Don't Let Your Guard Down

 | Dec 06, 2012 | 7:15 AM EST
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Just about a week ago, I noted that neither bulls nor bears should be complacent. I also noted that the folks in Washington -- Republicans and Democrats alike -- should not be complacent, either. I think Wednesday's action tells us exactly why that has been the correct posture, and likely will continue to be.

Let's just review what some of the statistics from Wednesday's trading show, since there were positives and negatives. One indicator that surprised me the most was Nasdaq volume breadth, which was positive on the day. Consider this for a minute: While it might not sound like a lot, Apple (AAPL) traded about 2% of the total volume on the index, while the Nasdaq itself lost 23 points on the day. So more had to be happening than just the drop in Apple, and yet net volume was at a net positive of 68 million shares. I would have expected it to be negative, and it wasn't -- so that is a plus.

Elsewhere, the Philadelphia Semiconductor Index (SOX) continues to act well, and of course the banks decided to be the positive group of the day. I just knew that if I complained about them enough they would rally. The Dow Jones Transportation Average and Dow Jones Utility Average were both green all day -- and solidly green at that.

On the negative side, the market is not yet oversold, but it continues to work off the overbought reading in a sideways fashion. Consider that the S&P 500 closed at 1409 the day after Thanksgiving, and that it stands at 1409 today. What this means is that, in eight trading days, it has made no progress on the upside or on the downside. I cannot decide if this is bullish or bearish, but it certainly tells us there has been very little desire to "chase for performance" so far.

Also on the negative side is the reading from the ISE, which came in at its highest level since Oct. 2. After that day, the market had rallied for two more days, and then began declining. Keeping with the sentiment side of the discussion, on Wednesday the index put-call ratio was once again under 100%.

Finally, the Russell 2000 had been acting quite well all week, but it sorely underperformed on Wednesday. While the S&P was up 7 points, the Russell was barely green. This managed to raise the ratio of the S&P to the Russell 2000 for the first time since Nov. 15 -- and this as the ratio hovers near that 1.7 mark, an area where we have recently seen highs develop in the market. If you are bullish, you need this tick-up to be temporary and have no follow-through.

S&P 500 vs. Russell 2000

The Nasdaq has now been retreating the last four days and five out of the last seven trading days. So at least we can say it is working off that overbought reading and heading toward an oversold reading.

I've been penning summaries of the European bourses this week, but today we'll move away from that continent (we still need to get to the London FTSE) and look at the Shanghai Composite, since there has been so much recent chatter about it. In the past I have discussed fan lines, but they are more often uptrend lines. In this case there are two downtrend fan lines; the general rule is that crossing the first line is a heads-up, while a broach of the second line means the trend is likely to change. Crossing the third line means the trend has changed.

The line around 2060 should act as a bit of resistance, but I see two scenarios developing in this market. The first is that a pullback from here to form a head-and-shoulders bottom (right shoulder around 2000). The second is that the index gets through the fan line around 2060, and then pulls back to retest it -- thus setting up a third fan line. It's a bottoming process.

Shanghai Composite


Overbought/Oversold Oscillator -- NYSE

Overbought/Oversold Oscillator -- Nasdaq



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