Monday gave us strong stock price action, but volume was unusually low, leaving a big question as to whether this young rally attempt will succeed. The market is still fraught with risk and driven by news of the day. It should be handled carefully. Remember, Friday was a reversal day on the major indexes. I remain concerned about the excessive choppiness and see no reason why it would dissipate.

 

Obviously we would all prefer clear signals from the market, but that is just not to be right now.

 

The institutions are going back to many of the well-known prior leaders, like Amazon (AMZN), Deckers Outdoor (DECK), Tempur Pedic International (TPX), Tractor Supply Company (TSCO), Ulta Salon (ULTA), and Whole Foods Market (WFM). Many of those leaders are around their 50-day moving averages—a somewhat constructive sign. Those leaders that are well off their highs are more suspect. August 15, 2011 reported the biggest bi-weekly increase in NYSE short interest since the S&P’s low in March of 2009. This would suggest a pervasive atmosphere of negativity, possibly a good contrarian indicator. Another concern is that the major indexes are back up to their prior levels of resistance, where they have had trouble before.

 

As if all that weren’t confusing enough, earnings season is once again upon us. The last two earnings seasons saw most companies posting great numbers, yet stocks did not respond accordingly—potentially setting up the market this time to go the opposite way and go higher. The market moves to disappoint the masses.

 

Finally, an article in today’s Investor’s Business Daily (which also provides an excellent overview of Monday’s market action) reminds us that “October also has a history of launching successful uptrends.”

 

Knowing all of this, I am establishing some pilot positions back on the long side just to get my foot in the door. Should this uptrend continue, I will continue to wade in deeper.

               

All said and done, these are the data points from both sides of the analysis. Investors should review all of these facts, consult stock charts, and determine their best course of action. Novice investors may want to wait for a more clear-cut entry point. Sophisticated investors may want to stay small, wade in carefully, and have low profit expectations. For those who do wade in, make positions show a profit before adding and moving in deeper. Also, consider balancing out risk by adding a few less aggressive, more conservative stocks to the portfolio. Keep losses small and go for base hits. Since 2000, erring on the side of caution has been the best course of action to date. Remain patient and disciplined. There is no rush to own a lot of stocks here. If this rally is real, we will all have plenty of opportunities to capitalize on it.

 

Best Returns,

Scott O'Neil

President of MarketSmith Incorporated


Follow Scott O'Neil at Twitter.com/WScottOneil