Friday, September 16, 2011

Trading Algorithm Update - September 16, 2011

"In the name of God, the most gracious, most merciful"

SP500 (Closing as of September 15, 2011) = 1209

Market: Bear
Defining Level: 1210
Trend: Down
Defining Level: 1259
4/8 Trend Change Confirmation (Up to Down): Yes on July 27, 2011
Current Trade: None
Profit Objective 1:                                                                     Trailing Stop (closing):
Profit Objective 2:                                                                     EW Stop:
Status: Last trade was closed for +3.3% profit: Short from 1194 to 1154
Next Trade / Model Based Approach: Short on  close below 1185 (SP500), after a clear reversal
Stop:  Above highs                                                                    Risk: 
Risk Associated with trade: Low because Shorting in a downtrend is a low risk trade
Turn Window: September 20 (+/- 4 days)
Market has entered the turn window. Market's behavior over the last few days suggest that we will see a top
1-   Market bottoms in turn window
2-   Market tops in turn window
3-   Market double bottoms and breaks out
4-   Market double tops and breaks down
Observations:  US Markets have staged an impressive rally over the past few days. However, if one looks at the structure of this rally, it has overlapping up moves and down moves. This kind of overlapping behavior suggests that there is something wrong with the market i.e. market is undergoing a upward correction.

Recent rally has also been accompanied by lighter volume and very low TRIN readings, signaling a potential exhaustion point. Alongside these indicators, markets have entered the Inflection Point Model's turn window with an upward bias. When market rises into the turn window, it mostly tops during the turn window. However, if market does not top then it would mean that we will see further rally.

On the other hand, we should appreciate the fact that Market rose more than 75 SP500 points (600 Dow points) since UST closed its short positions. Even with such significant rise, we have not seen a significant increase in the overall optimism. This is bullish for the market. Since sentiment is a key player of the Market Matrix, we can say that there is a tie between Bulls and Bears based on different market measures incorporated by Market Matrix.

At the same time, UST team has identified a unique stock pattern which we last saw twice in 2008 (shown below): This pattern shows that after a sharp decline market rises into a double top or a H&S formation.  

Over the past few weeks, market has traced out a similar pattern but over a shorter time frame. If the current pattern is going to play out like the last two patterns the market should decline from near current levels.  

As mentioned earlier, Trading Algorithm does not participate in counter trend trades until unless there is ample conviction through Inflection Point Model. Since the trend is down and the market has entered the turn window, trending up, the Trading Algorithm will not undertake any long positions until unless trend turns upwards. However, we are keenly looking for a Short Sell trade. In order for the short trade to materialize, markets should reverse and decline below 1180 (1185 SP500 - closing). Overall these are very interesting times for the market with indecision evident throughout the charts. The best strategy would be keep your powder dry and trade with the trend.

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