In the Midst of a Pullback?

July 6, 2009
Michael A. Doran

The market remains vulnerable to the possibility of a deeper retracement of the rally than any that has occurred to date prior to higher highs taking place.

The market remains vulnerable to the possibility of a deeper retracement of the rally than any that has occurred to date prior to higher highs taking place. This week has a positive seasonal bias but is also characterized by low volume trading. We expect the week after The Fourth to be more "trustworthy" in terms of perhaps giving a clue to the next significant move in the indices. With that said, we are probing the short side of the market and building positions.

Further distribution of stocks is most likely expected into next week. The major stock indices appear to be etching out a possible head and shoulders pattern. The the S&P 500 index has broken through the 50-day moving average. The 878 level is probably the next stopping point on the S&P and where we will look for some concerted attempt by big money players to at least temporarily temper the decline. I have noticed over the weekend that many market technicians are also seeing these head and shoulder topping formations appear. Therefore, I would expect several sharp one- or two-day rallies as the market begins to roll over to run in the early short sellers. This should provide opportunity to build into selective short positions and possible short-term swing long positions.

Sharp bear market rallies like we have seen tend to die in low volume, and this is exactly what we have seen the last few weeks. The market has become too secure in our view of assured risk adjusted returns and it is quite possible that a counter trend pullback will take us through the summer. Even if the economy is improving on paper, people need to be more secure with their jobs to provide additional impetus to recovery.