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The entire TimingCube Staff expresses its gratitude for the privilege of serving you during 2005 and wishes you happy Holidays and a healthy and prosperous New Year!

Schedule notes:

  • There will be no Weekly Update on Friday December 30, during the holiday shortened week. They will resume normal schedule on Friday January 6, 2006
  • U.S. Stock markets will be closed the next two Mondays, December 26, 2005 and January 2, 2006 in observance of Christmas and New Year's Day respectively

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
Monday extended last week's losses, with the technology sector and small caps particularly hard hit again. As expected, as the week went on the trading became increasingly light ahead of the holidays, and it is expected to remain anemic next week as well. While little measurable progress was made, technically speaking, the fact that several indices held at major support levels is significant (see the Trend Timing School article below).

The news front was almost a mirror image of last week, with good news keeping the bears from dragging the markets down, but failing to fire-up the bulls. This time around it was the Labor Department's turn to exult over the PPI's (Producer Price Index) biggest drop in 2-1/2 years, by 0.7% in November. Ironically, it is the very same officials and pundits who, when prices rise, leave out the "volatile" items like food and energy and strictly quote the core PPI, and then conveniently espouse them the minute energy prices drop. Admittedly, even the slight 0.1% rise in the core PPI is very tame. A 5.3% jump in November housing starts was generally taken as one more sign of healthy economic growth. It remains to be seen if the announcement on Friday of the biggest drop in new home sales in nearly 12 years will throw a wet blanket on the so-called Santa Claus rally that many expect next week.

In summary, the consolidation continued with last week's loser, the Russell 2000, taking the lead this week with a gain of 0.49%, followed by the S&P 500 close to break-even at 0.11%, and the Nasdaq 100 edging 0.34% lower. Our Model continues in a Buy mode.

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Trend Timing School
Support revisited

Since the middle of November we have written about various indications of a breakout in progress, and now the market is further advancing our educational aspirations by delivering a text book perfect breakout, complete with fall back and, just maybe, the beginning of a pull away.

Following a breakout from strong resistance there is frequently a period of uncertainty associated with prices that maybe have moved too far too fast. Some traders invariably question if this new price level is in fact justified, and some decide to sell. There is also a sense of exhaustion and all the buyer/seller protagonists are in serious need of a pause. The investing public needs to get used to the idea of the new price levels being normal before new buyers can emerge to decisively move markets higher.

The observed November breakouts occurred on a variety of indices, ranging from the technology heavy Nasdaq Composite to the large blue-chip stocks in the S&P 500 , utilizing a variety of technical indicators from simple resistance lines, to rising wedges, to major Fibonacci retracement levels. All in their own way have their own resistance and support levels. One of the key properties of resistance and support price levels is that they constantly switch their roles from resistance to support and from support to resistance.

The study of resistance and support lines helps determine who from the bulls and bears is winning. While new observers of the qualities of technical charts and of resistance/support lines may feel the presence of some mysterious and unexplained force, when in fact it is the simple law of supply and demand at work. They are a visual expression of the endless tug of war between the bulls and the bears. A support line is simply the price at which more buyers believe it is a good value and below which sellers are not willing to sell, creating support and forcing the price back up.

Chart 1: The Nasdaq Composite index support is tested



Like most things in the stock market, the reasons for the very existence of resistance/support lines, and the peculiar market behavior around them, have to do with investor psychology. To understand the resulting market actions on a grand scale it is often best to observe the mental process of an individual investor. Using Chart 1 above as a guide, let's say you purchased stocks in mid-October, on a wild hunch that an intermediate low had been reached, and smartly rode the rally up. However, like many investors, you are now looking for a top, and the most obvious one you can foresee is the resistance level around 2,200 on the Nasdaq Composite index. Maybe you were already a seller at that level back in August (and very proud to be so clever), but even if not, the fact that many sellers materialized around this level before, greatly increases the probabilities that the market will run into overhead supply again. So you sell, anticipating the resistance line to hold and the markets to turn lower.

After the market breakout from the resistance zone you admit that the market is stronger than you thought and you suspect it is likely headed higher. You now wish you had not sold, but you are not quite willing to pay more to have it back. If by chance it comes back down to the price at which you sold you, along with many others, are very likely to reinstate your position, and indirectly doing your small part to reinforce the support zone. Adding to this are the thousands of traders watching the charts and ready to pounce as soon as they detect a slight change in trend, causing the fall back to fail at support and a possible pull away to begin. Breakouts can of course test their support multiple times, but the more they test it and the longer it resists, the stronger it gets.

In stark contrast with the investor above, as Trend Timers we bought on October 20, not on a hunch but on a Buy signal, and as the market approached the resistance zone we stayed true to the signal and resisted the temptation to bail out. Having lived through the breakout and the fall-back, we are now confidently waiting for the more rewarding pull away phase. Not too confidently though, because from history we know full well that the market can do the wildest things when you least expect it. Regardless of support lines and all the technical indicators in the world, when the cyclical bull has run its course, markets will head south with a vengeance. Thus, we will expect a pull away, but we will remain vigilant of a bull trap and pay close attention to the market and let our Model signal any potential trend change.

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FAQ of the Week
Question: Do you recommend stop loss orders?

It is for each of us to decide how much downside protection we want to implement, but we do not automatically recommend setting stop loss orders on your positions. The Cash signals are our Model's built-in stops, which are either a 9% drop from the entry price or a 15% trailing stop (note that no Cash signal has ever been triggered). Our reference point is the Nasdaq Composite
index and we only look at closing prices.

The major benefit of setting stop orders is that you are better protected (not entirely, but better) against large one day crashes during which the market could blow by our Cash signal trigger points, and leave us with effective declines of more than 9/15%. On the other hand, setting your own stop orders presents some issues which could cause you to be stranded on the wrong side of the trend. Not only could the investment you hold be more volatile than the benchmark index, but your stop could also be triggered on an intra-day spike, when in fact our Model would not detect a signal. If the market then resumes in the direction of the primary trend, and our signal, you could miss out on substantial gains.

Warm wishes and until next week.

The TimingCube Staff

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