Wednesday, May 26, 2010

Stocks Rally in Short Term Reversal

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

After hitting a lower low on the open, U.S. stocks reversed their sharp downturn in late afternoon trade yesterday. The rally so far is an expected oversold bounce.  There is no reason yet to think that it will turn into something more significant.

Technicals, not fundamentals are driving stocks at the moment. Tuesday's action was an attempt to resolve an oversold condition from Friday the 14th. Seven trading days later, the major indices - the Dow Jones Industrial Average, the S&P 500, the Nasdaq and the Russell 2000 were all substantially lower. They were also well above their respective 200-day moving averages on the 14th, but all were below their 200-days yesterday.

The 200-day is the key dividing line between bullish and bearish behavior. With the exception of the small cap Russell 2000 (which is holding up best in the sell off), the major indices have violated their support at the 200-day twice in the recent sell off. The first time was during the odd crash on May 6th. Many considered the intra-day drop below the 200-day then to be a mere fluke. In the last five trading days though, the Dow, S&P, and Nasdaq have again traded below the key 200-day line at least part of the day. 

Stocks are also trading to try to fill gaps (a price range where no trading took place) in the charts. This usually occurs within a few days, although weeks and even months are possible time frames. There was a large down gap in trading on May 20th and another one before that on May 14th. The market will want to rise in the near term to at least fill the gap on the 20th. Yesterday's gap down was a short-term exhaustion gap (a gap after many down days or up days) and the markets moved up to trade into the empty space that had been left on the charts.

Technical factors are moving the market up at the moment, but once they get resolved, stocks are likely to head down again. The fundamental problems that emanate from the eurozone have not been fixed. For a major bottom to be put in, some dramatic event like a Greek default or Greece being removed from the euro currency union would be a good signal for a bigger rally. A much larger bailout, such as $5 trillion instead of a mere $1 trillion would pump up stocks as well. This is what reversed the markets during the Credit Crisis and the central bankers and treasury departments of the world will almost certainly attempt their tried and true money printing solution again. The only question is when they will do it.

Disclosure: No positions

Daryl Montgomery
Organizer, New York Investing meetup

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

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