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THURSDAY a.m.
January 23, 2003



Now we'll get the bounce
by David Nichols

When you trade end-of-day mutual funds, there's little doubt that Murphy is going to be hanging around, reminding you of his famous law.

We didn't get the bounce yesterday to get better entry prices in the Rydex funds. This is good and bad. The bad is that we didn't get an optimal price, which will affect our eventual return, perhaps only to a modest degree.

The good news is that such pronounced weakness after an already blistering downside run shows a market that is in serious trouble, and bodes poorly for a quick major recovery. The entry may not have been optimal, but the confidence behind the trade has now increased.

A look at the 60 minute chart of the OEX shows the market tracing a remarkably linear path downward.



It's rare to see a move down that's so, well, linear. There just weren't a lot of people that wanted to step in and buy along the way, causing the usuall little flurries of buying pressure. Remarkable.

But this linear cascade was part of the reason why I recommended only a small initial position. I've had it in the back of my mind that we should have some firepower available if the markets put in a one or two day bounce, and then start heading south again. We can always add more into these funds at that point.

I had a lot of questions about what constitutes a small position. Obviously I can't answer for you personally, but I can make a few general points. A small position is one that you are not excessively worried about. If you find yourself fretting over every tick and every squiggle that moves against you, or even simply giving the market an obsessive amount of attention -- then your position size is just too big. Only you can know your comfort level, and you need to experiment until you find what's ideal for you. It's never, ever a mistake to start small. If it goes your way, and you then start beating yourself up for not having more exposure, well, that's just not helpful. In fact, that's precisely the type of reaction that can eventually lead to trouble.

And remember this too: the only things that can ultimately throw you into a psychological tailspin are those omnipresent, age-old market wraiths: greed and fear . Believe it or not, it is possible to banish these demons by always trading well within your means.

So far this downtrend has some bona-fide credentials. The VIX is popping, showing fear on the rise. The truth is the momentum of this fear virus could just be getting rolling. It's hard to stop the fear from infecting more and more market participants once it has started proliferating to this extent.



Over on the Nasdaq, the fear's just not showing up. Granted, the QQQ didn't take much of a drubbing yesterday, but the QQV put up another customary red candle, and didn't register any true fear about coming declines. That's not a bullish sign.



And our other sentiment gauge -- the bond market -- has been on a tear to the upside. Money is again seeking the "shelter" of bonds and yield, which is confirmation that money definitely wants out of the stock market.



Now, after all this bearish talk, you'll be surprised to hear that I don't think the markets are going to go down much the rest of the week. Such a tremendous selling wave is always met with a consolidation or a retracement, and such a congestion period is already way overdue. We'll be able to tell a lot more about this mid-term downtrend after we see just what can be mustered to the upside.

After the close yesterday, Qualcomm reported a very nice quarter, and the stock has responded positively in after-hours trading, also sending the Nasdaq futures up. It will be worth a look at QCOM during the trading day to see if this initial positive reaction can be sustained -- this could be a good "tell". At least some catalyst for a bounce has finally arrived, so we'll see now how it plays out.

After this coming short-term advance phase plays out, we're betting that the work of the markets will be to scare away more and more of the bullish expectations for 2003, and to head down below recent support points. The longer-term weekly charts are starting to look particularly bad right now on our timing models.

I remarked to James yesterday that this is exactly the same type of set-up that started the waterfall declines in 2001 and 2002 -- and most of those downtrends lasted for months and ended in complete wipeouts. Since the market has not changed its character, we shouldn't assume anything different this time. Certainly not yet, anyway.

Unbelievably, we're almost 3 years into the bear market, and the same destructive patterns keep emerging. So we'll just keep doing what we've been doing, until the markets prove us wrong.