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September 02, 2006

Here's Why the Autumn of 2006 Will See Another Multi-week Decline
by Robert McHugh

September is known for being the worst month of the year for stocks, which doesn't mean anything if that is all we've got to go on -- which it isn't in 2006. The following is just some of the evidence we have seen, warning loud and clear, that a multi-week stock market decline of some significance is coming over the next 4 to 6 weeks. Let's start with the NASDAQ 100. We have a proprietary key trend-finder indicator that generates breadth momentum buy and sell signals with good reliability. Within that analysis, is a bi-product analysis where we find the NASDAQ 100 14 Day Stochastic, a measure of the percent of NASDAQ stocks above their 14 day moving average, diverging Bearishly with prices, shown on the chart below. That divergence that bothers us.

Moving on to the large cap stocks, something interesting of note on the above 30 day Stochastic chart, and the 14 day Stochastic chart that follows is that whenever the Slow measure rises to near 80.00, we invariably see a multi-week, several hundred point decline shortly thereafter. As of Friday, September 1st, the Slow on the 30 day Stochastic is 80.67, and on the 14 day Stochastic it is 79.33.

The probability of a decline -- often significant -- is high whenever the percent of Dow Industrials stocks above their 30 day moving average rises above 80.00 percent. In fact, on page 4, we show every instance this happened over the past two years. There were 8 occasions when this occurred and 11 prior occasions if you include three that got close to 80.00 readings. All but one generated declines of several hundred points shortly thereafter. The one that did not resulted in a smaller decline, yet still a decline, and 60 days later we got a sharp decline. We sit Friday, September 1st, 2006 at 83.33, a twelfth occasion. So, if history is any lesson, we have a 91 percent chance of a sharp decline occurring over the next several weeks.

Further, if we consider the percent above 10 day measure, the probability of a decline -- often significant -- is high whenever the percent of Dow Industrials stocks above their 10 day moving average rises above 80.00 percent. On page 5, we show every instance this happened over the past two years. There were 19 occasions when this occurred, and 21 prior occasions if you include two that got close to 80.00 readings. All but three generated declines of several hundred points shortly thereafter. The three that did not resulted in either a smaller decline, or a sideways move, and within 60 days later we got sharp declines. We sit Friday, September 1st, 2006 at 90.00, a twenty-second occasion. So, if history is any lesson, we have an 86 percent chance of a sharp decline occurring over the next several weeks.

For some long-term perspective on why we sometimes sound so dour on the markets, the above chart makes the point. The S&P 500 is still below its 1999 price level -- and that is on a nominal basis, shown with the royal blue line above. If you adjust prices for inflation, the S&P 500 is light years below its 1999 level. That is 7 years ago. Seven. Seven years ago. No gains in seven years. A loss after seven years, both in nominal and real dollars.

Interestingly, we sit at a major resistance point right now. The S&P 500 hit the long term downward sloping trend-line from back in 2000 this week. That trend-line has four touches, and this week was the fourth.

Another point to make from the above chart is the anatomy of a Bull Market. The green lines show how the slope flattens as a Bull Market matures. At the beginning of a Bull market, the slope is more vertical. At the end of a Bull market, the slope flattens. The purple lines show that the slope of the Bull market from 2003 has flattened to a similar level seen at the end of the 1990's Bull market.

Still another Bearish point to make here is that the MACD, the Moving Average Convergence/Divergence Line has formed another Bearish divergence with S&P 500 prices, very similar to the topping process back from 1998 to 2000.

It takes being a cock-eyed optimist, or having full faith in government intervention, to see a long-term Bull market rally continuing from where we stand today. That said, there is an important election coming in November, and M-3 is hidden, so mischief can reign for an hour.

For a Free 30 day Trial Subscription, go to www.technicalindicatorindex.com and click on the button at the upper right of the Home Page. Check Out Our September Subscription Specials.

"And the beast, which was and is not, is himself also
an eighth {king}, and is one of the seven, and he goes to destruction.
And the ten horns which you saw are ten kings,
who have not yet received a kingdom, but they receive authority
as kings with the beast for one hour.
These have one purpose and they give their power
and authority to the beast.
These will wage war against the Lamb,
and the Lamb will overcome them,
because He is Lord of lords and King of kings,
and those who are with Him are the called and the chosen and faithful."
Revelation 17:11-14

Robert D. McHugh, Jr. Ph.D.
Main Line Investors, Inc.

Robert McHugh Ph.D. is President and CEO of Main Line Investors, Inc., a registered investment advisor in the Commonwealth of Pennsylvania, and can be reached at www.technicalindicatorindex.com. The statements, opinions and analyses presented in this newsletter are provided as a general information and education service only. Opinions, estimates and probabilities expressed herein constitute the judgment of the author as of the date indicated and are subject to change without notice. Nothing contained in this newsletter is intended to be, nor shall it be construed as, investment advice, nor is it to be relied upon in making any investment or other decision. Prior to making any investment decision, you are advised to consult with your broker, investment advisor or other appropriate tax or financial professional to determine the suitability of any investment. Neither Main Line Investors, Inc. nor Robert D. McHugh, Jr., Ph.D. Editor shall be responsible or have any liability for investment decisions based upon, or the results obtained from, the information provided.

Copyright © 2004-2008 Main Line Investors, Inc. All Rights Reserved.

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