Dip-Buyers Hold the Key

 | Jan 17, 2012 | 7:59 AM EST
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Who are you going to believe, me or your lying eyes?
-- Groucho Marx

We are kicking off the week on an upbeat note as economic growth in China came in higher than expected and inflation data in Europe were lower than expected. We also have improved consumer sentiment numbers in Germany as last Friday's well-anticipated downgrade of European sovereign debt is being ignored.

It is obviously strong action, but it is very deceptive. For the third time in 10 trading days in the new year, the big gains have come overnight. Even though the S&P 500 will be up well over 3% for the year if this open holds, you have lost money if you have bought the open and sold the close each trading day. It isn't all that unusual for gains to occur in that manner, but it's tough for shorter-term investors to put money to work.

Although we have good-sized gains and aggressive dip-buying on intraday pullbacks, we don't have any real momentum aside from these gap-up opens. The underlying support has been quite bullish but we have not gained any real traction once the dip-buyers jump in and move the market back up to flat. In fact, if you ignore the three gap-up opens, we are negative for the year.

The media and traditional Wall Street celebrate this action but many traders end up quite frustrated because it isn't nearly as easy to trade as a casual observer of the indices might think. But we should be used to it by now, as this market for several years now has rallied straight up on light volume and weak technical patterns. It has generally paid to chase an uptrend, even when it has a very shaky foundation.

Don't anticipate weakness. The S&P downgrades on Friday would appear to be fairly good catalysts for some profit-taking, but instead they set the stage for a short squeeze this morning on better-than-expected economic news.

The big question for us this week is whether earning season is going to produce a change in mood. We have already had more earnings warnings than we have had in many years, and expectations about individual reports aren't very high -- yet the market is acting like it is expecting a steady supply of blowout reports. It is definitely a "sell the news" setup, but any bear who is overconfident at this point hasn't been paying attention to how easily this market is levitating.

The dilemma of this market is that it is very strong and has excellent underlying support yet it lacks good momentum and has little leadership. Fighting the strength is obviously a losing strategy, but if you aren't catching the bulk of these gap-up opens, you aren't gaining much, either.

Chasing a Monday-morning gap like we have this morning if very tough to do; I expect to see some selling into this open. But the key is the dip-buyers and their tendency to move in quickly on early weakness. As long as they stay busy, the bulls have the advantage.

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