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A Sell signal was issued this week!

In case you missed your signal notification e-mail, a Sell signal was triggered after the market close on Tuesday October 11, 2005, and you should have traded accordingly the next day. If you missed the trade date, forgot, hesitated, could not muster the courage, or any other reason, it is not too late to act. In fact, reading this week's installment of the Trend Timing School below should help convince undecided investors that now is not the time to be on the wrong (Long) side of the market.


Signal Update
Current Signal Performance as of
Signal Type
Trade Date
Index
Return since issued
Nasdaq 100
Russell 2000
S&P 500
QQQQ

Cumulative Returns since First TimingCube Live Signal () as of
Index
Long Only
Long Only
with
Margin
Long & Short
Long & Short
with
Margin
Buy & Hold
Nasdaq 100
Russell 2000
S&P 500
QQQQ

Note: QQQQ returns are included for continuity sake.

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Market Update
Over the last couple of weeks, deteriorating fundamentals and consumer sentiment, which by themselves play no direct role in our Model, caused a noticeable shift in institutional money away from equities. On top of the technical damage inflicted last week, markets saw a number of distribution days this week, with prices broadly lower in increasingly heavy trade. After the market closed on Tuesday evening, our Model confirmed that the intermediate market trend we follow had turned down, causing a Sell signal to be issued.

The week began with a negative reversal on a slow Columbus Day holiday, which was swiftly superseded by two more reversals with accelerating price declines and volume. Another unsettling development was the fact that there was broad industry participation in the market drop. Even energy stocks got hammered despite solidifying oil prices. On Friday the Consumer Price Index (CPI) - a key measure of inflation - showed the fastest increase in more than 25 years by jumping 1.2 percent in September. Somehow, since most of the rise was directly attributable to soaring energy prices, investors were relieved that the core inflation reading, which excludes food and energy prices, looks flat. This, in combination with news of improved retail sales, sent markets higher on Friday, but with only modest conviction.

For the week the small caps laden Russell 2000 lead the way down with a 1.74% loss, followed by the large cap group in the S&P 500 shedding 0.78%, and the tech-heavy Nasdaq 100 faring the best with a 0.75% drop. All indices but the Nasdaq 100 are now below their 200-day averages and, according to one common definition (see the Trend Timing School article below), the markets have now entered official bear territory, moving us all the way to a Bear/Sell quadrant 3 (read "The four market quadrants of Trend Timing" for definitions). In conclusion, with the week's action and signal we are in a Sell mode and poised for further declines, although a continuation of today's bounce would surprise no one.

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Trend Timing School
Waiting for the big one

As we close another trade with single digit gains, it is easy to get frustrated and grow impatient. On one hand we are always grateful for any winning trade, however small the gains may be, recognizing that many other systems we track have experienced losses. Still, it has been 18 months since the markets granted us a solid double digit gainer. While we instinctively wait for something better, most of us are not aware of what statistics reveal, and what long term investors know full well, which is that money is made on the big moves.

Running a post-mortem on the trade just closed shows that once again the total market move was small. From our 5/12/2005 entry on the Buy signal to the intermediary tops reached in early August, the indices topped at 15.61%, 11.51%, and 6.31% for the Russell 2000 , the Nasdaq 100 and the S&P 500 respectively. Having to give back between 5% and 8% on such small moves before the Sell signal got us out is painful. The small gains feel excruciating, and we understand the added suffering of someone who only got on board mid-signal. Yet those of us who have invested in the Russell 2000 with the signal for the last year (since the 10/28/2004 signal to be exact) are up 16.57%, not too shabby versus 8.63% for the S&P 500 and 7.22% for the Nasdaq 100.

Regardless, what everyone wants to know is when will the next big move happen? We don't have the exact schedule, but what we know is that the industry average rule of thumb for investors is that 20% of the trades generate 80% of the profits. Looking at our entire live and backtested history reveals that our percentage of double digit gainers is around 30%, and they account for more than 80% of the performance. Since we have now had four consecutive single digit trades, with the last three being profitable, we can conclude that we are overdue for the next big one.

We don't have a crystal ball and the present decline could of course turn out to be nothing more than a correction in an 18 months range bound market. Our Model, which has been right 80% of the time, now points to an intermediate down trend and this significantly increases the chances of this move being the beginning of a renewed cyclical bear market within the context of the longer term secular bear market which began in 2000 (also read "Cyclical and secular bear markets"). These can be vicious! As stated in the "Market Update", today saw us move into an official bear market following a the widely used 10-day and 200-day EMA cross-over rule (read "The psychology of bull and bear markets" for more on the definition of bull and bear markets).

While we gladly take any significant market move, be it up or down, we especially relish the big bear moves. They can big explosive and rewarding, and it is during these major market downdrafts that Trend Timing moves decisively ahead of buy and hold. During bull markets we cannot beat the indices (except with leverage), but when markets head south our positions advance while buy and hold investors lose precious ground.

We don't know what the future holds, but the market action and our Model have us poised for a substantial down move.

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FAQ of the Week
Question: Why not issue the signal before 4:00 p.m. EST?

At every signal we have a few imaginative souls who figure they could get a jump on things if only we issued the signals before the close of the market instead of after. Alas, our Model requires data which is only available after the markets close. When it comes to running the Model and issuing signals, we are not in the business of guessing. In fact, looking at history, had we attempted to make a call at 3:30 p.m., we would have generated a number of erroneous signals resulting in losses.

At the risk of repeating ourselves: "We never second-guess our Model, and we will not issue a signal before its time."

Warm wishes and until next week.

The TimingCube Staff

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