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OPINION

Cautiously optimistic

Cautiously optimistic
November 23, 2012
Cautiously optimistic

Put simply, I like to be wrong at the end of a trend. It shows that I am doing the job of trend-following properly, instead of trying to be a guru who attempts to call tops and bottoms. Trying to spot the next big reversal is a mug’s game of the first order. At best, it results in missed opportunities, as trends often persist for much longer than expected. At worst, it results in frequent and painful losses.

While I believe the larger trend in US, German and UK equities still to be upwards, I did not jump in at the very first sign of a bounce this week. Why? Because the short-term trend - the most relevant one for trading purposes - has been downwards now for at least a month in the Dow. The FTSE's direction has been firmly downward for about a fortnight. In this environment, I have mainly been looking for short positions.

Dow hammers out a low

Admittedly, the turnaround we saw on Friday 16 and Monday 19 November was impressive stuff. The Dow’s revival took very much the same form as that which occurred in early June, with a bullish 'hammer' pattern forming, followed by a big move to the upside. Likewise, the FTSE’s 2.4 per cent move from high to low was of almost exactly the same dimensions as its surge of 6 June. I am prepared to give this recovery the benefit of the doubt, therefore.

FTSE fires up

If I have a concern about this turnaround, it lies in traded volumes. While NYSE volumes surged on Friday’s move higher off the lows, they tailed off noticeably on the next day. The FTSE 100’s big one-day rebound occurred on truly unexceptional volumes, well short of the levels that accompanied June’s revival. Now, low and shrinking volumes have been a feature of the entire bull market since March 2009. However, we would still expect to see more stock changing hands in an early-stage recovery after a correction like the one we’ve had.

S&P's flimsy volumes

So long as the indices are above their 55-period exponential moving averages on their four-hour charts, I am willing to try and buy. Better confirmation that we are really back at the races, though, will come from a decisive move back through the 200-day moving averages. Strong breaks of this line have been excellent buying opportunities in the past. The S&P and FTSE have already accomplished this feat. The line for Nasdaq 100 currently sits at 2665.9 and at 12992.1 for the Dow.

Dow's target

Am I at risk of being too early here? Clearly, this is always a danger. However, enough of the elements are in place for a recovery to begin, in my view. Sentiment among my fellow pundits remains cautious, daily momentum readings have already plumbed oversold levels, while we are now in the more favourable period of the year for equities. If I end up being wrong, I will live with it. I will have been wrong for sound reasons, after all.