October 30th, 2005

It’s truly amazing how one’s perspective

It’s truly amazing how one’s perspective on future market direction is biased by the current day’s action, especially on triple-digit days (DJ30, that is). First, there was a 128 point move on Wednesday, October 19; all the talking heads called it a “follow-through” day as defined by Willian O’Neill. However, there was plenty of disappointment when it was more than erased the next day by a 133 point drop. The talking heads looked like they had jumped the gun. Then last Thursday’s 115 point drop to 10230, pointing to highly probable extrapolations below 10000 was followed by Friday’s 165 point reversal to 10403 (interestingly, 90% of the last Friday’s in October has produced the biggest move of the year for several decades).

To try to get a get a better handle on the volatility and to help check any emotional trading on my part, I recapped daily moves of the DJ30 , either positive or negative, of .9% and greater since March 2004 and came up with the following surprise frequency distribution:

Month # of +/- changes greater than 0.9%
Apr-04 5
May-04 5
Jun-04 1
Jul-04 3
Aug-04 6
Sep-04 2
Oct-04 6
Nov-04 3
Dec-04 4
Jan-05 3
Feb-05 2
Mar-05 5
Apr-05 8
May-05 5
Jun-05 4
Jul-05 2
Aug-05 1
Sep-05 2
Oct-05 7

No wonder this summer has been so boring. Since May, there were very few trading days with moves of 0.9% or more (“big-move” days). Other than this past month, the last time there were big-move days, was last April (with 8 days) which began a 5.7% increase through July 28. In August and October 2004, there were 6 “big-move” days each signaling an 11.24% move through December 28.

“Big-move” days reflect the tug of war waged between the bulls and bears. Based on similar recent volatility, it’s easy to infer a high probability the recent action also signals a significant move to year-end. But which way?

Let’s turn to a long-term view of the DJ30 for some clues:

The market, as represented by the DJ30, is now at a crucial juncture. The average is resting at both the bottom of a narrow recovery channel that it’s been forming since early 2004. Additionally, it is at nudging a long-term secular trendline formed by the lows of 1982 and 2002-3. Strength at this point could carry the market to the 11000-11100 range, a 5.7-6.7% move. At that point, the average would be at the confluence of the upper boundary of the current recovery channel and the resistance level set by the “bubble” peak.
Further downward movement violating both of these supports could trigger a substantial decline since there’s very little in the way of support until the 9100 area.
Two groups that may be appropriate for waiting out the resultion of this tug of war are the REITs and regional banks because of their usually high dividend yields. Many stocks in both groups appear to be recovering from recent declines due to profit taking and are now moving toward resistance levels at recent highs. An example is AMB Property Corp (AMB) with a 4% dividend yield:

…. or, in addition to Wilmington Trust (WL) with a 3.19% yield mentioned here previously, there’s Boston Private Financial Holding (BPFH):

…… and Central Pacific Financial Corp (CPF):

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