Editor's note: this column was originally published on Capital Essence's CEM News on October 13, 2007. It's being republished as a bonus for the loyal readers. For more information about subscribing to CEM News, please click here.
Good Morning. This is Capital Essence's "Market Outlook" (the technical analysis of financial markets) for Monday October 15, 2007 .
Immediately after the S&P printed a clear breakout from the annoying two-week trading range, and the bulls claimed that we're out of the woods and the worst is behind us [as regarded to the credit crisis], the market threw a nasty, massive one day downside reversal in which the Dow plunged more than 200 points in matter of minutes. And this had raised the burning question: "Have we seen the '07 highs?" To find out, let's examine the two important trading metrics: investors' sentiment and technical.
The Chicago Board Options Exchange (CBOE) Volatility Index (VIX) is a widely used measure of market risk and is often referred to as the "investor fear gauge". It is constructed using the implied volatilities of a wide range of S&P 500 index options. In general, VIX increases as the market goes down and decreases when the market moves in an upward direction. As you can see, the VIX had refused to go down on the face of S&P's record high. It seemed to hold on pretty well to support at the July's bullish breakout point. As a matter of fact, this is indicative of the uncertainty and nervousness among market participants.
According to Dow Theory, a major trend in the stock market must be confirmed by a similar movement in the Dow Jones Industrial Average and the Dow Jones Transportation Average. A significant trend is not confirmed until both Dow Jones indexes reach the new highs or lows; if they don't, the market will fall back to its former trading range.
Despite the overall market strength, the Transports is still struggling around the summer low and hence, failed to confirm the Industrial's all-time high. And according to Dow Theory, the technical non-confirmation (of new highs) in the Transports is indicative of the Industrial's near term correction.
Combining all of these above with the fact that market has reached an overbought region across all time-frames, a situation that is a precursor to a significant corrective phase, and the recent rally has not been accompanied by any significant correction, suggested that the upcoming correction could be sharp and swift.
In summary, though the long-term trend is bullish, there is a strong case for a meaningful short-term corrective phase to materialize soon.
Until next time, good luck!
(By: Michelle Mai for Capital Essence)
Note: Michelle Mai writes technical analysis for Capital Essence and is the editor of Capital Essence's "Market Outlook" newsletter. To receive the daily edition, please subscribe. It's now available at a monthly rate.
