Diverging Market Environment

Mid-week it appeared that the Federal Reserve was buying equities as we did not see pullbacks of any significance. There was a psychological S&P number within view at 1500. The situation becomes more extended each day and is breeding complacency. The markets with very low volatility have a tendency to lull people to sleep. Then when the majority expects it the least, volatility hits with significant volume. Keep in mind these levels could be a 30 to 50 S&P point decline in a 3 day period once the bears take control. We have a dilemma amongst tape readers and algorithmic traders. The tape is painting a very dismal internal picture while the actual prices are still proceeding upward thanks to program trading narrowing its field but maintaining in its persistence.

I am always a faithful volume watcher. The recent rallies in the bonds are on diminishing volume particularly at crucial moments. Crucial moments are when the bonds are at a resistance and must accelerate in volume and velocity to continue their thrust. It is an old physics principle that deceleration at crucial moments means that energy is languishing which will eventually turn the direction downward. The many years that I have traded has taught me some rules of thumb. One rule of thumb is when volatility becomes very benign and contained, be ready! Do not forget that markets move to the downside much faster than they move to the upside. Therefore when volatility hits, this market has surprised many, destroyed a few, and make large amounts of money for those who are ready. I watch the NYSE Tick very intently. Last night the closing recorded tick print was just shy of plus 1000. This means that a large buying block was submitted right at the close. The very interesting associated event was that prices were not able to make a higher high than Tuesday’s high. Therefore much energy was expended and a progressive price movement was not registered. This is another sign of a diverging market environment. We almost had a minus 1000 tick Friday. This is the closest to minus 1000 in the month of January. This is not enough negative tick to correct the overbought situation. Could this be the first shot across the bow? A price confirmation of an S&P break down would be a close below 1480. There is no doubt it is the Fed buying stocks. The lack of plus tick demonstrates only the S&P is being bought and not baskets of stocks simultaneously. This is a pure distortion of market action, but it is what it is.

The result of the failure coupled with heavy selling sent the bonds down over 1 point to Thursday’s lows. However there resulting rally erased most of the day’s losses and once again a peaceful harmony exists between the bulls and the bears. But if not careful, this peaceful harmony could be a murderous lair within a short time frame. The bonds have become the ugly sister that cannot get a date. I cannot but wonder if this is telling us that the Fed is getting closer to just being done with asset purchases on bonds. I cannot emphasize enough the extreme divergence between the S&P prices and the vitality of the tick. We did not even experiencing plus 800 ticks on rallies Friday when ordinarily higher highs are experienced in prices, the tick expands. There was an abundance of minus tick for extended periods of time without S&P price deterioration. This skewing of normal activity generally is a precursor for radical moves.