Bulls Need A Knockout

by John Nyaradi

After last week’s fireworks, stock market bulls need a knockout to seal the deal

Last week was certainly a wild ride on major U.S. indexes as the Dow Jones Industrials (NYSEARCA: DIA) and S&P 500 (NYSEARCA: SPY) were whipsawed about by events in Italy (NYSEARCA: EWI) and at home. This week promises more of the same as global events will likely continue to generate intense volatility and investor angst. Our positions remain mostly positive as we head towards the Thanksgiving holiday, and for that we are thankful, as being “long” in this sea of worrisome news is worrisome, at best. However, the one lesson I’ve learned in all of these years is that one has to stick with one’s system and have the discipline to do that no matter what your “gut” might be telling you.

On My Wall Street Radar

chart courtesy of www.stockcharts

The chart of the S&P 500 (NYSEARCA: SPY) above (click to enlarge) clearly depicts why the bulls now need a knockout, or put another way, now need to “put up or shut up” and move higher out of the current trading range. We’re now back at the top of the recent range, just below significant resistance at the 200 day moving average and around the 1280 level, while significant support rests at around the 1220 level.

To reclaim the strategic advantage going into the end of the year, the bulls need to decisively reclaim the 200 day moving average and break higher. If they can go past the 1290 level, a quick ride to recent highs at 1340 would not be unexpected as everyone jumps on board this year’s “Santa Rally.” If the bulls should fail here and roll over and die, a quick drop to 1220 or lower is probably in the cards.

The Economic View from 35,000 Feet

This week’s economic action was a case of Jekyll and Hyde as conditions continued to improve at home while the European soap opera reached new levels of absurdity. Greece worked on getting a new Prime Minister and by the weekend, a new Prime Minister emerged in Italy, as well. Action in Italy (NYSEARCA: EWI) where the 10 year bond reached the critical 7% level, sent markets into a tailspin in mid-week but by week’s end seemed to settle down as a new “technocrat” government was poised to take power, new austerity measures passed Parliament and the long running regime of Silvio Berlusconi has come to a sudden and unexpected end.

Europe remains a big, big problem and will likely be a pain in the posterior for months, even years to come. Italy is widely viewed as “too big to fail” and many analysts suggest still that a breakup or major restructuring of the Euro Zone is inevitable. Whatever happens must happen soon as Europe appears to be entering yet another recession and failure now could still unleash a global financial pandemic that would make the collapse of Lehman Brothers look like a Sunday school picnic.

As we watch Europe tottering on the knife’s edge, it’s an uncomfortable time to be an investor or trader, that is for sure, but Jeffrey Hirsch, editor of venerable “Stock Trader’s Almanac,” offers some reassuring words about seasonality and how the next few months could generate an impressive year end rally and so investors should “Use Dips To Take Advantage of Year End Rally.” Let’s all hope that Jeffrey is correct because, although we can make money in down markets, it’s a lot easier and a lot more fun to make money when the markets are going up. (Think Santa Rally)

This week brings important economic data including retail sales on Tuesday, industrial production Wednesday, weekly employment and Philly Fed Thursday and October leading indicators on Friday.

What It All Means for ETF Investors

What this all means is that we’re due for the traditional “Santa Rally” from now through the end of January, even as Europe burns and economic uncertainty abounds. In spite of all of the negative news, technical indicators say that there is more upside ahead and seasonality would support this view. Unknowns are the situation in Europe and the results of the “super committee’s” deliberations due to be complete by November 23rd.

My high level view is that we’re most likely going to have a substantial rally from now into the end of the year based on the technical picture and the boost from the traditional year end “Santa Rally” and “window dressing” from institutional asset managers who are eager to dress up their returns in time for Christmas bonus season. Italy probably isn’t going to collapse between now and Christmas and Silvio’s departure this weekend further sets the stage for a “relief” rally over Europe. Longer term, however, the skies grow considerably darker as this game of musical Prime Ministers does nothing to solve Europe’s real problems.

Disclaimer: Wall Street Sector Selector actively trades a wide range of exchange traded funds (ETFs) and positions can change at any time.