.

The chart below shows the Major Markets ETF Index charted as a symbol, which I plotted on a weekly chart.  I’ve included the Bongo Weekly Yes ribbon on the top of the screen – Green means Yes (go/stay long) and Red means No (exit/stay in cash).  I extended the color down into the weekly price section of the chart but changed the No color to White, to make it easier to see my annotations.  As always, you can click on the chart to make it full-screen:

The Index went Green (Bongo Weekly Yes) on the week ending March 27, 2009.  After a 30% gain it exited on the week ending January 22, 2010.  It turned Green again on the week ending March 5, 2010 and exited on the week ending May 7, for a flat (no gain).  Last week was only the second time in 14 months the Bongo has indicated a sell.

Note how the price is trading between the 10-week (50-day) SMA and the 40-week (200-day) SMA.  When price fluctuates between these two moving averages, price moves tend to be sharp and at times, downright nasty.  You can see the Index has strong support at the 200-day SMA on a closing basis.   Larry Connors opines you can take long trades as long as the ETF is above its 200-day SMA but more cautious traders should wait for the ETF to be above both the 50- and 200-day SMAs.

Although the week is far from over, this week’s bar is approaching the 200-day SMA again.  Whether or not the MA holds is something we will know in the fullness of time.

The market rallied back from a significant decline to close slightly in the black today, with The Dow Industrials up 5 points to close at 10,625.83; the S&P 500 Index up .11%; and the Nasdaq Composite up .31%.  The reversal came on the heels of the euro making a four-year low and then reversing, on optimism that it will survive Europe’s debt crisis.

Maybe, maybe not.

Crude oil took it on the chin again today, closing just six cents above $70/barrel.  SCO, the leveraged short crude oil ETF, rose 5.15%.  Today was the second consecutive close above its 200-day SMA, the first time this has happened.  SCO made a PopSteckle on both May 5 and May 6.  IIH, the internet infrastructure HLDR, gained 3.15%.  Please click on the symbols for details.

The indexes today formed a Japanese candlestick called a Hammer.  This is a candlestick with small body near the high with a long lower wick with little or no upper wick.  It is considered a bullish pattern in a downtrend.  The color of the real body (black, if the open is lower than the close; white, if the open is higher than the close) is not important in a hammer although a bullish hammer ideally has a close above its open.   The closer it forms to a significant support level, the more “important” the candlestick as a potential bottoming pattern.  Here is what a hammer candlestick looks like:

The daily chart below of DIA, the Dow Diamonds, shows the hammer that formed today.  What I find interesting is in the Fibonacci retracement series in the chart.  Assuming the low from May 6 is valid (a number of trades made that afternoon were broken by the exchanges), DIA the past two days has an open/close range between the 50% and 61.8% retracement levels, demonstrating possible support.  You can make the chart full-screen by clicking on it:

Volume (not shown) has been heavy both days.

Last week I discussed the Multiple Days Up strategy, which shorted UNG, the natural gas ETF, on Thursday.  This strategy scales in and shorts a second unit if it any time price closes higher that the entry price.  That happened today so the average price is now $7.57.

The pullback the past two weeks has set up some buying opportunities for us.  One swing trading strategy I’m partial to is the 3-day High/Low method.  Developed by Larry Connors and Cesar Alvarez, this strategy starts by going long when the ETF is above its 200-day SMA and short when it’s below.  The remaining trading rules are very simple.  Here they are for long trades:

1) Today the ETF closes below its 5-day SMA.

2) Two days ago the high and low price of the day is below the previous day’s high and low.

3) Yesterday the high and low price of the day is below the previous day’s.

4) Today’s high and low price is below yesterday’s.

5) Buy on the close today.

6) For aggressive traders, buy a second unit of prices close lower than you initial entry price anytime you’re in the position.

7) Exit on the close when the ETF closes above its 5-day SMA.

In a test of 20 ETFs  from their inception date to 12/31/08, the basic (no-scale-in) version had average %P/L was .66%; the average trading days held was 3.3 days; and the average % Winners was 76.9%.  The aggressive version had an average %P/L of .98% and a % Winners of 82.8%

Several ETFs fired off 3-day High/Low entries today, among them ITB (DJ Home Construction), IYR, (DJ Real Estate), IYT (DJ Transportation Average), XHB (S&P Homebuilders SPDR), and XLF (Financial sector SPDR). Let’s look at the chart of ITB:

ITB formed a bullish hammer bar today.  Note that while volume has been heavy (above its 50-day moving average of volume), the volume has been heavier on up days (cyan) than on down days (red).  That’s accumulation.

I backtested ITB using the aggressive methodology (scaling-in) with ten years of data ending today.  The % Winners was 77.27%, similar with Connors’ and Alvarez’ results.

As a trader, it’s important to keep your wits about you during a sharp decline and search with a beady eye for any signs of accumulation in the days following  the drop.  When you see those signs, take take the trade and buy when others are selling.