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Technical Analysis: Low-volume Bounce

Markets are a function of time as well as price, and closing at the lows for five of seven days had created an oversold condition, as we noted on Friday, even though price hadn't declined that far; hence today's bounce. However, that bounce came on very low volume, indicating a lack of conviction behind it. By tomorrow night, when Microsoft and Intel report, we should get a clearer picture of corporate earnings - and the market's reaction to them. So far, earnings have been lukewarm, but the market apparently feared worse. Still, markets are also a function of investor sentiment, and that is keeping us cautious here. For starters, a plummeting VIX (options volatility index, see first chart below) in a flat market that isn't making new highs is a negative because it shows far too much complacency. The VIX is at a point - the lower weekly Bollinger Band - where it has reversed three times in the last two years. Second, Investors Intelligence bulls are at 51% - the level they were at the December peak - another negative divergence from price. 55% bears in the II survey has been the historical level where major bull runs have begun; 1994, 1990, 1982 and 1974 were four such occurrences. The high in bears in this three-year bear market - the longest since 1937-1942- was 43% last fall, and that came after a 40-50% decline in the major indexes. Bear markets are in some ways about killing widely held beliefs, and as far as we can tell, the two that remain are that this is somehow January 1991 all over again, and the belief in the four-year stock market cycle, which we think kept the market from finding a stronger bottom last year than it otherwise might have out of the belief that major lows occur during the mid-term election year. Now that the war is behind us, we think now would be a good time to see new lows in the indexes to generate the fear necessary to finally get a good cyclical bull market. And now on to the charts. The S&P (second chart) has support at 881, 875 and 870, and resistance at 895 and 905. The Nasdaq (third chart) has support at 1365, and resistance at 1390-1395 and 1401-1405. The Dow (fourth chart) has support at 8335 and 8240-8270, and resistance at 8400, 8480 and 8522.

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