Technical Wednesday: Louise Yamada

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Checking in With Technical Analyst Guru Louise Yamada

The question of the day is what happens after we complete this oversold bounce.  The major indexes have all broken down from a textbook head and shoulders formation, and sit below (far below in fact) the major long term moving average of the 200 day.  While I don't take much as much stock in the 'death cross' (after it failed badly in 2010), others are pointing to this bearish sign as well.  The huge wildcard is of course the Fed, and actions they may or may not take in the near future.  As we saw almost a year ago to the day, when the Fed comes in with guns blazing, the psychology of the market changes and a lot of technical analysis goes out of the window.

Past ITZ Posts

• As markets around the world put the brakes on a nascent comeback rally after only 3 sessions, legendary chart analyst Louise Yamada says it's a technical mess all over the world. "We are at a critical juncture right now," warns Yamada. Be it the BRICs, other Emerging Markets, or Europe, Yamada says "all of them have come into long-term sell signals" with the exception of Japan, Thailand, Jakarta, and a few U.S. markets.
• "Germany was the strongest market and it had a very severe setback...and went right to the bottom of the 2010 support," says Yamada. "So any further decline there and you bring into question whether the market goes to the 2009 lows."  In the case of the Germany's benchmark DAX (^GDAXI), that would be a fall to about 3600, nearly 40% below current levels. The index has suffered a 16% drop in August alone.
• Another global powerhouse is also in question. Yamada points out that Hong Kong's Hang Seng Index (^HSI) is at the same ''critical juncture." Right now it sits at 2010 support levels and is now looking at the possibility of a further 40% support gap back to its 2009 trough.
• But before you race off in search of a safe haven, Yamada says it's best to wait for some clear confirmation that the global downtrend has reversed. Until that happens, "rallies would be best used to lighten some positions."

• To help us on the chart-front, Breakout called in Louise Yamada, Director of Louise Yamada Technical Research Advisers. I make no bones about my respect and admiration for Louise. I've followed her work for years and she's made me money. Is she always right? Of course not, nobody is. But she's far better than most and errs on the side of preserving capital rather than trading on hope. Good technicians aren't about catching tops or bottoms, they're about catching the "meat" of a move.
• U.S. Markets as a Whole: Louise says we are "finished with a cyclical bull and entering a cyclical bear." It's not the end of the world, just an end of the uptrend off the 2009 lows. Since January of this year, the market has seen falling volume on rallies. Simply put, longs are nervous and ever less inclined to buy the dips. As we saw when the S&P500 uptrend from 2009 broke definitively around the 1,300 level, followed by support failing at 1,250; nervous bulls sell in a hurry.
• The Death Cross & Other Momentum "Tells": A Death Cross occurs when the  50 day moving average falls beneath the longer term, 200-day MA. This technical indicator is getting a lot of buzz of late, both because it has a very cool name and it's been a relatively reliable indicator of a failing market. The fact of the averages crossing is a function of market momentum failing. Obviously. The Death Cross occurs relatively seldom and can change quickly, Louise notes. A false cross occurred in 2010 but reversed within weeks. On the other hand, the cross in early 2008 was an outstanding exit cue. These are the two most recent Death Cross triggers.
• While "one should pay attention" to the Death Cross, Louise is more concerned with the MACD, Stochastic, and ADX. These more subtle indicators of market momentum are all looking punk, adding to Louise's conviction that the cyclical bull is done. As is the case with all momentum-based technicals, Louise's favorite 3 tells don't tic the exact top, but rather suggest a pull-back will be more sustained than the normal ebb and flow of the tape.
• Uptrends and Support: These blunt instruments of TA are the basis of the Purple Crayon system. They are the indicators most widely followed by the masses, meaning the maximum number of buyers create demand when uptrends and support are hit. In a bull market, the thick crayon lines hold, just as they did from the S&P bottom of '09 all the way to this summer. When "uptrends (are) sliced right through leading to 20% down moves" it's rather obvious the buyers have less conviction than fleeing bears.
• Add it up and markets are showing ominous weakness, both on the macro economic front and the charts. To be clear, Louise isn't crying "short!", she's suggesting a position on the sidelines. "There are only two losses that you take," she sagely observes, "Loss of capital and loss of opportunity. I'd rather be out of the market wishing we were in, than in the market wishing we were out."