Making Smarter Investing Easy.

Exploring the mechanics behind the behavior:

12/21/05 - NYSE Trading Activity defies logic. The current rally is quite extraordinary. Every Investor assumes that the underpinnings of the stock market are coupled to at least some basic economic law such as supply and demand. Well, the following graph explores several methods of computing demand and is by no means an exhaustive list. But rather, the graph focuses on some unusual metrics not readily available.

Traditionally, investors consider daily trading volume as their barometer for trading intensity. But there are several other more obscure metrics that can also be used. On this website, you have been shown numerous methods of expressing demand from tracking the number of shares publicly available to trade to dissecting daily trading volume into several groups: Up/Down, Advancing/Declining, and actual Buy/Sell/SellShort. But there are still more ways to understand the level of trading intensity. You could review futures contracts volume, or analyze tic volume (which is different from tick). These various metrics are all clearly illustrated for you on this website if you're interested. But here are three additional metrics that have not been previously mentioned before.

First, there's the number of trades per day. This metric is a marked departure from trading volume as it measures activity from the brokerage side rather than from the investor side. As you are aware of, brokerage firms make money from executing trades. Some charge their customers by the number of shares and some do not. By analyzing the number of trades, you can see if business is brisk or slow (anticipate earning for the subsequent quarter), and consequently, you can extrapolate this information to infer how many investors are participating in the market.

Second, you can take the number of shares and divide them by the number of trades to determine the daily ratio of shares to trades. This information helps to identify when larger trades are being made which is a proxy for tracking wealthier investors. If could also mean that there are more institutional investors, corporate stock buybacks, or greater merger & acquisition activity in the market. However, regardless of who is in the market, the point is that "heavy hitters" are playing. The significance of their entry is that this could indicate a change in market sentiment. Why are they in the market now? Are they buyers or sellers?

Third, the amount of money spent each day on the NYSE is tallied and this can be also be used to gauge activity. If more money is flowing then investors, 1. have money to invest, and 2. they are willing to part with it. The fact is very investor's acount is reconciled in dollars and amount of those dollars is what drives and motivates investors. The question is are investors willing to invest more when prices are lower or when they are higher? Are investors value (buy-low/ sell-high) or momentum (buy-highs/sell-lows) oriented? These and other questions can be answered by analyzing how much money is being spent and when they spend it.

The graph below introduces you to new forms of defining trading activity and is again another reason why The Small Investors' Software Co. is helping you to make better decisions. As you can see, this Nov-Dec 2005 rally saw trading volume, dollars traded, and number of trades drop. As prices rose, activity as defined by these three metrics declined indicating that investors are holding on to their shares, or they are not participating in this rally. Also worth noting is that the shares per trade was below average during the rally and is now climbing to above average levels. This means larger trades now account for more of each day's proportion of activity, which could mean one of two things. It could mean that there are more "heavy hitters" entering the market, or it could mean that the number of smaller trades is waning. Since the holiday season is upon us, the latter is more likely. However because trading is below average and the number of shares per trade is below average (Mid Nov to Early Dec. 2005), smaller investors aren't currently very active. Also notice that when prices dropped in October, the volume of trading increased and the number of trades increased while the shares per trades decreased. This means that many smaller investors were involved in the majority of these transactions. The question remaining is whether the smaller investor panicked and sold out, hit stops, or bought the dip? The answer to this lies within the other charts provided on this website, and so your home work (if you choose to accept it) is to discover the answer to the question.

Lastly, the current status (post Dec.'s Triple witching expiration. The third Friday of the last month in the quarter) is that the NYSE is experiencing below average trading volume, dollars spent, and number of trades while seeing an above average increase in the number of shares per trade. Guess who's currently the prominant market participant while also guessing what are they doing - buying/selling? Like the wildly popular book "A Treasure Trove" by Michael Stadther (the $1,000,000 treasure hunt for 2005), the information lies within this website. Who knows, maybe you'll find the answer? Maybe you'll make a $1,000,000?

Merry Christmas.

12/2/05 - How much money (cash) does the Mutual Fund Industry have to invest? I'm sure you know that they collectively have billions of dollars. But the industry tracks the raw amount of cash sitting on the sidelines differently. The industry has a different name for cash on the sidelines. It's called liquid assets. So the industry tracks the amount of liquid assets as a percent of the Funds total holdings. We have been publishing this graph for years but it's time to highlight this graph again as the current low levels of cash were previously associated with the top of 2000.

Please note that the graph below doesn't show you the DJIA nor the SPX. The graph presents to you the amount of cash waiting on the sidelines as a percentage of the entire industry's holdings along with the total amount of funds in all equity funds. The actual dollar amount of the cash-on-hand is also depicted on the bottom, but as you can see this raw statistic isn't as useful. (source: Investment Company Institute)

Lastly, while this graph shows that Equity Funds now have a record amount of money under their management (more than in 2000), you should recognize that prices, according to the DJIA and SPX, haven't made new highs from 2000 (prices are still below the highs of 2000). Again, monthly prices are not shown.

In summary here are two critically important facts for you to know.

1. You should be aware that there is more money than ever in equity funds despite lower prices (divergence).

2. According to historical records, the industry is fully invested. (Where's the future "fuel source"/cash for the next up-leg in the market?)

11/28/05 - Comparing Averaging Techniques. Did you ever wonder if more is better? This graph below compares the daily mean derived from 400 intraday prices to the simple daily midpoint derived from two prices. These two daily averages are then subjected to two different averaging methods. The daily mean is used as input to a Kalman filter and the midpoint is the input for the simple moving average. As you can see, using more data and a more complicated engineering filter doesn't necessarily produce "better/more predictive" results. This is good news for those of you who don't have intraday data.

11/15/05 - I love a great magic trick, or illusion. 2005 has certainly been a tough year for investors. As of today, prices haven't changed much from 12/31/2004 which was SPX @ 1211.92. The rational explanation for this is that there were many crosscurrents, which were highlighted on our homepage (click logo, upper left). But if you look as the graph below, I'm sure you'll agree; this is the biggest illusion ever.

Look at the graph below and try to explain how prices have been rising while the NYSE's own data shows that both the dollars spent and the trading volume have been both negative for prices. The amount of selling has been relentless throughout the entire year, and remarkably, during the rally between May and September, the selling increased. This is a real "head-scratcher", but then again I truly love a great magic trick. We all know that Wall Street is always finding new ways to play the "shell game", which is to take your money. But outright price manipulation for that long a period is just amazing. Something decoupled in 2005 and no one is watching. God bless the SEC.

11/9/05 - Probability Density Map. Below is an introduction into the world of probabilities. Bayesian statistics are all the rage in quantitative analysis so we'll do our part to introduce you to the subject. But first let's change your view, and perspective, regarding price quotations, bar charts, candlesticks, etc.

Below is an unusual view of prices. You're looking at daily price bars from a new vantage point, and you're now seeing prices as software sees it. Rather than looking at the range of prices as a line, bar, or candlestick; let's add a dimension to it. Now let's see how frequently each price occurred throughout the day and plot it. As you can see, it looks like a view of a mountain range from an airplane. Each column represents one day's trading range while each row represents price. As you move from left to right, time changes. So the left side of the chart represents the price range from 100 days ago and the right side of the chart represents today's price range. The only difference is that the price range is displayed as a probability density function rather than as a line, bar, or candlestick. All this means is that you can see how many times each point in the SP500 was traded relative to the other prices traded that day. The concept of the opening price and the closing price are now irrelavent and the goal now is to identify the "real price" or true value.

This concept of finding the "real price" dates back to the 1960s, when Dr. Kalman introduced his method of filtering, the Kalman filter. His goal was to find a more precise method of locating a satellite in space. But now we want to use his idea to track the real position of fair value. Basically, the concept implies that higher probabilities of occurrence are more significant than lesser ones. So peaks in the graph below are a proxy for the market's current "real price" or true value.

More activity at a particular price validates the perception of fair value, which means that more buyers and sellers are coming into the market. This implies that when prices stray from the true value, all it represents is noise. However, when statistical anlaysis is performed on the drift from one peak to another, it can be mathematically quantifed as being a significant drift or an insignificant one. So here's where computing power and math converge. The details of this can be complicated, but putting the math aside, just look at the graph below and then look at the subsequent graph. It will illustrate how one can see the drift and then determine its significance.

Next let's hone in on the three most recent days. The graph looks confusing because it is overlaying two sets of information for comparison. In addition, you're no longer looking at probabilities from high in the sky. You're now looking at the probability density functions head on. You're like a deer caught staring at an oncoming car (Sorry about the visualization. Nothing happened to the deer.).

The graph presents the past three days price range in terms of how frequently each price occurred and it also shows the cumulative sum of the probabilities of occurrence. Then for comparision you can see how the previous three days range manifested itself along with its cumulative sum of probabilities. See the notes accompanying the graph for more details and explanation. But in summary, the shift in probabilities, or frequencies, is giving you a clue as to the marke'ts new direction. The bias that is shown however, must be subjected the rigors of science, and therefore other computations are required to assess the change's significance. Basically, you can now be made aware of a trend change more quickly by analysing the rates of change from one probability density map to another..

If this sounds simple then you're well on your way to understanding particle filters used in physics, Bayesian statistics, and Markov Chains.

9/29/05 - SP500 December Futures Historical Premiums. Despite the fact that interest rates have been rising, the current premium levels should be "ringing bells". The premium found in futures contracts is the difference between the cash index price and the futures contract price. Rising interest rates account for some increase in the premiums, but as the chart illustrates, there is an aweful amount of optimism on Wall Street. These premium levels haven't been seen for five years. So are you bullish?

Here's some food for thought. Basically, there are 54 trading days remaining in the December contract and SP traders are currently willing to pay an additional 6 points above the cash price because they believe that higher prices are in the offing. The problem is that as the expiration date gets closer the premium generally decays (except for 2004). So would you be willing to give someone an extra 5-6 points and hope to recoup them and make a profit in 50 days? Well, consider this. Many believe higher prices are coming because the premium doesn't lie. Traders are paying extra and they wouldn't pay extra unless it was a good bet. And if you're bearish, consider this. What does the market know that you don't?

9/20/05 - SP500 December Futures Contract history. Here's the histoical performance of the SP500 Dec. Futures Contract relative to the closing price on the Third Friday in Sept. (Expiration Day, which is the opening price, but the closing price for Friday is used instead).

7/8/05 - Do you need a road map? Let The Small Investor's Software Company show you the way. Finding unique ways to help you understand the mechanics behind the behavior is what you'll find here. The chart below is the result of asking a simple question, "How does volume correlate to the number of points the market traversed today"? This calculation is easy enough once you know the order of occurrence of the daily highs and lows. But if you didn't have this information, would using the daily range work as well? These questions are explored in the following graph. Notice how nicely price and volume information correlate once you manipulate these data. It's all about asking the right questions and knowing how to manipulate the data.

7/8/05 - How choppy is it? Sometimes it is helpful to know how much price movement there is. Particularly when prices are swinging wildly intraday. Generally professionals refer to this as volatilitiy. Typically, investors consult the following volatility indices, the VIX and VXN, to know the level of volatility. More volatility means more price movement. But there different kinds of price movement.

One way to see how prices are moving is to look at the daily range, or for that matter hourly price ranges. But when you do that, you don't know how many times prices swung back and forth. So in the chart below, the number of points traversed in an hour was tallied. This is accomplished by knowing the order of the extremes (high/low) for each hour. Rather than tallying every change in price, which would be the true price movement for the day, a summary of the differences between 28 ordered prices (7 hours x 4 prices per hour) for each day was used. These daily totals were then compared to each other to show you the level of choppiness. That's why this isn't called volatility as it is measuring something different from the VIX and VXN. Shown below is a comparison of choppiness to the VIX.

However, the level of choppiness needs to be put into context. Each day the daily price range is different and there are days with 40 point ranges and other days with 5 point ranges. So the hourly tally of points traversed is compared to the daily points traversed. This produces a ratio that identifies the amount of indecision for each trading day, or choppiness. And if you're looking for such days with extreme amounts of indecision, the oscillator produces a large value. Conversely, low values indicate little to no indecision. Another way to look at this is to state that this oscillator is revealing the amount of price retracement that occurs throughout the day. Large values identify more retracement while low values show less retracement.

As always the raw data must be put into some context, so the quarterly and monthly moving averages were employed to create the oscillator. Now you can see the choppiness of the market, which is a unique measure of price movement. This chart is particularly useful to options traders as periods of extreme choppiness are followed by periods of rapid price movement. Premiums increase during periods of rapid price movement and decrease during choppy periods. This boils down to buying options when premiums are low and selling them when premiums are high (selling an option this is much riskier than buying them because you could lose more than the price of the option.). This chart helps you to identify this zones.

6/14/05 - Buying from different Metrics compared. As new information is disclosed, the new must be compared against the old "yardsticks". Such is the case with the NYSE Percent Buy ratios. So here again is new information not found elsewhere on the internet to assist you in making smarter decisions.

Below is graph of several ratios. The familiar up-to-down volume ratio is plotted as an 8 day oscillator along with two new metrics. The result is a bit surprising as the %Buy and the buy/sell volume ratios were expected to produce highly correlated results. As the graph reveals, they don't correlate as one would expect.

As a caveat, notice the surge in buy volume during the last week. This amount of buying hasn't been seen before, and according to history, this level of intensity is unsustainable.

6/8/05 - The NYA %Buy Oscillator - It's quite interesting how the stock market behaves. One fact in particular is quite distressing, the fact that out of 81 up days in the NYA index, only 1 day had more buying than selling! Now if you examine the up/down volume, you'll find many more days in which the up volume exceeded the down volume, but up volume doesn't equate to buy volume! Up volume simply helps technicians understand the flow of volume, but it doesn't tell us the amount of buying. Fortunately, the NYSE does report the buy volume. And as always, The Small Investor's Software Company (SISCO) finds innovative methods to understand the "mechanics behind the behavior". Here is a chart in which the buy volume is converted into a short term oscillator.

6/5/05 - SPX Inventory levels - supply and demand revisited. Here's a unusual representation the SPX float. The weekly changes in the SPX float were converted into 8 week sums of the z-scores to create an oscillator. This is the first for the internet community (as far as we know it). This is a technical indicator being applied to the stock market's supply! No where else on the web will you find the actual weekly float of the SP500 index (supply of stock available to trade). In addition, no where else on the web applies technical anlsysis to these data. You are the first to truly see the "mechanics behind the behavior"

In essence, let's examine, in relative terms, the current inventory level in the store. The inventory consists of the number of shares available to investors to trade and the store is "Wall Street". What is presented to you is a simple way for you see if the inventory levels are building up to levels when discounting will occur. Basically, when inventory builds up, the store is going to have a sale to entice customers thereby reducing their inventory. As an investor, you want to buy stock during the sale or just after the sale. In addition, you want to avoid buying stock when the inventory levels are low as prices tend to be higher for items when they're "hot" - in demand.

Below is a chart that shows you the rolling two month inventory levels of stock in the SP500 index. The scale on the left shows you values above and below 0. Values above zero indicate that inventory is building while values below 0 indicate inventory is vanishing. Although there are currently 289.5 Billion shares available to trade in the SP500 index, inventory levels in relative terms actually fluctuate from week to week. This new oscillator identifies when inventory is building and when it is low so you can think about when would be a smarter time to buy and sell.

Another point that isn't obvious, is the correlation to seasonality. The rule on Wall Street, "Walk away in May", takes on new meaing when viewing the inventory levels. Notice how the inventory level rose during the second quarter of 2004. This seems to be the time of year when Wall Street's inventory rises. Also notice how inventory declines in the fourth quarter and how prices respond to these changes. Lastly, look at this spring's inventory compared to last year's levels. Notice that the absolute levels are about the same and the rate of change was also rapid as was in 2004. So from this one quality about the stock market what would you infer about this summers prices? (As a clue look at the inventory levels of the summer of 2003, they were negative. 2004 and 2005 are yielding positive values).

For comparison this second chart shows you the traditional view of the number of shares available to trade in the SP500 index. This chart below contains the raw data from which the "inventory levels" are computed in the chart above. The traditional view provides us with a few salient points:

1. As the amount of stock rose so did prices.
2. The three line segments highlight the three periods with different dynamics.
   1. Direct relationship between price and supply. (This only means that prices and supply moved up together. This doesn't mean that the laws of supply and demand are behaving normally. For that we need to know the demand before we can assess these laws.)
   2. Inverse relationship between price and supply - Divergence.
   3. Float changes accelerate versus changes in shares outstanding. Also divergence appears using the Float data.
3. Notice the impact of shares outstanding on price:
   1. When the changes in shares outstanding flattened out (1/2004 - 5/2004), prices consolidated (notice 4 month delay)
   2. When the changes in shares outstanding rose sharply, (5/2004 - 10/2005), prices rose (notice 3 month delay)
   3. When the changes in shares outstanding flattened out (12/2004 - 2/2005), prices consolidated. (notice 4 month delay)

Notice the decoupling between the changes in the Shares Outstanding and the Float which started around Oct. 2004. Float changes are rising faster than the changes in the Shares Outstanding because Standard & Poors has changed the index's methodology from Shares Outstanding to Float as of March 2005. These changes to the index's computation were announced in Oct. 2004. Ever since the announcement, the accuracy of the float has been improving and the manner in which the supply of stock is viewed has changed. As a result of S&P's change along with the affects of stricter accounting rules, investors are now seeing more accurate accounting of the number of shares available to the public.

The public supply of stock is now under strict scrutiny and is very important. Companies no longer can "play" with their shares like in the old days. Investors finally are being given the information they need to evaluate the true forces of supply and demand underlying their investment. As we can see, shares outstanding and the float are quite different. The problem pre- Mar. 2005 was that investors had to assume the shares available to trade. This gave Wall Street an advantage as no one knew the exact supply except the specialists and the Market Makers. Now everyone knows the float and price must respond in accordance with these facts. The sludge behind price movement is being removed and there's less of a fudge factor between what the professionals know and what investors know.

4/21/05 - Don't Worry, Be Happy. It's tax time. Did you ever wonder about the fact that more Americans than ever are filing their taxes electronically? What if everyone hit the button and sent their taxes along with their electronic payments to the IRS at the same time? What do you suppose would happen? Here's a curious looking graph that attempts to shed some light on this question. Times are changing and the age of electronic trading and banking does have an apparent impact on how fast money can move. The concept of "herd mentality" takes on a new meaning when you think about it.

By the way, if you're thinking that the shrinking level of debt held by the public is a good thing, then think about this. Why did so many Americans need to sell their securities last week between 4/13/05 and 4/20/05? Don't look at this as the level of debt shrunk, because it didn't. Think about this as the Government cashing out Billions of Dollars to creditors who left the building with cash. The only problem is that this is simply an accounting formality as most of this money will re-enter the Government's "books" as revenue. However from the taxpayer's perspective, who is privileged to receive the many benefits that our Government offers, transfered their wealth to the US Government for this privilege. What did you get for this privilege? In simple terms, you gave away some of your net worth. Then ask, what else did you get in return?

PS - Other supporting evidence can be found in the the mutual fund industry's cash flow data. The data released this week and last week document net outflows from domestic stock and bond funds. However, it is interesting to note that the current net outflow of funds is less than what occurred during the last week of Dec. 2004 and the first week of Jan. 2005.

4/21/05 - Let's revisit an old favorite - Moving Averages for the intermediate and long term investor. Moving averages are a staple of technical analysis as they form the basis for most investment decisions. Afterall, regression to the mean is a widely held theory. So it behooves all prudent investors to aware of potential turning points. The following charts serve to make you aware of the upcoming "tipping points". The first "tipping point" to watch out for is closing price of the SP500 Emini futures contract. If it closes below 1151.5, this isn't reassuring. Second, the daily SP500 index chart shows a similar picture in that if prices break hard and fast below 1150, then a long term 50-by-260 day moving average crossover is likely. This wouldn't be good news. Sometimes it pays to watch what other investors are using. However, the always familiar question is how many "tipping points" will be triggered in the upcoming days? Are you counting them?

The problem with all "tipping points" is that there is another side to consider. As the Emini Monthly chart reveals, the price of 1150 has been a definitive line for the past few years. In addition, the multi-year upside down Head & Shoulders pattern is hard to ignore, and currently on a short term basis, a positive "W" pattern has been formed off the current lows. Plus, if you add to the fact that the Megatrends are currently positive, and that over the past week the number of companies with postivie surprises has been outpacing the negative surprises by 2:1 (208:114) , then the evidence may push you to the Buy side if the 1150 support zone holds. (As a footnote, the earnings data is on this page a little further down. Look below at the net earnings peak. The current peak is greater than the previous peak while prices are lower. The commentary on that is that there are two fears currently dominating the market: 1. the increase in hostilities in IRAQ and 2. the upcoming public reporting change requiring the expensing of all stock options. The fear of the unknown as evidenced with past auditing scandals is forcing the market to tread water.)

This is critical time moment in the market and even the Professionals aren't convinved the market's heading down as the data from the Committment of Traders reports don't show a massive short position. The point now is to determine your strategy. If you're a "Bull" then commit to a buy with a tight stop. However, if you're a "Bear" then watch for support at 1150. Either way, volatility will make for some interesting sport.

(Note: Joe Granville followers are salivating at the prospect of the DJIA to collapse to 7400. But first things first. The market must break the 1150 hard and fast and soon for this prophecy to become true.)

Belows is the simple moving average monthly view.

Belows is the simple moving average daily view.

3/31/05 - Let's use price in a new way. Let's count the number of stocks within the DJIA making Higher Highs (HH) and Lower Lows (LL) from the previous session. Then use that information to compute the daily net HHLL and plot the rolling 5 day sum total. Here's are results.

2/13/05 - Float Charts Revisited. Here's a weekly chart of the DJIA and the SP500 index along with their float turnover highs and lows.

Float Analysis was developed by Steve Woods and the explanation for this type of analysis can be found on his website floatanalysis.com. Where he has applied this analysis to individual stocks, we thought it would be interesting to see how this type of analysis works for the SP500 index. First presented back on 11/4/04 when the float turnover highs for the SP500 were breached, it appears that another significant high is currently being tested.

Below are charts that plot the weekly highs and lows for the SP500 index along with the weekly volume and the float derived price channels. Float derived price channels simply represent the maximum and minimum prices for a given period. Each period varies in the number of weeks because the period is determined by the current number of shares available to trade - the float. The float for the SP500 index is simply the sum of the 500 component stocks float. Second, the period is determined by accumulating the weekly volume in reverse until the total accumulated weekly trading volume equals the current float. (That means working right to left on the chart rather than summing volume from left to right.) Then the high and low prices for that period is determined and is plotted as the Float Max and Min. This period has been named by Steve Woods in his book "The Precision Profit Float Indicator: Powerful Techniques to Exploit Price and Volume" as the Float Turnover. When a float turnover high or low has been penetrated, his interpretation is that prices are ready to run.

If you don't have the individual float history of the 530 stocks that were included in the SP500 index over the past two years, the number of weeks that constituted a float turnover fluctutated between 30 and 35 weeks. Here's an alternative method for you to create your own float turnover price channel. A much simpler method to compute these float turnover highs and lows would be for you to create a simple 35 week, or a 9 month, price channel. BTW, the number of weeks varied from 52 to 79 for the DJIA's float turnover period. So, if you wanted to create your own price channel for the DJIA you would need to find the 75 week high/low.

Generally, if the float turnover high and low is broken with increased volume, the trend continues. The DJIA must see an increase in volume as the float turnover high is about to be retested. If the volume is lower, then theory has it that prices will drop. Unfortunately, as is shown in the chart, the float turnover highs were constantly tested in 2003 with less volume and prices still rose. So this theory is just as fallible as any other. Suffice it to say, if the fundamentals are positive prices will rise.

2/11/05 - Is the term "overbought" really an oxymoron?

1/7/05 - Here's a lesson in "head fakes". Did you expect the market to fall? Did you put on a short trade only to have it busted? Below is a chart that shows you the greatest HEAD FAKE in the past year. The trading lesson here is - conviction. If you're not convinced that you are right you will be sucked out of the market and the price for conviction is volatility. So let's look at why the market moved 30 points.

The first trade is on at 1211 - you're short. The market reverses and breaks at 1221 - you're out at a loss of 10 points. The market now reverses and breaks 1211. Your're now short at 1210. The market this time goes your way and reaches 1200. You made 10 points which washes the earlier 10 point loss. Some traders bail out and are happy with break even while others stay short. The scenario for these short traders is that more weakness will come into the market and previous low of 1195 will be broken. This scenario becomes reality and they get to 1190. These short traders now bail with a 20 point profit which is offset with a 10 point loss.

So for many who were in the market, this 30 point move wasn't an easy score of 30 points. As a matter of fact, most traders lost money or broke even and some made 10 points. If you weren't in the market, make an honest assessment of the patterns and indicators presented here so that you can walk away from this with a lesson learned. Head fakes are themselves a pattern and only reveal themselves afterwards. There is no way to predict them. Your only protection from them is to be quick and nimble if you're a jumpy trader (10 points or less). However, as a position trader the strength of your conviction will be tested. Any hesitation on your part - you lose.

The next move will be to erase the net 10 point gain that materialized by those traders still in profits. So expect a return to 1200. Coincidently, this scenario converts easily towards an explanation as to why Fibonacci levels are prevalently used. The fibonacci retracements levels are in fact the result of these tradering behaviors outlined in this example. The 50% retracement of the 36 point move is 1203, while the 38.2% retracement is 1199. This retracement coincides with the attempt to erase all profits. So the move after this return to 1200 is determined by level of conviction of these participants. If those that had a 10 net profit add to their short position, (which BTW will now be at break even) then the market will retest the lows. However, if the short traders take their profits this will force them to buy lifting the market higher, and in the absence of new short positions, the market will attempt a run at the previous high.

The last question to ask now is, does this represent a change is attitude; or is this a technical move inspired by the unwinding of annual positions linked to the massive quantity of January Options yet to expire (the market behavior for this is linked to this chart. Notice the drop in January. This occurs every year!); or are the specialists (who are heavily long since last year, shown lower on this page) now beginning to take profits to take advantage of the one year long term capital gains tax law? As always each new price level forces traders to wrestle with the new developments of the day. However, the challenge is to sort them out quantitatively and assign relative strengths to these forces. There's a reason why all financial disclaimers state that past performance is no guarantee of future performance - it's true.

Here at The Small Investor's Software Company, we quantify these forces and assign relative strengths to them. That's why you see so many facets of the market here on this website. Each facet represents a force that exerts its influence on the market. Our niche is in isolating these forces and studying which one is currently in charge.

1/5/05 - Where was the warning? As an investor, you may have wondered if there were any warning signs for the "2005 Slide". Here's some evidence that shows despite December's rally, professionals were "bearish". Here's a summary of the Commitment of Traders (COT) data for the SP500 index futures. The data shows that they turned bearish during the month of December.

Also, note that there were three times that the COT reports showed positive levels since 2000 and prices have dramaticly risen. However, if you notice the -40000 level carefully, you can see that the reactions at these levels varied. In 2000, negative COT levels lead prices lower, while in 2003 negative COT levels marked the beginning of a rally. However the pattern of rising prices concomitantly with declining COT levels do seem to foreshadow lower prices. Remember, these data currently show that professionals are betting against higher prices. So regardless of their motivation, selling short or hedging, they are currently "skiddish".

SP500 Charts