Archive of May 2010
Where to from here?
Yesterday's washout was the kind of trading action typically seen at the bottom of a correction. We gapped down hard in the morning, but instead of watching investors panic and sell into the weakness we saw buyers step into the market and steadily bring us back to even on good volume. It was the kind of price action that would have warranted removing our hedge earlier in this rally, but something felt different this time. After some review, that "something" turned out to be a major disintegration in breadth over the past few weeks of selling.
Let's review.
The market hit its high towards the end of April and quickly gave up ground on the back of Goldman and Greece. After a short but powerful snapback rally the market gave out once again, eventually taking out the lows of the Thursday panic and lending validation to the initial panic that was supposedly a "technical" phenomenon. Although it seems we have found support around the 105 level of the SPY, we have also built a formidable head-and-shoulders formation in the process. The 115 level will likely prove tough to overcome. If you look closely you will also notice that the S&P is once again below its 200-day moving average. Lots of no goods.
Meanwhile we have seen both the NYSE and Nasdaq BPIs collapse with no turnaround in sight.
At the same time we have seen the number of stocks hitting new highs dry up and the new lows list explode upward for the first time since the rally began.
The Advance-Decline charts are the only indicators bullishly diverging from the market, but even they do not suggest much strength. The cumulative New Highs minus New Lows indicators are some of our favorite breadth indicators -- when the line is rising we want to be long the market and when it's falling we want to be short or hedged. For the first time since the March lows of 2009, the NYSE and Nasdaq High-Low charts are both heading lower (though to the bulls credit you could argue we're in limbo at this point).
Still, when you look at how strongly this line was climbing for the duration of the rally you can't help but be concerned with the recent hesitation.
Despite the recently found support and yesterday's reversal, removing the hedge at this point would be premature. Today's lack of follow through is cause for concern, along with all the weakness in breadth described above. Stay hedged for now, but add to your long positions as strength emerges.
Universal Display... Finally?
Universal Display Corporation (ticker PANL) is one of those story stocks that refuses to become more than a story stock. For the past five years, it seems like "next year" was always the year that this explosive new lighting technology would take off and finally hit the mass market. Is next year finally here?
Universal has been steadily growing its revenue and beating earnings estimates the past year. Profitability might still be a long ways off, but analysts expect the company to cut their losses in half in 2011.
The revenue growth is promising, as well as the adoption of Universal's OLED technology in multiple display and lighting markets. Between the retail market (smart phones and flat screen tvs), white lighting applications (home and office overhead and window lighting), and military uses (such as flexible wrist-worn communication devices for foot soldiers and transparent heads-up displays for fighter jets), Universal Display has the kind of revenue diversification we love. If you haven't visited the company's website yet and been awed yourself, we suggest you get on over there and see what Universal has in store for your future: http://www.universaldisplay.com/
As an additional positive note, the stock has been trading well lately despite the behavior of the broader markets:
And putting the hedge back on
It's time. The bulls have done a great job buying the dips over the past week and preventing the bears from pushing the market down into the abyss. However, we are still drifting lower and today we saw last week's lows taken out on the Russell 2K. When we see the market reaching new lows we need to act defensively, regardless of whatever bullish arguments we might have in favor of the market. We believe the selling is overdone and near exhaustion but we still must hedge to insure against the possibility of a more severe downturn.
We will consider removing the hedge on a move above this week's highs or possibly on a strong bullish reversal -- which we could possibly even see today.
Taking off the hedge
We removed our hedge at the end of the day today. The bailout announcement followed by Monday's big move and today's stable trading action give us confidence that we have seen the lows of this selloff. If conditions deteriorate we will immediately put the hedge back on, but for now we believe removing the hedge is the wise decision given the sentiment shift from last week's selloff and the fundamental shift from the announced European bailout.
Follow Through
Today we saw a huge gap higher on the heels of the announced European bailout. Gaps themselves don't give much clarity; the after-hours market is much thinner than the normal market and heavily influenced by short-term traders. Rather, it's the trading action proceeding the gap that provides important clues.
Although we don't lend much weight to large overnight moves lacking follow through at the open, we do give credit for strength into the close. A large gap followed by trickle down selling isn't much to get excited about. A large gap with trickle down selling into a strong close on the other hand can be highly bullish.
Instead of locking in these large overnight gains, at the end of the day (typically where we experience the most rational buying and selling) investors chose to accumulate. Why would investors buy into a market already up 5%? Because the bailout announced over the weekend was huge. It was a confirmation that the central bank floodgates around the globe will remain open and accessible to all for an extended amount of time. We learned the strategies for handling confidence/liquidity crises like these during the initial credit shock. Although regulators were initially hesitant to apply them to Europe's sovereign debt issues, they finally recognized the severity of the situation and put the necessary pieces in motion.
Although we didn't close out our hedge today, we will likely do so tomorrow if the market sees further gains or stability.
Once again though, buy gold. Dip buyers have proven to be very reliable over the past year, limiting immediate concerns to the downside. You may be worried about the upcoming double top in gold, but our best guess is that any top will be short lived and likely followed up by a healthy cup-and-handle formation. That is if we don't just blow right through the old highs.
