Signs of the Atop-calypse?

The market as of late has given me the sensation of being a yo-yo on a see saw being whirled by a carousel on a merry go round. For the most part I've managed to cut back my trading significantly and avoid churning my account, but I have been caught with my hand in the cookie jar a couple of times and felt the stinging reproach. I've faced the mirror and realize that currently I'm not in sync with this market and have not found it conducive to the style of trading I implement and have wisely sat aside, mostly disciplined but on occasion an impetuous pulling of the trigger.

That being said, part of my discombobulation is that I spent so much time, effort and energy towards applying myself while in the market, I didn't really address in my trading plan of what I would do during the times there was a lack of opportunity. In part, this is one reason I finally placed the energy into creating a blog so that I could externalize some of my thoughts and in turn perhaps expose some of my ideas to the light and learn to apply my time in a more pertinent and useful manner.

One of my thoughts as of late has centered around the topping process of markets and how to identify them and better understand what they mean in the context of my trading. Again, having sat out some time, I began to ponder how much longer I may expect to, and what to look for at the turning points to be prepared to take full advantage when I'm in step. For this, I returned to “How to Make Money In Stocks,” as a guide.

I've cracked the spine on HTMMIS numerous times and am coming to the conclusion that I have not done so nearly enough. The information is the exact same as the last time I peeked, but I am not and the questions that I bring this time around are more seasoned than the first time or the second time or the tenth time. For this perusal I turned to Chapter 7 “M = Market Direction: How to Determine It,” and the index looking for sections on bear/bull markets and tops/bottoms.

In HTMMIS, O'Neil gives a model of market cycles and my goal in this exercise is to cross reference his model with what is occurring in the markets at this time and see what correlations exists. On page 68 (3^rd Edition) he makes three key points:

1. “Almost always, the really big money is made in the first one or two years of a normal new bull market's upward movement....”
2. “In the first or second year of a bull market, you should have a few intermediate-term declines in the market averages usually lasting a couple of months, with the market indexes dropping 8% to 15%...”
3. “The remainder of the up cycle usually consists of back and forth movement in the market averages, followed by a bear market....”

The current bull cycle commenced on 03/23/09 after a move of 20% from the 03/09/09 close. During a period of 2 years between 03/29/09 to 04/29/11 the SP had a 65% increase, and from the 03/09/09 close, a 101.56% move.

Over the past two years there have been a few periods where the index has pulled back 8%+, 01/19/10 to 02/08/10 saw a 8.13% drop and a new 52 week high established on 03/11/10 , 04/23/10 to 06/30/10 saw a 16% drop and a new 52 week high established 11/04/10. These intermediate-term declines also correlate to the the model.

Which brings the third point, which according to the model should be the current state of the market which since 02/17/11 has been a period of back and forth movement with the SP primarily trading within a 5% range over 4 months. With the SP currently down 7.68% it remains to be seen whether or not a bear market will follow or if this is a persistent intermediate-term decline and the index continues to chop within a range.

Clearly there are correlations between his model and the current bull market but it remains to be seen if a bear phase will follow or perhaps this range, like the 56-58 market will continue for the near future. The point of this endeavor is not to be an oracle and presage what the market will do, it's an attempt to grasp what the market is doing and for that turning to the market participants and what they are doing is a logical follow up.

Dow 55-58

There are two points of reference I noted when ascertaining the mood of the market participants. 

1. “After an extended rally in the market, a tape reader may notice more defensive stocks (food and utility) cropping up on the tape. This is an indication professional money is becoming apprehensive.” pg. 211
2. “Prime defensive industries are gold, silver, tobacco, foods, grocery chains, and electrical and telephone utilities.... increased buying in a number of these stocks after a couple of years of a bull market you may be witnessing an indication that many of the bull market's groups are near a top.” pg. 228

To delve into this I used TeleChart and scanned for stocks in proximity to their 52 week high, took the top 10% and sorted them by Industry/Group and looked for the clusters. As can be seen in the following image, there are a number of stocks in the food/grocery chain/utilities sectors.

Sector Clusters

Additionally I scanned for stocks within proximity to 10 year highs and sorted them by dollar volume to see where the money is flowing and the list is primarily compromised of Big Cap Dow stocks.

KO IBM MCD MO CL GIS UNP MCK HNZ NSC.  

With big money being positioned in these sectors it can be deduced that big money is indeed becoming apprehensive at this time.. Observing whether money begins to flow into more aggressive vehicles or continues to rotate into defensive positions may give clues in the up coming weeks as a number of potential news catalyst hit the market and another earnings seasons commences.