Contrary Opinion - Market Conditions

Today, the S&P 500 Index opened @ 1196.12 The market then dipped down to 1189.44 during the first two hours of the trading day. From that point, it was a steady climb up to a high of 1199.97 before the market closed @ 1199.73. I still anticipate a touch of the 1206 area before a further decline.

Rising Wedge Pattern: Since November 5, the market has been in a down trend. Markets never go down in a straight line, although it may feel like it sometimes. Markets go down. They retrace. They go down further. They retrace. They go down further. That's the natural psychology of fear and greed at work. The trend is your friend, so you always want to think in terms of the trend; i.e. is the trend up or is the trend down?

If the market is in a down trend and goes up, we could have a classic pattern known as the Rising Wedge pattern. This just means that prices appear bullish (due to higher highs and higher lows), however, the trend is more powerful in the end. Eventually, prices will drop below the minor up trend line of the Rising Wedge and drop to a lower low. 1206 would be a natural resistance point for the end of the Rising Wedge pattern since Tuesday, November 16. That's my anticipation.

The Dumb Money Factor: After the close of the trading session, I glanced at the options activity on the Index.

(You may recall that options activity on the Index is a nice contrarian signal at extremes. When mom and pop are overly eager to buy calls or bets that the market will rise, then it is a good time to sell the market. When mom and pop are scared out of their minds and stocking up on puts or bets that the market will fall, then it is a good time to buy the market.)

I could not believe my eyes.

The Index closed for the week @ 0.77. This was the third most extreme demand for calls by the retail public since December 21, 2007. And you might note that the market declined after December 21, 2007 until crashing Tuesday morning on
January 22, 2008. I remember that crash. The U.S. markets were closed on Monday due to the King Holiday. Meanwhile, the European markets were collapsing that Monday but U.S. investors had to patiently wait for 24 hours until our markets opened.

All of this is to say that we should lean in the opposite direction from the Index options buyers. We should anticipate that a drop in the market is more probable than a rise. That's how Contrary Opinion works.

For those readers who want to enrich their understanding of how markets work, I would suggest two books--Reminiscences of a Stock Operator by Edwin Lefevre and Market Wizards by Jack D. Schwager. These books are excellent and pleasant reads. Most professional traders have them in their libraries.

Have a great weekend!

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