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Market Madness
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Market Madness

by MoleAugust 29, 2008

Financial markets are known to push people just past the breaking point before reversing strongly back to the larger trend.  This is perfectly normal for wave 2 behavior, which I believe is over at this point.  While our line in the sand laid forth on Wednesday was pierced to the upside, the utter lack of strength in our once leading indexes, the $NDX and $COMPQ, certainly beared watching.  As I write, the $NDX is down a little over 2%, while the larger $COMPQ is down just under 2%.  Yes, I know that DELL had bad earnings, that accounts for one stock.  Something else had to give to get the reversal in breadth, and price, that we have this morning.  For those of you who use pivots also, you might note that /NQ (Nasdaq futures) opened below the S1 pivot this morning, rallied up, and turned down from a little beneath it, a strong bearish sign.

This image represents a complete reversal in breadth from the past 2 days.  The chart below indicates that the price is confirming this reversal by breaking through the lows of 8/26, a previous 1st wave low.  As Elliott allows it at this point, the probablities of a corrective pattern taking us to a lower low is almost solely contained to an expanded flat.  As it stands now, that is still a possibility, as the market has only had 3 waves down thus far.  If this is the case we should be looking for around yesterday’s high for a target, as illustrated by the other chart below.

And the best working alternate…

On Tuesday I mentioned that everyone was watching FRE and FNM.  I told Mole yesterday that their momentum and/or rate of change was falling off a cliff, and that that was a strong bearish indication. Today, they have both finally decided to turn down.  While this is just one day, it ends the four day uptrend in which these stocks have almost doubled.  We need moves like that in a bear market, otherwise we would have nothing left to short.  While I wasn’t happy to see it, I am happy to see it coming to an end.  Here is a quick chart of FRE, 20day 10minute.  I used the most recent move down and up as a reference.  There are other highs that I could base this off of, but the implications remain the same no matter which high you use.  Notice the break of the trendline, the A=C equality, the retracement to the 23.6% fib, and the beauftiful gap rejection.

This is another chart I posted on Tuesday night.  While the major two that we have been watching (FRE and FNM) are breaking down, we need some confirmation by the rest of the sector.  As soon as the $BKX breaks that lower support level, we would have great confirmation in that the financials are moving lower collectively.

Lastly, I will toss out an interesting trade that I took yesterday.  This is not a recomendation to follow me into danger, but I think there are some interesting elements that combined to make this a high probability trade IMO.  I grabbed a small put position on MBI.  Let me throw up a chart, and I will walk you through my reasoning.

After rallying nearly 500% since it’s June lows, MBI gapped up and ran an astounding 30%+ yesterday.  It made a higher high on a slight divergence in the RSI.  It pushed outside the 20Day 2.0 Bollinger bands, as well as outside the 2.5 Bollinger band on a 100Day setting (not shown).  A move back inside either of these would be a fantastic reversal signal, as we are outside of the range of 95% of the past 20 days, and 97% of the action in the past 100 days.  That is a pretty good indicator that this rubber band is stretched to the breaking point.  I think this stock can easily head back to the $5 range in a short matter of months, as soon as it closes inside these levels.  As I said, I only picked up a small position yesterday, but here is why I did it…

Notice the IV in the back months.  100% for OCT and 133% for NOV.  These may seem very high, but looking at the average implied volatility, we would see that these levels are relatively low.  I also notice that by the end of the day, the volume on the OCT 14 Puts had pushed about 15K contracts changing hands on ZERO open interest.  This is a tell tale sign, while not always correct, it is a great indication of an explosive move. I ran through some quick calculations, and found that certain options could potentially double on volatility alone.  Then when you throw in a 60% loss or so in stock price, these things have fantastic potential.  Here is how they are trading today, with MBI down between 5% and 8%.  Notice the IV’s today…

With a vega of .02, a 50% gain in IV should translate to a $1 increase in option price.  That alone is a 30% to 50% move in option price depending on your strike.  I got a chance to get these options at a low IV yesterday, and it is much higher today.  Ideally, you would look to enter positions with a low IV, especially if in the past the IV has exploded above 200.  Typically, I do not trade options with IV over 100% because I trade OTM options, and that IV greatly affects the time value in my options.  I decided to go ahead and take this because I liked the set-up so well, and liked the “multiple streams of income.” (delta and vega)

That said, the market is treating the bearish case very well today.  In fact, given the action of $NDX and $COMPQ, the indexes I follow closest, I am forced to return the near term trend to down.  Almost everyone that I have heard expects the “big boys” to come back and squeeze the shorts out of the market.    Since that is what everyone expects, I am not surprised to see the market selling off hard today.  It should be an interesting day on Tuesday.

Hopefully this can spark some interesting discussion.  I would love to hear thoughts or questions.

Skål!


About The Author
Mole
Mole created Evil Speculator amidst the chaos of the financial crisis in early August of 2008. His vision for Evil Speculator is a refuge of reason, hands-on trading knowledge, and inspiration for traders of all ages and stripes. You can follow him and his nefarious schemes at various social media waterholes below.
  • http://www.for-really.blogspot.com Jana

    Great post.

    Berk, were you stopped out of CME or are you still in?

  • http://moontrader.wordpress.com/ Moontrader

    I agree, great post. The first chart you showed, what function is that in ToS?

  • http://moontrader.wordpress.com/ Moontrader

    One thing, I don't like to use RSI because it tends to lead to erroneous readings in extreme movements (especially regarding divergence – which I never trust). I prefer to use Detrend Price Oscilator (average 7 or 5) and eyeball the last 6 months or even more to come up with oversold/overbought levels.

    It seems that you made a great discovery digging into open interest and vega. As you showed, statistics in options can tell a lot about movements to come.

  • molecool

    I got stopped out of that bugger. Probably grab some on Tuesday – this time I'll stick with back dated options however.

  • http://www.evilspeculator.com berkshire

    I sold some on Tuesday. I bought back Wednesday afternoon, and added again yesterday. I have a very high risk tolerance when it comes to CME. I did end up getting stopped out of my front month positions.

    We will get our chance to see it under 300. Did you get stopped out? Or did you survive the recent bullshit rally?

    Skål!

  • http://www.evilspeculator.com berkshire

    It shows breadth…As illustrated with the $NDX, 91 declining to 7 advancing….That is pretty negative.

    Skål!

  • http://www.evilspeculator.com berkshire

    I agree about the RSI, but the key is finding levels with a reliable divergence. I have my own set of indicators to do that, and use RSI, when applicable, for those who use it. Just like the $SPX, which I tend to ignore, I like to throw things out there that the general (financial) public can relate to. Personally, I used indicators that measure momentum over various timeframes, something I am sure you understand.

    Skål!

  • http://moontrader.wordpress.com/ Moontrader

    Under what tab? I'm using ToS on a Mac, are you using Windows?

  • http://www.evilspeculator.com berkshire

    Nice retest of S1 pivot on /ES and /YM right now. I think we will see more lows today.

    Skål!

  • http://www.evilspeculator.com berkshire

    On a Mac…I like you even more now. Okay…Go to the green Icon that looks like a pulse (the one next to the CNBC icon). Clicking that brings you to a tab with some blue drop down triangle.

    Open the TOS index watch, and select the index of your choice.

    Tah dah…

    Lemme know if you need more instruction.

    Skål!

  • http://www.evilspeculator.com berkshire

    and Hell no I am not using Windows. I don't need an additional handicap…

    Skål!

  • http://moontrader.wordpress.com/ Moontrader

    Sure, momentum is one of the best indicators. I like to use Stochastics and MACD because, in a certain way, they measure momentum on an exponential basis. And, as I said somewhere here or Slope of Hope, I use those 3 DMA's, which give me incredible results. I also like to check – only to check, not to trade on it – Weekly Person's Pivot. And the Detrend Price Oscillator with those numbers (7 or 5) give me an idea where we are at regarding short term players.

  • http://moontrader.wordpress.com/ Moontrader

    Holly Cow! You opened a new world to me!!! My future wife will spend the night alone in bed, I'll have some fun with this tab tonight. Thanks a lot!

    btw, Mac user, I like you even more now too.

  • molecool

    Poor girl…

  • molecool

    I prefer a simple MACD – problem is most people don't know how to read them…

  • molecool

    Try a 14,3,3 on a 2 hour chart – works like a charm. I also use short term MACD indicators to get better entries.

    BTW, we should talk about your moon cycle charts as shown on your blog – I do have a few questions as to when you pick which time frame.

  • http://www.evilspeculator.com berkshire

    Thinking the same thing.

    Skål!

  • http://www.evilspeculator.com berkshire

    Don't tell your future wife I was the cause for this. Happy to help.

    Skål!

  • http://moontrader.wordpress.com/ Moontrader

    Don't worry. I'll compensate during honeymoon. Afterall, I'm a “moontrader.” :))

  • http://www.evilspeculator.com berkshire

    Nice comeback…

    Skål!

  • http://moontrader.wordpress.com/ Moontrader

    I'm using 8,18,9 on a daily chart and it holds trends pretty well. Divergences are a killer, and right now SPY is building a nice one. If Tuesday we get a new high above 131.5 and then the market goes down, it'll be a slingshot.

    Regarding the cycles, I started using the technique Christopher Carolan presented in his book. Which is: get tops and bottoms, project them forward, and you'll see some date clusters. Then you start investigating them. Well, that doesn't work – I mean, it works 5% of the time or less. My idea is to get specific tops and bottoms – I usually take Elliott Waves points – and project those dates ahead. When I get to a certain date cluster, I check the tops and bottoms around the dates that originated that cluster. The market tends to repeat the same movement, but in a different scale. Check this chart I draw some weeks ago (right after July 15th):

    http://moontrader.files.wordpress.com/2008/08/s

  • DMS425

    CRM- bear flag break

  • calibear

    Great post. I shorted some MBI today.

  • molecool

    “I usually take Elliott Waves points – and project those dates ahead.”

    I think you and I might be having the same idea here – it seems that there is much potential in merging the time dimension as suggested by Carolan with the linear progression of Elliott waves. I understand what you are trying to do but I am sure that, somewhere in there, are rules that would hold up in the course of back testing. After all one of the moon cycle multipliers are fibs – so, it is worthwhile exploring correlations between particular wave counts/types and various time dimensions.

    Hope this makes sense – email me directly at mmehrle at yahoo to discuss in more detail.

  • http://www.evilspeculator.com berkshire

    Curious which strike you got…Or did you go straight short stock. Good luck, expect a wild ride, but I will be there with ya…

    Skål!

  • calibear

    I straight shorted the stock with stop just above that resistance. So far good, going down. We'll see how next week brings us.

    You guys and Tim's are my favorite sites. Keep it up.

  • http://www.evilspeculator.com berkshire

    Great…Happy to hear it. Tim's site is one of my favorite blogs also, and I think both of our blogs will be useful in the near future.

    Keep coming back. Nice name BTW.

    Skål!

  • http://z-stock.blogspot.com/ zstock

    QQQQ buying long at end of day for an overnight.
    Btw, those 3 stocks I ask you about shorting for overnight? They are all down today. AVY,CBE and one other I forgot .

  • http://www.evilspeculator.com berkshire

    My apologies about not getting to your question yesterday…It was a long day, as you could tell by my late (lack of) posting.

    Perhaps not a bad idea going long QQQQ right now. Personally, I expect the markets to do what people don't expect. What people expect is for the big boys to push the market up. Just make sure your theta is managed…

    Skål!

  • http://www.evilspeculator.com berkshire

    Nice call Dave…Pretty gap rejection too. Volume hasn't kicked up to support the break out just yet, but I am eying about 48 when it does. Thanks for putting it on the radar.

    Take care…Hope things are well on your end.

    Skål!

  • molecool

    That's quite a compliment. BTW, you're in good company – also bought MBI yesterday and I think Tim did today. It held up today and hopefully Tuesday will breathe some reality into this overbought rascal.

  • molecool

    Long weekend is too much of a theta burner, IMHO. Did you wind up grabbing it, zstock?

  • DMS425

    I like the idea, but it seems the higher ups will do anything for ABK and MBI. They will not even make them
    pay-up on some contracts to avoid the chain reaction. You gotta love the upside market manipulation, but if you short a stock that deserves to be shorted watch out they may put you up on charges.

    Have a nice 3 day weekend.

  • lisa

    LOL

  • Gumbo YaYa

    These past few weeks on the 5yr INDU chart have done nothing but set up a huge 2000 point bear flag. That puts us at 9150 on the DOW or lower in a few months if the pattern plays out. Potential support can be found around 8850 on the 10 yr weekly charts.

    I feel we rally to 1320 on the SPX & then the bear flag breaks down for a massive fall to 1050. Same thoughts as the ETW guys above, but just using tech analysis. What does it say to arrive at the same conclusion using two different methods? Must be powerful.

  • T.B. Aurelius

    Well done boys.
    This blog is like “Mini Me” of slope, look at the crowd.
    Way cool.

  • molecool

    Absolutely – the pattern is clear. However, as you know these flags (as well as triangles) often take longer to play out then we impatient traders would like to see. 1320 – 1350 on the SPX is a definite possibility and I will probably sit things out until we break in either direction, even if I have to sit on my hands for another week or two. It's very easy to keep getting drawn into the market, just to wind up as bull bait in yet another whipsaw move.

    The path down is crystal clear to me – the only question that remains is how much longer we will have to endure these hostile market conditions. The last few weeks have been hell for everyone, bulls and bears alike (except that the bulls deserve it 😉

  • molecool

    That's right – we want to be just like Tim when we grow up :-)

  • Hopeless

    I think we need a song. Something about bank failures, rendered to the tune of 99 Bottles of Beer On The Wall

    http://money.cnn.com/2008/08/29/news/economy/in

  • molecool

    LOL – that news came out right after the market closed – coincidence? I think not! Gives the lemmings three days to forget all about it.

    I hope Putin will make my day on Monday…. really sick of all this crap. It's time this market wakes up and smells the coffee.

  • http://www.evilspeculator.com berkshire

    Finally made it over here. Hope you like what you see.

    Skål!

  • ZigZag

    On Drudge it says “It's Friday..Another Bank Fails” LOL.

  • molecool

    He insisted on a gift basket.

  • molecool

    Yeah, I dare them to announce those Monday mornings 30 minutes before trading. Let's just see what happens…

  • old_lefty

    Excellent analysis. The breadth held up at the end of the day and NDX broke the support line. Not surprising that the SMH and XLK were the worst performing ETF sectors. We need the financials to roll over and XLF was positive and RKH (regional banks) was only slightly negative. Besides the XLF, the XHB was the only other positive ETF sector today. While not a financial, I think we need to see it breakdown with the XLF. So come on financials, get with the program so we can start to trend.

  • old_lefty

    Gumbo

    I would agree, when you can take different forms of analysis and reach the same conclusions, the probabilities have to be greater.

  • http://www.evilspeculator.com berkshire

    Not a Georgia bank….Dominoes keep lining up. They will play out soon enough.

    Skål!

  • T.B. Aurelius

    I's likes what I see.
    Represent!

  • Dave_San

    Thanks for the update… My broader perspective is that the markets are indeed pushing all traders just past their breaking points, in both directions, but the thin trade of the pre-Labor Day weekend can be deceptive. W.R.T. your EW count, I am of the opinion, given the late Aug light trade volume, I think bigger money players saw the W1 form and complete and then, when W2 reached its natural extension at 50% of the time duration for W1and it also met the 50% Fib as I had indicated existed on my charts, they allowed a false break W3 to start, a Bear Trap.

    This will now morph into a longer duration W2 with the original {C} (Aug 11) now becoming {A} consisting of subwaves {a-b-c} – {x} – {a-b-c}. The new {B} has been established with the low of Aug 20 and the new [C} is forming with possible targets of $131.50 to $132 (double top new {A}, or even a 61.8% Fib of W1 near SPY $134, which would also set-up a “final” failed retest of the 200 dma and create a huge Bull trap, enabling the Bear Market W3 to fulfill it's primary function of the destruction of mis-allocated capital (“the stock market is risky and over valued, you bullish fools… Bwahahaha…. <Evil Grin>). In the mean time, bearish minded speculators will have been washed out of their positions. (Double Bwahahaha <Evil Grin>)

    Good luck on your island reversal on the MBI puts, I looked at that and almost went in, independently, but in the background, my mind was grinding on the scenario I've laid out above.

  • Dave_San

    Registering with the site.

  • molecool

    Or in other words: the truth is universally observable? 😉

  • http://moontrader.wordpress.com/ Moontrader

    Ok, here my ideas. Basically, Tuesday and Wednesday will be key days.

    http://moontrader.wordpress.com

    Have a great Labor Day weekend.

  • molecool

    Actually, according to our count, the low of {b} was originally thought to have occurred on Aug 25th, but after yesterday's action our assumption now is that we are completing (e) of {b} of a running triangle (which started on Aug 11) this Monday, after which we will push up sharply to complete {c}.

    Also, I can understand how one could be tempted to count {a} as a double zigzag completing on Aug 11, but it should be counted as (b) of {b} as it is part of a forming triangle. Double zigzags are commonly a lot more stretched out as the doubling or tripling is needed for an adequate price correction, which is not the case here as the July 23 peak perfectly satisfied a 38.2 minimum retracement requirement (and many of us at that time considered the possibility of the entire {a},{b},{c} having completed – how silly of us 😉

    Please note that it is *extremely* common for wave B of a contracting triangle to exceed the start of wave A, which is exactly the situation we find ourselves here. Also, the wave pattern of this triangle is almost textbook at this point in terms of angle, volume, and volatility. A triangle appears to reflect a balance of forces, causing a sideways movement, that is usually associated with decreasing volume and volatility (exactly the situation we have come to 'enjoy' as of late).

    Finally, assuming the above it is very much possible that (e) might either overshoot or undershoot the target, as this is a common occurrence. So, we could either trace further down on Monday or immediately push up towards the target zone – which we both seem to agree on.

  • molecool

    Did you see my response? Wanted to chat with you offline…

    BTW, in regards to where we are heading see my response to Dave_San above.

  • http://z-stock.blogspot.com/ zstock

    MBI infinite increase on the OCT14Puts, yeah, it's pretty much gonna go down on Tuesday.
    and a 700% increase on the OCT 10 call, yep it's pretty much going to go higher.
    What a coin toss?

  • http://z-stock.blogspot.com/ zstock

    The big boys are coming back, and taking everything down. VIX might range two or more days and then times up, BUY the NOV 10 calls for $1300 and sell for $3.5K to $5K

  • http://z-stock.blogspot.com/ zstock

    SPX 1350, goes off all my charts. I'll have to doublecheck

  • http://z-stock.blogspot.com/ zstock

    yeah I grabbed all of it. woot !!! I don't hold the puts very long.
    The NOV 25 MBI put should have 0 volume, in my experience with delta 90's. It nearly has a 1000 vol. That's very unusual volume.
    I think I will short that, if it's higher on Tuesday.

  • molecool

    On MBI or the market? See my outlook on Tuesday's probabilities further above.

  • Serg

    Case for Bears – FXI vs SPX similarities! It's a Bear Market Olympics! China is already ahead of us! To Abyss and beyond
    http://paintfantasy.com/images/FXIvsSPX.jpg

  • molecool

    Yes absolutely – I remember you posting the Hong Kong chart as well last week over at planet yelnick. According to this we drop precipitously going forward, which represents a bit of a problem. Based on the wave pattern that has been unfolding on the SPX (running triangle) we need to go up first and hit our target. This seems the most likely scenario (not the one I would prefer, but I'm trying to be objective). See my comment to Dave_San further up.

    Thoughts? BTW, I really appreciate your input here – always like to see people think outside the box and outside national borders.

  • http://z-stock.blogspot.com/ zstock

    I was describing MBI option action.
    Check out the $NAUD, for QQQQ direction. Or go to my blog and look at my chart on it.
    I found out DE is a short at $72.5 or so. What the heck happened to DE? Anyway, I posted my case for that short sell at that price at my blog too.
    I guess it takes about 6 month's to understand my trading style, but I get a lot more right than I get wrong.
    I look at some of Berk's stuff, and I don't ever think I'll understand some of the analysis tolls he uses.. He should just say what to do, and I'll do it.

  • Gumbo YaYa

    RUT Cup & Handle forming? Breaking 760 would be very bad for the bears. I still think the downtrend will resume soon, but that scares me a little.

    http://www.screencast.com/t/twTc9gnwW

  • molecool

    Chart seems empty – can you try again please?

  • http://z-stock.blogspot.com/ zstock

    GD, I can't tell if that's a failed triple top, or if that's a cup and handle, ready to break out to $99

  • http://z-stock.blogspot.com/ zstock

    I get empty too

  • Gumbo YaYa

    Removed.

  • Gumbo YaYa

    Try this one. The naming of the file messed it up.

    http://www.screencast.com/t/Y9sWX81y

  • ZigZag

    Financials look very toppy here. XLF is sitting at the very top on my 2 hour stochastic chart. The inverse SKF is currently sitting at the bottom of my 2 hour, 1 hour and 30 min stochastic charts..

  • Dave_San

    Weekly RUT suggests to me a likely double top here and there should be strong resistance above 765 http://stockcharts.com/h-sc/ui?s=$RUT&p=W&b=5&g… A large H&S on the weekly was confirmed at 650.

  • Bmr

    This week should be key for the markets; do any of you think that the election is going to impact it one way or another? Anyone here have any favorite stocks in an aggressive bear market? I'm considering SKF, TWM, SRS, and a few others. Keep up the good work, guys!

  • molecool

    Yes, the next few days should be interesting for sure. I still believe the bulls will throw us another curve ball before we descent.

  • http://z-stock.blogspot.com/ zstock

    Dow futures down 40. They were up 20 this afternoon.
    Another whip saw week probably.

  • http://z-stock.blogspot.com/ zstock

    I doubt the RUT ever sees 760-765 again. It looks like a failed double top in progress.

  • http://www.for-really.blogspot.com Jana

    They are up huge now.

    Oil down, dollar up, hurricane disaster avoided. Rah rah.

    Should be another hideous day.

  • http://www.evilspeculator.com berkshire

    Finally able to log in to the comments after 24 hours. I think the biggest play on the election will be advertising. These companies are struggling to stay afloat WITH the aid for millions of $$ being tossed their way by candidates. As soon as the election is over, there will be no more massive funds flowing into the adverts.

    There is not huge downside here, but they are easy trades inside a beautiful downtrend.

    Skål!

  • molecool

    Guys – I hate to be right all the time (not really) – but I have been saying that since last Thursday 😉

    Fortunately Gold is making up for all of the equities' sins this morning. You guys got Gold puts two weeks ago, right?

    Right?…..

  • molecool

    Glad to see you were able to resolve your problems.

  • molecool

    You forgot 'painful' – LOL

  • http://www.for-really.blogspot.com Jana

    They are up huge now.

    Oil down, dollar up, hurricane disaster avoided. Rah rah.

    Should be another hideous day.

  • http://www.evilspeculator.com berkshire

    Finally able to log in to the comments after 24 hours. I think the biggest play on the election will be advertising. These companies are struggling to stay afloat WITH the aid for millions of $$ being tossed their way by candidates. As soon as the election is over, there will be no more massive funds flowing into the adverts.

    There is not huge downside here, but they are easy trades inside a beautiful downtrend.

    Skål!

  • http://evilspeculator.com molecool

    Guys – I hate to be right all the time (not really) – but I have been saying that since last Thursday 😉

    Fortunately Gold is making up for all of the equities' sins this morning. You guys got Gold puts two weeks ago, right?

    Right?…..

  • http://evilspeculator.com molecool

    Glad to see you were able to resolve your problems.

  • http://evilspeculator.com molecool

    You forgot 'painful' – LOL