April 19th, 2009

Insurance Against Being Caught In Bear Market Trap

“Am I alone or are there others also out there on the platform afraid you’ve missed the train as you see it slowly leaving the station?”

That’s what I wrote on StockTwits.com yesterday. I’m beginning to see similar comments from some of the most surprising places in the blogosphere. For example, I’ve considered Tim Knight of Slope of Hope a true perma-bear since first caming across his blog last year but, amazingly, even he’s now beginning to consider the possibility that the market is close to a critical juncture: a relatively mild correction (about 10-15% to the 750 range) after which it delivers a rocket ride to over 1000. That’s what I’ve been writing here for quite some time.

You haven’t seen this chart or heard me talk about the MTI (Market Timing Indicator) for some time but the 180-day and the Index have been slithering closer together and approaching an critical meeting and, hopefully, crossover (compare the chart below to what it looked like on March 26):

Import points to note are:

  • The Index and the 180-day MA are converging and haven’t been this close for a year, since last May when Index failed to cross above that MA and, thankfully, therefore didn’t trigger a “green light” that it was safe to move back into stocks.
  • If the Index increases at an average 4%/month, the crossover would take place around May 10 since the 180-day will continue declining as the Index increased.
  • Both the 60- and 90-day moving averages have now turned up moving closer to indicating a positive change in trend momentum.
  • On March 13, I enumerated 8 hurdles the Index had then yet to cross. The market has been able to jump across 5 of those hurdles now and has only the resistance trendline at 900, the 180-day MA and the resistance trendline at 1000.

I believe this is when the difficulty comes in. The Index was last above the 180-day MA in December, 2007. Should that happen in May or June, as I’ve long expected, history tells us that this has not been a Bear Market Trap or Suckers’ Rally but a completed reversal. At that point, the risk of a continuation of the Bear Market will be greatly reduced and it will be much safer to again own stocks.

“Why can’t we jump the gun and start buying now?”, you ask. I respond by reminding you of a conversation I recounted in “A True Tug-of-War” of last December 3. Coincidentally, the market closed Friday almost at the same level as it was that day. It was a few days after the 6.7% sell-off on November 20 and bounce shortly after.

All the talk at the time was that it was the long awaited “selling climax” and everyone was urging to grab stocks at “once-in-a-lifetime” low prices. I cautioned that reader that I had just projected 1100 as the safe reentry point and considered the 30% move up to that level as “insurance”. Even though stocks were attractive, the Index in fact fell another 25% to the March 9 low of 696.

We’ve now experienced a 28% move up from that low. It’s been hard watching stocks you knew would increase actually do so. I included the list in my March 29 post (“Now’s The Time To Be Prudent“), three weeks into this move from the low. Click here to view an updated the list of stocks.

Since then, the stocks that have passed through the trigger price has increased 14.8% above their trigger prices (usually a horizontal trendline) and 16.4% above their closing price on March 29. The stocks that have not yet gone above their trigger prices are up only 6.5% and still 12.0% below their trigger prices.

Even having missed out on that 16% profit since March 29, I consider that “opportunity cost” as insurance against these few weeks actually being a bear trap, failing again to jump the 180-day MA and suffer another major decline.

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