Saturday, March 14, 2009

Critical Mass

If you read some of the blogs from some of our favorite bloggers, you will see there is obvious confusion and uncertainty of what the market and what charts are telling us. Some of the best chartists are second guessing their wave numbers after last weeks rally. Some trend traders are beginning to see this as not only a bear market rally, but perhaps the beginning of a bull market.

It is a confusing time right now as charts are on the brink of breaking key resistance numbers and EW rules seem to be breaking. No one can tell you with certainty where the market goes from here. It's really difficult to even give odds better than 60/40 one way or the other.

In situations like this, it is usually best to lay low and let things pan out for a day or two if you are a short term investor. Perhaps play some short term trades to scalp a bit off.

What I like to do in situations like this is not bet the farm on anything and stay in as much cash as possible so if we have a big move one way or the other, you can be prepared to make a solid move. That doesn't mean I am 100% cash. There can be some big money to be made in a situation like this.

So I like to play some near term options (March and April) in situations likes this. Limits potential losses but there are some significant gains that could be had. It is the gambling side of it. But just as in poker, you want to gamble on the side of the best odds.

Studying the chart below, there are many ways to draw it. I am trying to keep it simple by trying to determine the obvious trend. First I drew the lower trend line using the most recent lows in the VIX over the past 2 months. By simply copying that line and moving it higher, I found the parallel line perfectly intersects 3 of the past 4 high marks on the VIX. This seems to show the trading range the VIX is in and which the VIX always appears to bounce from. From this we can guess that the VIX will bounce off of the lower trend line. This gives us a better than a 50/50 chance the VIX will move up and the market down.

In addition, the orange line represents the VIX low over the last 5 months. If this is breached, I believe the odds are we are in more than a simple bear rally and perhaps we will be in a multi-week rally.

So now I have to ask myself, what do the odds favor. Today I would suggest based on trend, we are 70/30 that the market will go lower from here. But that 5 month low is very close by and breaking that will get us near the 200dma and could trigger a longer term rally, thus, I think at best we are 60/40 that the market goes lower from here.

60/40 in texas hold-em is equivalent to A-J vs. K-10 pre-flop. I like my chances with A-J.

The VIX is not giving a clear signal right now, but it is not hard to imagine it bouncing off the lower trend line and moving back past the 20dma, which would represent a 50-75 pt move down in the SPX. I don't think we will see a major sell off due to uncertainties of uptick and m2m. So it is not time to take too many chances.

I am focused on VIX calls, GS puts, GOOG puts and RIMM puts. Everyone seems to think tech will lead this rally. I think tech is about to get hit hard in the next earnings period. I am in tech myself and we are getting rattled pretty hard. I don't really consider GOOG a tech stock since their revs are on online ads, but they have spent significant money on a number of tech research projects that may fizzle before they ever hit the market, or they may be shelved while GOOG tries to identify a better time to bring them to market.

And of course, I still love SRS. It has moved down (and RE is up) in sympathy of the bank moves. Surely investors realize regardless of what banks do, RE is a total and utter mess and the commercial RE market is on the verge of collapse.


  1. GS calls are 15 pts in the money. Max pain at 85. But balance that out w/SPY which has 77 max pain.

    It looks like we start off the week red but rebalance index wise to green by Friday's close.

  2. Thats why i am playing GS puts. Seems at GS current level, a lot of good news is factored in with earnings pre-market monday. If they miss, GS will be at 72 by lunch.

  3. Good Post. Wait for the market to tip its hand.

  4. what I see is a clear "M" double top on the vix. It is now rising up to complete the "A" in what will be a "MA" pattern. This will correspond with the spx moving down to complete 5 of 5. Once 5 of 5 is complete, the MA pattern on vix will be complete. vix will crater and spx will rally onto primary 2.

  5. Or if you are in the primary 2 camp already you could argue the MA pattern on the vix will match the "B" pullback in wave 1 of primary 2.