Wednesday, August 1, 2007

The World is not collapsing – yet!

Did I mean The Word (me!)? And I said I would not do any market timing…!
Pursuant to two requests, I am showing today the TSX composite from a Point and Figure perspective. I use this tool in order to determine the road map to my daily trading. So understanding where the Canadian market is at any given time is important. But being able to rationally make a forecast of future pressure points is also of great value to me.

First off, we are still in a bullish market as shown by the green 45 degree up trend line with the last observation on that trend line being 13,300, a very important number to keep in the back of your mind. We had a recent breakdown of a triple bottom at 13,750 (red arrow) and that is scaring a lot of people because it does confirm a short term downtrend. Technical analysis is a great tool to gauge the psychology of market participants. When we have such breakdowns, the level of anxiety goes up and investors/traders are searching for answers if not outright guidance. Such is not my purpose here. What I do know however is the following:

-1- The next level of potential support is the purple line at 13,550. It is a “weak” support zone however because it is only supported by a spread (far away) “O” which occurred in June of this year (see the 2 purple arrows).

-2- If that does not hold, we have potential support at the next purple line which is 13,350 on the chart, just 50 points above the long term up trend line level of 13,300 mentioned previously.

-3- Finally, and most important, the red square at 13,250 is the critical level. If the market trades at that level, we will have a reversal from a bull market to a bear market, and then watch out below.

How can this be used by shorter term traders in a short term downtrend? Well it’s actually pretty easy. You short at support breakdowns and ride the wave until the next support line below at which point you need to be more cautious and use your traditional decision tool to decide if you should cover or not.

All that is nice if you are a longer term investor right? But what about the “attitude” one should have in this short term downtrend especially if you don’t short? An indicator that I use to stop me from making any major mistake (it is a game where not making any major mistake will see you surviving) is the TSE bullish Percent Index.

A quick tutorial on this indicator is available here

In early July, this indicator went from a column of “X” to a column of “O”. That signals that one should be cautious and as Tom Dorsey says in his book [Point & Figure Charting], it is time to bring the defensive team on the field. The idea is that the time to be offensive and go for capital appreciation has been replaced by a period where you should focus on preserving capital. That’s were we are right now.

So why am I so calm right now with lots of time to write? Because I have my defensive team on the field, with plenty of cash to spend if and when the time is right.

The Word

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