It’s all around us - fear. In the Hedge Fund world, redemptions abound. Even in my fund which is a private, lockout-closed fund, I experienced some redemptions. My terms lock in an investor for 3 years unless I lose 30% of capital or 30% of capital and profits whichever is the greater. Effectively, the maximum loss is 30% of capital.
But in early October, an investor asked if he could exit. I was up 35.9% before fees so I did find the request a curious one. He revealed that he had split his investment capital into four diversified lots. The other 3 had a combined loss of 82% and he needed cash. I agreed.
But to be fair to the other investors, I also gave them a choice of early release. Two others opted out. One decided to exit the fund and hold losing stocks. The other had joined with this investor , and so he wanted to exit if his friend did - fair enough.
The point I am making is except for the first investor, it’s unlikely that the other two would have elected to leave the fund but for the fear that is now firmly in place.
This environment of fear is evident in the papers: the ‘depression’ word is starting to be bandied about in the local papers; the headlines are full of ‘bad news’ - today we read in the Financial Times’ headline and its 1st paragraph:
“Credit crisis tightens its grip”
The credit storm swept through Wall Street and Main Street with renewed virulence yesterday as AIG and Fannie Mae reported huge losses, a leading US retailer filed for bankruptcy and multinationals such as Nortel and DHL cut thousands of jobs.”
In the meantime, the VIX is still hovering around all time highs (see chart 1)
Chart 1 VIX
But what are the charts showing me? The papers and other media have noted that the market is acting responsively i.e. sell at resistance, buy at support; one/two-day rallies result in a selling day and vice-versa, etc, etc.
But beyond the obvious, what is important to note is that yesterday:
- we had the second day within Thursday’s range i.e. a second inside day to Thursday’s range.
- we had a slightly lower than normal range (range yesterday was 44.5 compared to a normal range of 46 to 82); but
- the volume was the lowest since August 29 except for September 24 which is a 17.6 point range.
In other words, yesterday, the market was seeking to move down and volume shrank. Not a great sign for the market to move lower.
Chart 2 Normalized Volume
This suggests that conditions are ripe for a strong rally. The two narrow range days set up the market for at least a normal range day and possibly closer to 46 to 104. A move above yesterday’s high will mark the beginning of a possible X’mas rally.
Note that conditions are not perfect - the most notable drawback is the COT reports by Steve Briese’s Bullish Review: they show that the commercials are still selling rallies. While the market may rally without the commercials, I’d prefer to have them onside.
Still the patterns, cycles and volume all suggest a possible rally. If I were a 5-d trader or lower timeframe trader, I’d buy:
- on acceptance above yesterday’s high or
- on a failure to follow through if we take out Thursday’s low.
I’d consider a short a high risk trade as both the 18-d and 13-w down lines are in mean +3 territory suggesting care is required on the short side.
Refer this blog post to a friend or colleague…
