Stalking Stocks with the Shark - Late-Day Reversal Negates Early Strength - 5/19/08

Stalking Stocks with the Shark - Late-Day Reversal Negates Early Strength - 5/19/08
Greetings Shark Investors:

As was the case when we finished out the week last Friday, a casual observation of the closing levels for the major indices masks what was a rather tumultuous day for the market. Stocks kicked off Monday’s trading session in a muted fashion as a slight dip at the open in consumer discretionary and financials was balanced by early strength in energy, materials and industrials. However, dip buyer were active right off the bat and stepped in to buy what initial weakness there was, pushing the broader market sharply higher throughout the morning and into the New York lunch hour.

While there was plenty of strong action across the board, once again investors focused a great deal of their attention on the same groups of stocks (oils, metals, mining and solar) that have led this market since the BSC bail-out in March. As we headed into the afternoon, the action began to get really frothy as investors chased components of ETFs such as the TAN, XES, XME and XOT higher. However, whether it was coincidence or a technical sell program, as soon as the S&P 500 hit the 1440 level mid-day, stocks turned sharply lower with the hottest momentum names taking the biggest hits. By the close, the indices had erased gains of about 1% to finish mixed on the day.

We’ve been saying for quite some time that, while this market has been acting quite well for the past several weeks, the leadership has been narrow, and as a result, many of stocks that investors have been chasing higher and higher have become extremely extended. As such, once some selling kicked in at an important technical level, holders of those recent high-flying names moved quickly to the exits to protect their gains. The fear of being left behind drove market players to pony up for stocks that had already made parabolic moves, but we often say that momentum works just as well, if not better, on the way down as it does on the way up.

Last Wednesday, we saw a similar late-day reversal, and the big question is if we will see the same sort of rebound we saw at the end of last week. With each of the major indices hovering right at their respective 200 day moving averages, it will be important for the dip buyers to defend their ground. There are likely plenty of investors out there who have been frustrated by this recent strength and have been looking for a bit of weakness in order to put some capital to work in the momentum names, and today’s reversal in those groups might have given them the opportunity to do so. That said, the biggest thing we need to watch for right now is complacency. Remember, we are still in a primary downtrend, and the longer and stronger bounces become, the greater the chances are that those who were too quick to embrace market strength will get caught when things reverse.