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Friday, July 14, 2006

The Option Strategist Weekly Updater



July 14, 2006

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Stock Market
The bulls had every opportunity to move the market higher over the past couple of weeks, but they were unable to do so. Even before today's global problems surfaced, the bulls were woefully lacking in ability to counteract the bearish trends. As a result, $SPX slipped back below support (1255) and NASDAQ made new lows. It now appears that the bears are in charge again, and it would take a whole new setup of buy signals to generate another rally. Perhaps $SPX will find support near 1240 again, as it did in the second half of June, but it's more likely that it will try to retest the June lows near 1220. We had expected such a retest to take place, although we thought it might be later this year. When a retest takes place, we look for divergences: are the technical indicators in better or worse shape than the first time the averages visited this level? That will be important, and it's something that we'll definitely be keeping an eye on. For example, from Figures 2 & 3, we can see where the put-call ratios were when $SPX bottomed out in June. Will they be higher if $SPX trades down there again? If they are, that's bearish, but if they're lower, that would be a bullish divergence.

Speaking of the equity-only put-call ratios, they have been on buy signals for 2-3 weeks, but they were mostly alone in that stance and hence nothing much ever got going on the upside. They may roll over and start moving higher again. If that happens, they would revert to sell signals. It's possible.

Market breadth has been poor all along, and nothing has occurred to change that. Breadth indicators are bearish at the current time.

Finally, the volatility indices ($VIX and $VXO) had been taking a rather benign view of this decline when it first started about a week ago. However, they are now moving sharply higher, which is bearish while it's ongoing. Eventually another spike peak in $VIX would be bullish, but it's too early to call for that yet.

In summary, $SPX is going to try to find support at 1240 and then 1220. If both give way, this could get very nasty. In the meantime, we will take a somewhat bearish outlook unless new buy signals set up something that doesn't necessarily happen overnight.

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