Bullish for the Big Picture, but Cautious Near Term

 | Oct 11, 2011 | 3:00 PM EDT
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As I noted in Friday's column, some Fibonacci numbers were pointing higher and had bullish implications, especially for the SPX, where I noted that "the 0.382 retracement of the massive 296 point plunge in the [S&P 500] from the May peak to Tuesday's lows comes in at 1187.78." The idea was this is a minimum upside objective for a rebound, even if it's just a bear-market bounce. I'm not so sure that's how I'd grade it --  as just a bear-market bounce -- but I'm sure of one thing: I'd much rather buy something in anticipation of that 0.382 retracement than after it has occurred.

It occurred Monday and, as I noted in Columnist Conversation, I took some chips off the table, but apparently a bit too soon -- right at the 0.382 retracement level, just shy of 1188. Of course, after stalling at the 0.382 level for most of Monday, the S&P 500 (SPX) popped well above that resistance and closed near the highs at 1195. This morning, the SPX traded a bit higher, up to the 1199 level.  

I'm still net long up to 60% levels, but I have cut back in bullish positions not only in the SPX, but also in the energy services area. Monday at the close, I also took profits in the Rydex Precious Metals Fund. As I've said, I am not bearish here -- far from it.  But I am taking precautions and raising cash in case of another pullback. I suspect the lows for the year are in and I want to buy dips toward support. After the record-setting advance of the past week, I've got to wait for a significant pullback.

As for the Fibonacci retracements, that's a story in and of itself. Note that after closing well above the 0.382 level of the SPX, this morning's pullback found support at that level (or within pennies of it). The morning low was 1187.30, less than half a point below. From there it popped to new recovery highs just shy of 1200. So for the very short term, the 0.382 level of the SPX is support.  Breaking the morning lows by more than a point should point lower and may signal that a decent correction to this latest run-up is now under way.

SPX: 0.382 Retracement Is Now Short-Term Support
Source: optionsXpress

As for a downside target, there is that big gap from Monday's opening and maybe somewhere near that level, in the 1155 to 1158 zone of the SPX, I'd be interested in adding to my bullish positions.  

SPX: Monday's Big Gap Provides a Downside Target for a Pullback
Source: optionsXpress

Of course, it's not just the S&P 500 being guided by obligatory retracements. Take a look at the chart of the Russell 2000 (RUT) below. Here, despite the explosive move off last week's new lows at the 601.71 level, RUT is still shy of its 0.382 retracement target at the 703.65 level. Though the case can be made that this is just symptomatic of how badly beaten up the Russell 2000 is, it also suggests that the rally has further to go -- in this case, at least back up to that minimum 0.382 level.

Russell 2000: Still Well Shy of its 0.382 Retracement
Source: optionsXpress

Speaking of 0.382 retracements, I was surprised to hear a CNBC analyst on Monday talk about the 0.382 retracement in the euro, which he said has been completed. I checked my futures charts and numbers and I don't quite see that, but I think he has the right idea. In the  daily continuation chart of the euro below, the euro topped out at the 1.4925 level in early May and collapsed to its lows at 1.3142 exactly five months later, last Tuesday. The 0.382 retracement of that decline is 1.3823. Maybe Monday's high of 1.369 is close enough for now. We'll see. Of course, the idea is that if the retracement is complete, the euro sells off again and so does the stock market.

On the other hand, the more bullish scenario is the very real possibility that the euro must go a bit higher to complete this pattern and, if so, stocks have higher to go as well.

Euro (Continuation Charts) Closing In on its 0.382 Retracement
Source: optionsXpress

So, the 0.382 retracements may be complete, or almost complete, in some cases. But there are other factors arguing for a pullback, at least for the near term. Notably, the market is now quite overbought. The McClellan Oscillator settled Monday at a fully overbought +157. That, no doubt, is one reason why we are seeing the market stall today. The generally upbeat sentiment (no doubt supported by hopes of a resolution to Europe's debt problems) is also a potential problem. The pullback in the Volatility Index (VIX) to the 33 level is not great news, unless you want to buy tops.

VIX: No Longer so Bullish in the Low 30s
Source: optionsXpress

I'm still bullish for the bigger picture, but increasingly cautious for the near term.

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