According to the current mood of the futures market, it seems as though we are due for a significant burst through the bottom end of the triangle that traders seem to be fixated on currently in the S&P. Of course, it wouldn’t surprise me at all to see a positive open. After all, we are in a market that is driven by Euro speak and action. Between midnight (California time) and 9am is when the anxieties shift into overdrive in today’s financial world.
Let’s talk about what happens with a large gap down tomorrow morning, as this will be a very problematic scenario for the market. It is much too early in the bull trend for us to experience a termination of the bull. For that reason, a large gap down tomorrow morning has the potential to mark the beginning of something as opposed to the end.
Four factors are at work here that make tomorrow explosive:
1. Anxiety due to end of year performance. Fund managers are sitting on a hairpin trigger. A lot of them are caught in the beta up trade and won’t be able to take much weakness before hitting the sell trigger. Half of them just want to get out of this year with all limbs attached. And the other half are wishing they would have become urologists since looking at penises all day has a great deal more career stability and less volatility than the current market.
2. The number of shorts left in the market to hit the bids on a large gap down open has dwindled significantly. They are still around. Nowhere near where they used to be, however. The firepower, in fact, has reversed and now resides in the bull camp with trapped long beta fund managers.
3. It’s option expiration week.
4. This isn’t supposed to happen here and now. This is the most important point. Allow me to explain it: When a market begins a downtrend prematurely without the proper sentiment and structural setup, it accelerates the downside. The decline in late July/early August was a prime example of this. I outlined the potential for a double digit percentage decline in the market over a short time span on July 31st here. The decline in July-August started from an oversold condition in the market, while sentiment was decidedly bearish as measured by the put/call ratio. The deception mechanism of the market breaks in these instances and it becomes open season for one group of traders.
It’s like a group of soldiers beginning war on the enemy before they have set up their defenses. It becomes impossible for one side to defend their position and they are simply overrun.
By most historical references and models, a decline starting from the current position of the market is highly anomalous. For that reason, tomorrow has the potential to be ugly. Furthermore, it could mark the beginning of the retest of the October lows. A scenario that I discussed here over the weekend.
It should be noted, the models I currently keep track of have tomorrow as a low. My only goal for tomorrow then is to find the balance between what my models are saying and the potential for an anomalous event to take place that catches most everybody off guard.
This posting may not even be relevant by the time I wake up, as I not only suspect, but expect the markets to reverse due to talk out of an influential German, French or Italian minister. My intention in posting this is to open eyes as to what the possibilities are if we don’t reverse course asap.