Daily Form April 4, 2008


Profit Patterns and Risk Management For Active Traders
Trade successfully without having to be right about the underlying market direction
FRIDAY APRIL 4, 2008       07:15 ET

The testimony and questioning before Congress yesterday provided some fascinating insights into the issues confronting the Fed and JP Morgan when they were faced with no choice but to rescue Bear Stearns. The transparency of the process of Congressional hearings is one of the more redeeming features of recent financial turmoil but it does reveal the extent to which governments and regulators are hostages to the well-being and integrity of the capital markets.

As part of my guest analyst slot on CNBC’s European Closing Bell this afternoon I shall be reviewing some big picture issues relating to several key US indices and sectors. I am somewhat hesitant to make large pronouncements on days when the market has the capacity to be moved abruptly, as it may today following the release of the employment data, but I think there are several patterns that are quite clearly emerging.

Firstly, the 1415 level seems like an obvious target on the upside and should provide an area where I would expect congestion and consolidation to occur. This level coincides broadly with the 200 day EMA and, pertinently, still marks the upper boundary of a larger wedge pattern that began from last October’s high. To that extent the case can be made that until the market breaks decisively through the 1415 area (which also represents the 50% retracement from the October high and the January and March lows) we could still be within a routine and predictable rally within the larger context of the bear down-trend that emerged last October.

The real challenge will be to move further ahead towards the 62% retracement level which lies around 1455.

I am not focusing on downside targets in the intermediate term but a failure to hold above 1415, or a clear failure and rejection near the 1450 level would, in my opinion, create the possibility for new lows later in the year.

I am watching closely the action in the sector fund IYR which tracks the Dow Jones U.S.Real Estate index. There are a number of technical parallels with the formations that I have analysed before for the S&P 500. The higher low in March and the present position, where the sector is poised for a break above the 200 day EMA, suggest that the near term movements of this sector fund could well be a harbinger of what is to come for the overall equity market.

One sector that has been much overlooked in my recent commentaries is the semiconductor sector. In reviewing the SMH fund it can be seen that the price action has been remarkably range bound since mid January after the drop off at the beginning of the year. The 20 day volatility bands are highly constricted and yesterday’s peek above the top of the recent range was accompanied by above average volume. While an upside breakout could be imminent the money flow into both the sector fund, and individual stocks within it, does not suggest that there is immediate potential for any explosive moves.

Having closed within a whisker of the 5000 level that was discussed here earlier in the week, the Dow Jones Transportation Index (^DJT), could be on the verge of blazing a trail towards its historic highs from last summer. As with the manner in which so many indices and sectors are currently poised, the patterns are pointing to a fork in the road where the optimists and believers that a recession has already been largely discounted will have to step up to the plate and begin the process of serious accumulation, which at present is not in evidence.