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21st Century Alert
Morning Briefing
TUESDAY a.m.
April 8, 2003


Going Home

by David Nichols

Yesterday I wrote how a breach of SPX 891 would send the market
"home" to 876, as it would be widely recognized as a technical
failure of the breakout. That's why I suggested moving your stop
to that level.

Once 891 was breached, the journey back towards 876 was
remarkably swift. It was indeed a good place for a stop.

[Image 1: Go to Web site to see image]

This gap-up-and-then-fall-back is not what you'd call a classic
bullish day. But it's not time to get all fired up on the
bearish side either. It's just another example of a skittish
market, with no conviction among its players. Everybody is
chasing moves, reacting to prices in either direction. Nobody
wants to make a stand.

The daily candle is ominous, but it needs another red candle
today to confirm it as the start of a potential turnaround. The
last time we saw a candle like this was on December 2nd, and that
was the start of a month-long decline. Prices never moved back
up into the long "tail" on that daily candle. If we don't see a
foray today into the tail -- and a close into it -- then the
situation becomes decidedly more bearish.

[Image 2: Go to Web site to see image]

A look at the sentiment gauges shows, well, not much. The VIX
fell yesterday, but it didn't plummet, and then it didn't even
rise much with the cascade down at the end of the day. Emotions
stayed flat. Traders are confused, rather than greedy or
fearful.

[Image 3: Go to Web site to see image]

All in all, though, there is a mood of complacency settling over
the market. The problem with this is we are still very far below
the "neckline" at SPX 950 - 965, and it will be hard to make a
convincing long-term bullish case while we remain below that
level.

But there are some near-term markers which would show that the
tide really is turning towards the bulls. One is the 40-week
exponential moving average. This important average has capped
all rallies throughout the entire bear market. So far it's
capped this one too, as it came close yesterday but was repelled
away. If this isn't captured, this rally is going to look a lot
like all the other ones that failed.

[Image 4: Go to Web site to see image]

Another important average is the 12-month exponential moving
average. We've also moved up towards this line, which the market
hasn't been above for years.

[Image 5: Go to Web site to see image]

If the market can rally over these levels and hold, then that
will be an entirely different story. That would be the bull
lifting himself off the canvas, getting ready to go to one knee.
But at this point, the bull is still face down.

One data point that has some people fired up is a switch in
sentiment among the commercial S&P 500 futures traders. In the
commitment of traders (COT) data, this group is net long for the
first time in the whole bear market. The big commercial traders
are usually more right than wrong, so you "fade" them at your own
risk.

But there is an interesting divergence in the COT data, and
that's how the commercial traders in the "e-mini" -- the smaller
SPX futures contract -- are heavily net short. There's a
conflict of opinion, and I've been getting lots of queries about
this.

To help with this mystery, I'm going to turn to our resident
sentiment expert, Jason Goepfert of sentimentrader.com. He's
written a good explanation of how to read this divergence of
opinion, written in his March 30th weekly commentary:

"I have been relatively hesitant to use the e-mini as a
forecasting tool. Its record until recently has been spotty at
best. Since the last quarter of last year, however, it has
improved significantly, and as contract volume grows it may
become more so. In any event, the differential has gone from the
most positive in history just prior to the low a few weeks ago to
by far the most negative in its history.

How do we reconcile the fact that the large contract appears very
positive while the small contract is showing just the opposite?
Not an easy question, for sure, and you're bound to get different
answers depending on who you talk to. Personally, I consider the
two contracts completely separate. I think it is a mistake to
try to create one figure out of both contracts, by adjusting the
small contract for the large. What I mean by this is that a one
point move in the large contract is worth $250. In the e-mini,
that same point move would be worth $50. So some analysts simply
divide the number of e-mini contracts in the COT information by
5, and add it to the large contract. However, I think that can
be terribly misleading because the groups of traders who trade
each contract can be vastly different. The CFTC reporting limit
for the large contract is 1,000 contracts. With a current margin
requirement of $17,813, that translates to a position margin of
at least $17,813,000 before a trader would have to be reported.
In the e-mini, by contrast, the reporting limit is only 300
contracts. With a current initial margin requirement of $3,563,
it would only take a position of $1,068,900 to be reported, a
difference of nearly 17:1 between the two contracts. Since
initial margin requirements are reduced by around 20% for those
who designate themselves commercial traders, there may be an
incentive for some funds to do so, which would be much easier to
accomplish in the e-mini contract. My point here is that there
are most likely very different groups of traders making up the
commercials and small speculators in the full contract vs. the
e-mini, and I do not think the two should be mixed.

From what I have seen of this data so far, the e-mini has
appeared to "work" on a shorter time frame than the large
contract. The positions change with much greater frequency and
magnitude from week to week, so I don't think those positions
should be extrapolated out too far. The large contract, in
contrast, has been most effective in the intermediate-term, which
I consider to be at least several weeks. So, taken as a whole, I
believe the changes in these contracts, while likely influenced
to a great degree by expiration, indicate that we may be more
likely to see short-term weakness in the days ahead, but strength
thereafter."

Sentiment Dashboard

by Adam Oliensis

[Image 6: Go to Web site to see image]

SENTIMENT TANK: The tank drained 5 points to 41% on Monday. The
main takeaway from the day, though, was the market's inability to
hold the gains of the morning rally. The tank remained within
its recent horizontal range. Sentiment isn't telling us a whole
lot right now.

SHORT-TERM: The hourly gauge is just too squirrelly to call
anything but neutral. We could try to parse it and force one
thing or another, but it would be just that, forcing it.

MID-TERM: The mid-term gauge clicked a 1-point gain to 14% on
Monday in its effort to call the onset of a decline phase, but
our Confidence Diffusion Index (CDI) remains staunchly neutral at
zero. The war is making sentiment behave in notably non-normal
ways.

LONG-TERM: The weekly gauge continues to flicker between the
mid-range of a decline phase and an effort to turn up into an
advance phase. Monday's action put the gauge provisionally into
an advance phase, but this is just a flicker, not a solid reading
so far.. Our weekly CDI also remains very close to neutral at a
bullish 1 (out of 7).

This market doesn't really know whether to spit or go blind at
the moment. It's just riding war headlines and those blow
sentiment to and fro, hither and yon with very little traction.
Just as the national psyche has been fixated on the war, so too
has the market's psyche, and it is behaving somewhat differently
than it usually does. We should begin to see the market's
psychology return to a more normal focus as the war moves toward
what looks to be a very positive conclusion.

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