The S&P hit the glass ceiling

As expected the S&P was unable to penetrate resistance at the 90 DMA at least on it's first attempt. Now the question is do we get a test of the lows, maybe even a very mild test and then off to the races again or are we seeing a dead cat bounce with more pain to come.

First off let me say the odds are stacked in favor of the bottom being in. No doubt about it. We are entering one of the most seasonally positive times of the year. We just came off some pretty severe breadth and sentiment extremes. We should be set up for a nice rally.

Here's my problem or problems I should say. First off if we were to make new highs then this would move the bull up to the second longest 4 year cycle in history. Second we obviously have the catalyst in place for the 4 year cycle low to happen with the credit crunch and subsequent damage to the financial sector. On top of that we can add the spike in oil that has always preceded or accompanied recession in the past. A bond market that is saying something ugly is coming. Widening credit spreads between T-bills and the 2 trillion dollar commercial paper markets. BTW I have trouble seeing the Fed cutting especially 50 if the market is rallying big into Dec. 11th. And the biggie. Almost everyone thinks the bull market is back. Can it really be that easy? The biggest financial crisis in years and all we get is a meager 10% correction and then it's back to the races with a 5% move in 4 days.

First off I don't know about you but the markets have never been that easy for me. Another thing I don't recall is bull markets moving straight up like a rocket. Don't bull markets climb a wall of worry? I'll tell you what does jump straight up and that is oversold rallies in bear markets. That's how the bear keeps everyone on board for the full trip down. You don't believe me? Just look at the 2000-2002 period. Heck just look at the BKX for that matter. It's obviously in a bear market and we continually see these big rallies that ultimately fail as investors continue to try and pick the bottom. BTW everyone seems to be calling the bottom in the banking sector also.

Some of the biggest one day and one week rallies in history occurred right in the middle of one of the nastiest bear markets.

Now let me state again the odds are highly in favor that we've put in an intermediate bottom. Let's just say I'm still a bit skeptical.

Position size again

This is going to be probably the most important post that I will do this year. I've gone over this before but I'm going to go over it again because I think it's doubly important right now as we possibly head into the 4 year cycle low. Position size!!!

As one might expect I received quite a number of e-mails the last two days from investors freaking out about their short positions.

Now let me reiterate again that I'm not going to be like 99% of the other bloggers and newsletter writers on the Internet. I'm not going to brag about how accurate my calls are and what a great record I've got yada yada yada. Sure it's great for subscriptions but I didn't really start this to sell subscriptions. I started the blog to help novice and intermediate level investors improve their investing skills. (Many are the days I wish I'd never started this. It's become a monster that's eating up way too much of my time.) Sure I've had a few good calls lately. I can tell you unequivocally that it was luck. Pure D luck. I'm going to tell you a secret. No one, not me, not Trade, not F-Trader, not Pattern Guy, not Mr. T, not Richard Russell, not John Hussman, not Dennis Gartman, not Warren Buffett, no one can see the future. I've guaranteed before that I'm going to be wrong on probably 40-50% of my calls. Over the long haul trust me I'm correct in telling you this. It is just senseless to search the newsletter world or Blogosphere looking for someone to confirm your bias.

So how does this relate to position sizing you ask? Well here's what I see happening. From the amount of e-mails I've received quite a few investors are now on the short side. Which by itself is not a problem. Maybe I'm right about the 4 year cycle low and maybe I'm wrong. The problem is that these investors shouldn't be freaking out about a 4% bounce after the market has dropped 10%. At most they shouldn't have more than a 4% drawdown on their account and that's only if they went short at the exact bottom. If you were watching your position size you should only be down 1% or at most maybe 2%. That's nothing to freak out about.

I'm going to say it again. There's going to be huge money to be made in the commodity bull market but you can't make it if you get a case of the stupids and lose everything trying to bet too big on the decline. Big money is never ever made in bear markets, unless you take on leverage, simply because markets can only go down 100% and realistically a bear market is probably going to drop no more than 20-30%. Bull markets can easily go up 1000%.

Here is my motto and has been for several years. "If the market is going to take away any of my money it's going to have to fight me tooth and nail to get it and you better believe it's not going to get very much at any one time."

BKX

I think this is the key to whether the market recovers and goes higher or whether the rally yesterday and today was just a pressure release of extreme bearish sentiment. So far the piggies are still making lower lows and lower highs. I suspect they still have many skeletons in the closet that haven't popped out yet. If the BKX rolls over again and heads down I have a feeling we're going to see more downside for the markets. As we all know I think we are heading into the 4 year cycle low. It is possible that the 4 year cycle low was put in with a 10% decline. It would be the smallest cycle low in history if so. It would also be the shortest peak to trough cycle low. It is possible the Fed has done away with 4 year cycles aka the business cycle. It's also possible the Fed has now done away with ever having another recession. Let's just say I'm a skeptic.

weekly chart

So far I just don't see any reason to get rid of my short position or to doubt the Dow Theory primary sell signal. Notice also that the S&P still isn't even oversold on the weekly charts yet.

A great start to the holiday shopping season

The media would like us to believe that the holiday shopping season started out with a bang. For some reason the retail stocks don't believe the spin. But then of course there's no inflation either. Jeez It makes you wonder how long it takes before people realize the king has no clothes.

"You find out who's been swimming naked when the tide goes out." - Warren Buffett

Cycles

I've posted two long term charts of the Nikkei and the S&P showing the 3 year cycles in the Nikkei and the four year cycle in the US markets.

In the first chart we see the secular bear in the Japanese market. It started with a 2 1/2 year decline from the late 89 peak to the 92 bottom and an initial loss of over 60%. What followed was a series of right and left translated cycles until the bottom in 03. That's a 13 year bear market. Notice the right translated cycles end very quickly and the left translated ones tend to just grind lower. Also notice the first counter trend rally ended in a right translated cycle and a vicious waterfall decline. The remaining cycles were all left translated and each successive 3 year low ended lower than the preceding one. The current cycle looks to be a left translated cycle or possibly a very shortened right translated cycle. It's also entirely possible the secular bear market in Japan isn't over yet. The slowing US economy has the potential to drag down the rest of the global economies. The action in the Nikkei is becoming rather ominous.

Now let's look at the US market. Here we see the same series of cycles only the US cycle is a 4 year cycle. We also see that right translated cycles have ended in violent moves downward even in a secular bull market. We see the cycle that topped in 2000 was a left translated cycle that ended the great secular bull market that started in 74. The normal 2- 2 1/2 year decline that followed is typical for first legs down in secular bear markets. During this decline the S&P lost almost 50% of it's value. We now have the third longest 4 year cycle in history. This cycle is now coming to an end and it's doing it in the overall context of a secular bear market. It's probably discounting a recession. Maybe even one that's already started. By the action in the Nikkei and China it may very well be discounting a global recession. This has the potential to be a very wicked bear move if it ends like other right translated cycles have ended and if it is in fact discounting a global recession.

Bonds have spoken

The bond market dwarfs the stock market. It's also generally considered that bond traders are a more savvy lot that stock traders. You don't really find Joe Sixpack trading bonds. These markets are the dwelling place of institutional investors aka the smart money. When the bond market starts talking it's usually a good idea to listen. Well the bond market lately has been doing more than talking it's screaming at the top of it's lungs. Notice how the bond market rolled over in early 2000 just prior to the market topping out. This is usually the case about 90% of the time. Bond traders will spot problems on the horizon before stock traders and start allocating capital to "safe" investments. Now take a look at the 3 month T-Bills. What we see happening in the last few months is an unprecedented flight to safety. This move even makes 98 look tame. Remember the upheaval in 98 produced a 20% correction in the market. What does the current state of the bond market say about the future I wonder?