Real Selling Today

The S&P 500 ($SPX) broke its uptrend line from is July low. It did so on volume with abandon today! Stocks were up decently early and then got punk’d. They did so on what would be considered good economic news.

Today the selling felt real. I mean it was as if the big boys were selling with the intention of getting out of positions and not with the intentions of triggering stop losses before ramping prices higher. This was the 6th recent Distribution Day for the Dow – that is potentially meaningfully Bearish.

S&P 500
You can see how there have been two multi-day trading ranges in the month of August. The most recent one was 6 trading days and had every possibility of breaking out to the upside. Instead, it broke down. Moreover, it broke down after breaking out in mid-August and sucking in money. My fear when stuff breaks out is that it is a headfake and the boys will pull the plug after all the buy orders are triggered and that appears to be what occurred the last two weeks. I had a lot of things stop out today. Lots of these tight trading ranges failed today on big volume!

On this chart, I can see that the Market Internals appear to be rolling over (Bullish Percent $BPNYA and Summation Index $NYSI). I also can see that the breakout point was at 950 (Red Line) and that a pullback to 950 would be a 50% retracement of the July/August rally.

Leadership
China
China has been the leader since it bottomed in late 2008. It bottomed when the Chinese Central Bank set up their version of a “stimulus package” and more than half of the money ended up being leveraged and used to purchase speculative holdings in stocks and commodities.

Now the Chinese Government is trying to slow down the creation of new money via leverage and the ultimate investment of that money into stocks, commodities and derivatives. If the Chinese market led on the way up, then what does this chart of the Chinese markets ($SSEC) tell us is coming for our stock markets?

China had managed to retrace about 40% of its crash. It has retraced over 50% of the recent rally.

Financials
Today was a bad day for the Financials. They have been the strongest sector over the last 6 months. You have recently seen gigantic rallies in some of the truly pathetic Financials (AIG, Freddie Mac, Fannie Mae, CIT, Citigroup). They appear to have had a speculative blowoff and these stocks got torched today (AIG -20%, FRE -17%, FNM -17%, C -9%)! These are all dogsh*t companies effectively owned by the US Government.

CIT was -15% today on the revelation that it cannot issue new stock at the current price. There are simply no buyers for the new shares. The price is extraordinarily high, relative to fundaments and will need to fall before it is bought by investors. CIT closed today at $1.47…

Morgan Stanley (MS) broke its uptrend from its December 2008 bottom today on big volume. So did Northern Trust (NTRS). Goldman Sacks (GS) has been a leader and is on the verge of breaking down.

Technology
Intel has supposedly good news last week, as did Dell. They both got trashed today. Semiconductors (SMH) and Microsoft (MSFT) may be putting in Double tops. Amazon (AMZN), Cypress Semi (CY), BIDU, Juniper (JNPR) either broke down or on the verge of breaking support or moving averages. Growth outperformed Value today. More may follow in the near term.

Rotation
I expect rotation in leadership. Here is what rotation looks like over the course of a Business Cycle. I am going to use the Marsico 21st Century Investment mutual fund. During the first stage few years of the last Bull Market, the Marsico Fund closely tracked the S&P 600 Small Cap Index.

On the Second Chart, there was a significant correction during the first half of 2006. During this period, the Marsico Fund switched their holdings and the Fund closely tracked the NASDAQ 100 during that last big move of the Bull Market from mid-2006 through late 2007.

On the third chart, you can see that while the markets were topping out during the first half of 2008, the Marsico Fund was switching its holdings into Large Cap Value.

Now you may be asking yourself why I am bringing this up, but I wanted to illustrate a couple of key points. First, Mutual Funds cheat. They don’t stick to their stated investment objectives, but instead chase returns in hopes of marginally beating the Index they are supposed to tract. This is called “Style Drift”.

The big consequence of “Style Drift” is that when stuff stops going up and starts to roll over, there are a lot of fund managers all in the same holdings who all need to sell at the same time. This is revered to as a “crowded Trade”.

In chart 2, when all of those managers try and sell the same stuff at the same time, they can get away with (like early 2006) because there is still appetite for new risk. This period of time is a choppy trading range, where prices will fall some and recover some and ultimately the markets work their way to higher highs, but the old leaders lag and the new leaders out-perform.

But in a true market top (like Chart 3), there is nobody left to buy stuff and the markets crash under all of the selling – as occurred in the Q1 2008. The markets then churn sideways as Mutual Funds buy “safe” stocks like Utilities and Healthcare, as they try and ride out the oncoming Bear Market. You see, most mutual funds have to remain at least 95% invested at all times. This forces them to own stocks, even when they may not want to own them. I don’t have to be fully invested and can get out of stocks when the markets tell me to run for the hills, as I did in 2008 and a lot of 2009.

I will be watching the markets to see what holds up and what cracks. I like pullbacks when I raise cash, because I then can buy strength when it breaks out again. I will be watching things closely and see how things shape up going forward. A pullback will let me buy Market-based ETF and maybe some sectors if they look good enough.