Market Pullback Continues

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Market Pullback Continues

(Note: Unless otherwise stated, the index action described below relates to the EMini futures contracts for the respective indices. Actual index action may differ slightly in terms of pattern formation, although the market bias will remain the same.)

The market ran into strong price resistance last Friday on the heels of an announcement that Uncle Sam was putting together a plan to come to the rescue of struggling institutions, aimed at those related to finance and insurance. This was coupled with a temporary ban, until Oct. 2, on short selling in nearly 800 financial firms. The resistance hit at the highs of congestion which took place earlier in the month and is shown in dark red on the daily charts posted below.

The gap into these price levels held well as investors began to speculate on the outcome of the plan under development by the Federal Reserve and the U.S. Treasury Department. It is estimated that the plan will involve the use of about $700 billion in taxpayer funds to buy "toxic" investments from banks and other financial institutions. The main concern is that this will be nowhere near enough to have a strong enough impact to keep the economy from continuing to head downhill. American International Group (AIG) alone was counterparty to an estimated $422 billion in derivatives.

The derivatives market is one of the areas that has borne a lot of blame over the past year for the current financial crisis, which has been a long time in the making. Companies and countries alike have used derivatives, which are investments that derive their value from another more fundamental investment, as an insurance policy against their primary investments. If the counterparty writing the derivative, however, can no longer back up the positions, such as with Lehman Brothers and American International Group, they become essentially worthless. While LEH went under like the Titanic, AIG, ready to succumb to a similar fate, was rescued, with the help of the government, earlier last week.

Nasdaq Composite ($COMPX)


As I mentioned at the beginning of this week, upside moves such as the one which occurred into the weekend are often difficult to sustain. At the very least they correct with a range, but a larger pullback in price, followed by lower lows, is quite common. They can, however, be the beginning of the end, at least temporarily, and prices often stabilize several weeks following the extreme price and volume action. In the current market environment, however, the risk of new news affecting the market is a constant concern. Volume has been lighter over the past several days of trade while the market has continued to slip off Friday's highs. It had taken back nearly 70% of the gains from Thursday into Friday over the past couple of days of trade.

On Tuesday the Dow Jones Industrial Average ($DJI) closed lower by 161.84 points, or 1.5%, to 10,854.17. The S&P 500 ($SPX) shed 18.87 points, or 1.6%, and closed at 1,188.22. The Nasdaq Composite ($COMPX) lost 25.65 points, or 1.2%. It closed at 2,153.34. All 10 of the economic sectors ended in negative territory, but energy and materials led the decline. Technology shares had held up rather well throughout the morning, but suffered under the weight of a larger market descent mid-day and again into the close. Nevertheless, Intel (INTC) and Microsoft (MSFT) still managed to close slightly up on the day. Of the Dow 30, American Express (AXP) was the only other "winner." General Motors (GM), down 7.4%, and General Electric (GE), down 4.6%, were the top losers, followed closely by Alcoa (AA), down 4.5%.

Dow Jones Industrial Average ($DJI)


Crude oil, which had risen sharply on Monday coming off a rally that began the previous Tuesday, dropped once again on Tuesday. This reversal came after striking price resistance on a daily time frame from a multi-week congestion zone the previous month. Corresponding to the pullback was a correction off comparable resistance in the euro and modest bounce in the U.S. dollar. Crude oil for November delivery fell $2.76 a barrel on the day to closed at $106.61. The euro to dollar is currently trading around 1.46-1.47. Meanwhile, gold also dropped after its recent monumental climb. It closed down $17.80 an ounce at $891.20 in NY.

S&P 500 ($SPX)


From a technical standpoint, the market held onto the prior afternoon's late-day support early on in the day on Tuesday. This was a gap closure level on the Dow and S&P 500 futures. Another correction took place off this support which was similar to the one from mid-day on Monday. It lasted approximately as long, creating a short pattern as it formed two waves of upside into the 15 minute 20 period simple moving averages. The initial wave was a decent price bounce into about 10:30 ET, which was followed by a second correction off lows out of the 11:00 ET correction period and into the early afternoon. The second wave had some initial upside price action, but was followed by more of a congestive move while volume dropped off, signifying a weakening base, which confirmed on a break down into 12:30 ET.

A solid move lower took place into the first half of the afternoon on Tuesday. The selling intensified into the 13:00 ET correction period when the Nasdaq came into price support from Thursday afternoon. Volume spiked at this time to indicated exhaustion, but the momentum of the more forestalled a strong reaction off the support zone. In addition to the price support from a prior high, this was also an equal move support level as compared to the breakdown the previous afternoon.


The markets rolled over gradual off the mid-afternoon lows. Volume dropped as the indices formed a series of slightly lower lows... three to be exact. This created a momentum reversal buy setup out of the 14:00 ET correction period which swiftly returned the indices to the late morning and early afternoon congestion of the second wave of morning correction. This level hit at about 15:00 ET and the indices again reversed off this zone in the final 45 minutes of so of trade. The reversal once again took the indices into negative territory just prior to the closing bell.

Markets almost never continue to hold a trend one way or the other for more than about 2.5-3 days before a 15 minute 20 simple period moving average breaks. This break took place on Tuesday afternoon following the morning reversal on Friday, making it close to that 3rd day. This does not mean that the indices are now going to be able to sustain a larger reversal off lows just yet. The break in that resistance level, albeit briefly, was enough to allow the market to again continue lower into Tuesday's close. The afterhours announcement that Berkshire Hathaway (BRK.A) plans to invest $5 billion in preferred stock in Goldman Sachs (GS), as well as the announcement that GS is looking to raise $2.5 billion in common stock, took both GS shares higher, as well as the index futures. This further broke the downtrend of the past several days. Although the market may be able to hold this support awhile longer mid-week, the larger momentum is still favoring lower lows into the weekend and early next week. Of course, given the current news-influenced moves, be aware that circumstances can change rather swiftly in this market environment and overnight holds will continue to be higher risk.