Not Necessarily the News

 | Nov 29, 2012 | 4:30 PM EST  | Comments
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I am fond of saying, "It's rarely just one thing, but, whatever it is, it's never just the news." And that was the case Wednesday when the market shot up, seemingly out of nowhere, on talk of a deal in the works on the dreaded fiscal cliff. At least that was the perception -- that there was some major progress on the fiscal cliff issues -- which, on Wednesday, turned the market back up from better than a 100-point deficit in the Dow Jones Industrial Average in the first hour of trading. At the close, the Dow was higher by more than 100 and the intraday move was 220. But in case you think that it was just about the news (which it never is), let's take a closer look.

In the abbreviated Friday session after Thanksgiving, the market exploded higher and left a bunch of unfilled gaps. Those gaps were downside targets for a pullback. Though I was remiss in not citing those gaps in Tuesday's column, I did show the gaps in my charts and said that I was looking for further weakness over the near term that I would use to add to my positions. The idea, as usual, is that downside gaps represent unfinished business for the market, and once the gaps are filled, it generally makes sense to buy for the next bounce.

So, most notably, there was a gap in the Russell 2000 from last Friday. That gap was 798.38-800.93. Wednesday's low, not coincidentally was just 0.13 above the bottom of that gap. The Russell 2000 bottomed at 798.51, just a sliver from filling that gap in its entirety, and that was that. Now, the Russell 2000 is working on another gap. That's the one from Nov. 7, the day after the election. That gap was originally 825.64 – 818.91. Now that the Russell 2000 has popped to 823.27, that gap has almost been filled. Once it's filled in its entirety, that might just be it for the near term. Note that today, the Russell 2000 has left another gap from Wednesday's close at 813.50. And while the Dow and S&P 500 have filled this morning's gaps, the Russell 2000 hasn't done so yet. That's a downside target for another pullback.

Russell 2000: Closing in on its Nov. 7 gap.
Source: optionsXpress

So there's that. In the S&P 500, there was no gap to be filled from last Friday, but there were some very visible gaps in the futures, specifically, the E-mini. Last Friday's gap was 5.5 points wide from 1388.25-1393.75. Wednesday's shakeout went well beyond that gap to the 1383.00 level of the futures. From there it was back up. Back up to where? Already back inside of the massive post-election-day gap from 1410.75 to 1425.25. More on that in a moment.

In the short-term futures chart, you can see the role that these gaps play on a very short-term basis. This morning's gap up opening was 1407.00-1413.00 then narrowed to 1407.00 – 1410.50. The futures were trading at the 1415.00 level when, at 11:39 a.m. EST, Speaker John Boehner suggested that all was not well with the anticipated compromise on Capitol Hill. In a matter of about four minutes, the futures collapsed to the low for the session, at exactly 1407.00, where buyers were waiting in the wings to scoop up contracts. Why? Because that's where the morning gap was. If the gap had been at 1402.00, that's where the selling would have ended. From there, it's been back up to 1417.25, a little over a point shy of the morning highs.

E-mini S&P: Filling this morning's gap to the tick.
Source: RJ O'Brien

Bigger picture, the E-mini is also telling us something about where this move is likely headed. As suggested in Tuesday's column, the obvious target for this move (now that the 50% retracement level has been exceeded) is the gap from Nov. 7. In the futures, that means 1425.25. So far, the futures have come within 7 points.

E-mini S&P: Back inside of the massive Nov. 7 gap.
Source: R.J. O'Brien

The chart of the cash tells a similar story. But it doesn't show us all of the gaps. For example, there was no gap from last Friday. Though on the upside there is still that gap from Nov. 7 at 1428.39, which I continue to keep on my radar. Also noteworthy is that this morning there was a gap in the cash at 1409.93. That gap also was filled during that quick shakeout this morning. The low was 1409.04. What's interesting about that is that it's close to the 50% retracement level of the decline from the September peak to the recent fiscal-cliff, hand-wringing lows. That level, you'll recall, is 1408.93. It was resistance. Now it's support.

S&P 500: Turning resistance into support.
Source: optionsXpress

I used the pop this morning to cut back in some of my NDX positions at Rydex, selling them at the morning pricing of 2682. It's noteworthy that the Nasdaq-100, like Apple (AAPL), has now completely retraced its losses since the election. In this case, I am happy to grab some profits, figuring I may get another crack to buy this sector at lower levels in the days ahead.

The VIX hasn't collapsed below 15 yet, and at least that is a minor plus. However, the fact that it's hovering just above 15 doesn't thrill me.

VIX: Back to the 15 level: it could be worse.
Source: optionsXpress

Even less encouraging is that the McClellan Oscillator is already mildly overbought at the +122 level at Wednesday's close. A strong close today could put it back near +170 and that would be another warning sign.

Partially offsetting that increasingly overbought condition, however, is that seasonal patterns turn positive, beginning tomorrow and going into next week. I did some buying of the Dow on Wednesday when it was below 12,900. I have been taking profits in the Russell 2000 and Nasdaq-100 positions since then. Once again, I am invested up to a maximum of 50% levels and, right now, that suits me just fine. 

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