Stock Market Update 26 July 2008

A routine weekend update as of the market close Friday, 25 July 2008.

To start with, here are the year-to-date returns for the funds I hold within the Provident Fund A and B accounts:


Core Holdings (currently approx 93% of portfolio):

Fidelity Australian Dollar Fund: +3.57%

Fidelity Euro Fund: +1.90%

Fidelity International Bond Fund: +2.12%


Ongoing Equity Purchases (currently approx 7% of portfolio):

BlackRock/MLIM Equity: -15.36%

Fidelity International Fund: -14.29%

Russell Global 90 Fund: -13.15%


Representative Charting Index:

Dow Jones World Index: -13.5%


Since my last blog the markets have had a pretty good run-up primarily based upon the following:

1) the promise of the U.S. government that they will support Fannie Mae and Freddie Mac irrespective of the potential losses these 2 institutions might incur (and U.S taxpayers will ultimately pay for), and

2) the SEC (Securities and Exchange Commission) issued a "temporary" ruling that does not allow "naked short selling" (the practice of shorting a stock without having physical possession of the stock)" of certain "sensitive" stocks. These stocks are the 20 most important financial stocks in the U.S.

The result was a huge rise in financial stocks.....which in turn reduced the price of commodity stocks (due to lack of demand as hedge funds sold commodities to purchase financials)....which in turn led to a drop in the price of oil.....which in turn led to a boost to the U.S. dollar. It is interesting to see the inter-connection between the various facets of the economy and how certain actions have equal and opposite reactions.

The key going forward is what happens next. The oversold rally off the bottom has taken place but what does the future hold? For that we turn to the charts.

For this week I have reversed the order in order to present a "top-down" view of where we are at. As always, click on the charts to enlarge their size:


Dow Jones World (DJW) Monthly Candlestick chart:



This chart is one of two that indicate the long term trend in the markets. It signaled a bear market had begun in January when the monthly closing price closed below the 12 month moving average (blue line). An attempt was made to challenge the moving average in May but failed.

This chart remains BEARISH as long as the monthly closing price remains below the 12 MA (currently @ 288.41).


Dow Jones World 10 Year Weekly Candlestick chart:



The second in our two "long term trend" charts. This chart indicated a bear market had begun on a 13 week moving average cross below the 34 week moving average combined with an MACD cross below zero. This occurred in late 2007 and as of today the 13 week moving average continues to trend below the 34 week moving average.

It is interesting to note that the previous top in 2000 @ 258.74 is acting as an area of support (Friday’s close 258.44).

I have added Fibonacci retracement levels on the chart from the bottom of 2003 to the top of 2007. The first Fib support level is the 38.2% retracement @ 245.68. However, it is common to retrace either 50% or 61.8% of an entire up move and still be considered to be "uptrending". As such, it is very possible we could retrace all the way down to the 61.8% retracement @ 199.55. I think there is a very real chance we will get there before this mess is all sorted out.

This chart remains BEARISH and continues to indicate we are in a long term bear market.


Dow Jones World 4 Year Weekly Candlestick chart:

This chart shows a closer view of the weekly situation. Keys to note are the descending trend channel, the support levels at 264.50 and 262.38, the continued negative MACD and the 200 week moving average (which should act as good resistance) at 255.00.

The story on this chart is we are between support and resistance and it could go either way from here. A break of the 200 week moving average support and we go to test the bottom of the channel; a break above the resistance levels and we could very easily challenge the top of the channel.

This chart still remains BEARISH until the resistance levels are taken out to the upside.


Dow Jones World Traditional Point and Figure chart:

This chart is a great one to avoid the noise.

It went bearish on a price break below 260 and currently projects a target of 204 (see my previous info on PNF price targets). The rather aggressive price target suggests the "structure" of the current decline is quite bearish with the potential for some real damage.

This chart remains longer term BEARISH.


Dow Jones World 1-Box Point and Figure chart:



This chart is a more "short term" chart than the Traditional PNF chart. It went bearish on a price break of 288 and is still in decline.

When the price broke 288 the structure resulted in a calculated price target of 254 (which is where we are currently at). This tells me the current short term decline is possibly over at this level.

From its present price, a price break of 263 would turn this chart back to bullish

This chart remains BEARISH.


Dow Jones World 1 Year Daily Candlestick chart:

A short term bottom was made at 251.23 and since then a nice countertrend rally has ensued. The past 2 days have seen a decline from the recent top (which is helpful) as the market had moved too-far, too-fast and needed to retrace some of the gains.

The key now is whether it reverses and continues up or starts the decline once again. While most of the short term indicators are overbought, all are indicating that we should continue to expect upward price action. However, the only indicator that ever really matters is price.

If price were to exceed its most recent high (which was 262.96; not shown on this chart) along with positive technical indicators, this would result in a "higher-high and higher-low" and confirm a bullish uptrend is in place. A price break below its recent low at 251.23 would be a "lower-high and lower-low" and would reconfirm the bearish trend is still in place.

For now this chart looks NEUTRAL until price either reverses and breaks above the last high or continues down and breaks the previous low.


Dow Jones World 4 Month Daily Candlestick chart (R.C. Allen settings):

This is a chart I have not presented before but in times like this I find it quite useful.

Many times it is difficult to discern whether we are in an "uptrend", a "downtrend" or a "neutral" trend given the 100's of possible technical indicators that can be used (many contradictory).

At times like this I like to switch to some of my "old school" methods of analysis using simple moving averages to cut through the noise.

This technique was originally developed by R.C. Allen in the 1970's:

The Triple Crossover Method

The triple crossover method was popularized by R.C. Allen in the early 1970's. This method gives fewer signals, but prevents you from getting whipsawed in a sideways market.

The most commonly used triple crossover combination is the 4-9-18 day moving average combination. This combination is a variation of the commonly used 5, 10 and 20 day moving average numbers and is used primarily in futures trading.

The 4 day average will follow the trend most closely, then the 9 and then the 18. In an uptrend the 4 day should be above the 9 day which should be above the 18 day. In a downtrend the 4 day should be closest to the price trend followed by the 9 and then the 18 day averages.

A buy signal is generated when, in a downtrend, the 4 day crosses above both the 9 and 18 day averages.

A sell signal is generated when, in an uptrend, the 4 day moving average crosses below both the 9 and 18 day moving averages.

There are various methods of utilizing the "Allen" crossover method. Here are the rules I use:

1) when the 4 day moving average crosses the 18 day moving average, whatever "trend" we are in at the time has changed to neutral.

2) if the 9 day moving average subsequently crosses the 18 day moving average AND the 4 day moving average is in agreement, a trend change has occurred.

Until these rules occur, the trend is neutral.

Using the chart above, it can be seen that the short term trend went "neutral" when the 4 day MA crossed below the 18 day MA on Tue, May 27. The trend changed to "bearish" on Fri, May 30 when the 9 day MA crossed below the 18 day MA AND the 4 day MA was in agreement (declining).

The current downtrend switched to "neutral" on Tue, Jul 21 when the 4 day MA broke above the 18 day MA. The 9 day MA has yet to cross the 18 day MA so we remain NEUTRAL as of Fridays market close.


As mentioned at the open, the 2 keys to this market are the Financials and Oil. Given that, here are the 2 most important charts you want to be paying attention to right now:

Financials Select Sector SPDR chart:

This index is composed of a good mix of banks, investment banks, and brokerage dealers. As such, it is a good overall proxy for the health of the U.S. financial system.

This chart found a bottom at 16.77 and since the announcements by the U.S. government has been on a rocket shot north. The question is whether this has any staying power or was it a one-off event that will burn out and crash down as rapidly has it rocketed up.

A top was reached Wednesday Jul 23 at 23.09 and has been in decline since. Note the resistance @ 23.11 that stopped the rise. This price level will be key and this index must break above it (after a minor pullback that appears to be taking place).

I have drawn Fib retracements (38.2% = 20.63, 50% = 19.94, 61.8% = 19.19). The recent pullback has found support right at the 38.2% Fib (which is also support @ 20.63). A further retracement cannot be ruled out and if so this would be bearish for the markets.

A good bullish sign is the lack of volume on the recent pullback when compared to the volume on the rise. Part of the heavy volume on the rise was due to short covering but a good portion was what I believe was hedge funds selling some of their commodity exposure (which has done well for them) and rotating the money into financials. The recent pullback on lower volume indicates they are not yet selling out of their financial positions.

The key on this chart is price MUST exceed 23.09 (which would set up a higher-high/higher-low trend change) AND break above the ton of resistance above (the various price resistance lines on the chart plus the downtrending 50 and 100 day moving averages. If it can get above all that then the way is clear to a very strong summer rally. If not..........look out below.


West Texas Intermediate Crude Oil chart:

This is the other major chart to watch. Price topped at 147.90 and has pulled back nicely in the past week. Price is approaching a near term support level of 121.61 and how it behaves at that level will be interesting to watch.

I have drawn a Fib retracement from the start of the previous rise (Jan, 2007) to the current top in July. As can be seen, there is a 38.2% Fib retracement (110.90) which nicely aligns with a previous price support level (110.35). In addition the rising trendline intersects with this same level (110.00) so I expect a decline to the 110 level is a very real possibility.

HINT TO EMIRATES: GOOD PLACE TO SET YOUR HEDGES (hoping for a Najm for that one; think they are listening? LOL!).

Should the 110 level fall another very strong price support level is at the 100 level (99.29/100.09/98.65) along with a 50% Fib retracement level (99.46). It is possible we could get this far.

U.S. Dollar Index:



For those who are watching the movements in the dollar, the recent selloff in oil has given the USD somewhat of a boost. It has now regained the flag it was in previous and remains within a trading range of 74.48-70.70.

Until either a break above or below the current range bound levels the USD remains NEUTRAL.


Bottom Line:

I have been waiting for a summer rally since the spring. I think we may be on the verge of one now and intend to play the long side when the technicals indicate it is safe to do so.

ONCE AGAIN I REITERATE ANY MOVE I MAKE INTO EQUITIES IS ONLY WITH THE INTENT OF SCALPING A SHORT TERM POSITION TRADE. THERE IS NO INDICATION THE BEAR MARKET IS ANYWHERE NEAR AN END AND WE COULD EASILY SEE ANOTHER 30% DECLINE FROM CURRENT LEVELS.

I've had several people last week ask what they should do given they had not "shadowed" my moves and were still invested in equities. I "hypothetically" responded (as I am not registered to offer investment advice in the UAE as per the disclaimer below) that the markets were oversold and then was not the time to dump long positions. Those thoughts appear to have been correct as the market has risen since.

Over the next 1-2 months I think there is a real chance we could see some nice gains in a bear market rally. For those who are still heavily invested in equities, the top of the next move might be a place you would want to seriously consider repositioning into cash and/or bonds.

I fully expect we will see a top to my expected rally in the early fall followed by a MAJOR (breathtaking) decline into late fall. Should the short term rally materialize as I expect I will be very quick to return to cash as soon as there is a whiff of decline. Once again, bear markets are vicious and you have to be on your toes.


I remain invested as follows:

-50% Fidelity International Bond Fund*

-25% Fidelity Australian Dollar Fund*

-25% Fidelity Euro Fund*


*percentages are as per how funds were originally allotted. Due to market fluctuations and ongoing equity monthly purchases these amounts vary 1-2% from that posted.



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