Caution Rules Until the Market Tells Its Story

The test of the lows we spoke of two days ago appears to still be in progress. The sharp drop early in the week has continued, and Thursday's rally attempt was not enough to make any change in the trend, as can be seen in the first chart below.

The extremely important question, therefore, remains: Can the old lows hold? Whether or not they do will determine if the heavy-volume reversal was the low or just a low in a continuing downward cascade.

The second chart shows the various moving averages of the Arms Index. After being extremely oversold on the climax low, it went to an overbought level by last weekend on the shorter-term moving averages, the five- and the 10-day. Now they have backed away from that reading, but not enough to yet give a convincing signal to buy.

It has been a great trading market recently because of the wide swings with heavy volume and the strong Arms Index signals. But for now, I am inclined to be very quiet in this market, waiting for it to tell me its story. When and where it next finds support is going to be very important.

---

To view a larger version of these charts (in some browsers), after clicking on the "larger image" link below the chart, mouse over the lower-right area of the chart until the icon with four arrows appears. Then click on that icon.

---

Still Waiting for that Test of Support

Click here for larger image.

Source: MetaStock

Click here for larger image.

Source: MetaStock

---

American Railcar: Buy

Click here for larger image.

Source: MetaStock

On Jan. 30, I suggested the transportation stocks as potential buys, naming airlines, truckers and railroads as places to put money. Both American Railcar (ARII - commentary - Cramer's Take), and my next stock, Express Jet Holdings (XJT - commentary - Cramer's Take) fall into that category, and look as though they could be bought.

On the chart above, notice the big volume washout back in November. We had heavy volume, a big drop, but a square Equivolume entry and a gap. All of this added up to a picture of a final washout after a long decline. Since then, we have had a long base-building period, and now a sign of strength. It looks as though it could move much higher.

(To do my Equivolume charting, as in the charts that appear in this column, I use a charting program called MetaStock. To learn more about this method, read my series of columns, Trading With Equivolume.)

---

Express Jet Holdings: Buy

Click here for larger image.

Source: MetaStock

Express Jet is a lower-priced stock -- selling at a third of what it was worth a year ago -- that can move fast. It, too, has been in a base-building phase since November, and it, too, looks as though it is staging a turnaround.

After a good rise on better volume two days ago, it pulled back a bit Thursday. The moving average convergence/divergence (MACD) and volume-adjusted moving averages are on the plus side. I think it could be bought in aggressive and speculative accounts around current levels.

---

Monsanto: Short

Click here for larger image.

Source: MetaStock

The long advance in Monsanto (MON - commentary - Cramer's Take) appeared to end last month. Suddenly, volume became very heavy to the downside, as it broke down through the ascending trendline.

More recently, it attempted to rally on lighter volume, but that rally now looks as though it has failed. The MACD tried to go positive, but was unable to do so, and now the volume-adjusted moving average lines also have crossed over to the minus side. Thursday, it broke the support of a week earlier. The stock looks like a short.

---

Foster Wheeler: Short

Click here for larger image.

Source: MetaStock

Foster Wheeler (FWLT - commentary - Cramer's Take) has gone through the stages that very often characterize a stock that is headed lower. We have had a long advance, followed by a break in which volume becomes unusually heavy. We then have an up-sloping countertrend move, which takes the form of an inverted flag.

Now price has moved down through the bottom of that flag, suggesting the decline is resuming. It looks as though it could be profitably shorted around current levels.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider American Railcar and Express Jet Holdings to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

---

At time of publication, Arms had no positions in the stocks mentioned.

Richard Arms is a renowned stock market technician who invented the Arms Index (often referred to as the TRIN), which has become a mainstay of market analysis, appearing in The Wall Street Journal and Barron's. Arms also developed the widely used technical method Equivolume Charting. Since 1996, he has been publishing the Arms Advisory newsletter for money managers and financial institutions. He also has authored Stop and Make Money: How to Profit in the Stock Market Using Volume and Stop Orders, Profits in Volume, Volume Cycles in the Stock Market, Trading Without Fear and The Arms Index, and has been honored with the Market Technicians' Award for Lifetime Contribution to Technical Analysis. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks. Richard appreciates your feedback; click here to send him an email.

TheStreet.com has a revenue-sharing relationship with Trader's Library under which it receives a portion of the revenue from purchases by customers directed there from TheStreet.com.