Decline Takes Market to Critical Level

Tuesday's sharp market drop took the averages to a critical level. We can see that on the chart of the Dow Industrials below. Were we to be looking at the S&P 500 or Nasdaq, we would get much the same impression. The rally on Monday took the averages right up to the high made early this month, but could not bring about a penetration.

In the meantime, the Arms Index, as measured by the very sensitive five-day moving average, became overbought again, suggesting a pullback was imminent. The drop Tuesday just about hit the ascending trendline going back to the bottom of the current advance, made in March. It is important that the level hold. If it does not, it will suggest the advance has ended, and that we are entering another downward leg. The next day or two will be very telling.

The Arms index was not very high Tuesday, in spite of the selling, so the overbought condition of the five-day did not get erased. That makes it far more likely that the decline will go further.

In addition, as we noted a few days ago in this column, the current rally has the appearance of a bear market rally, which took the S&P 500 to just about where it would be expected to quit. Moreover, the intermediate term 21-day moving average of the AI is overbought enough to be of concern.

Stop orders have been repeatedly suggested, and some of them may have been touched off by Tuesday's drop. If the down move breaks the trendline mentioned above, I would be inclined to aggressively take profits, and even put on some short positions.

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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.

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Click here for larger image.

Source: MetaStock

Click here for larger image.

Source: MetaStock

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Nissan Motors: Buy

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Source: MetaStock

Earlier in the year, each price decline was made with heavy trading, and each rally was on lighter trading in Nissan Motors (NSANY - commentary - Cramer's Take). Since mid-April, though, the tendency has reversed, so that now we are seeing the heavier volume come in on advances rather than declines. The stock has been working higher off a substantial base, and looks as though it has further to go. A pullback to the ascending trend line on light trading would look like a great time to be a buyer

(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.)

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Interactive Corp.: Buy

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Source: MetaStock

The chart of Interactive Corp. (IACI - commentary - Cramer's Take) presents us with a very enticing picture. A long decline became a wide base, and now we have an impressive breakout. Look at the big volume and the wide trading ranges as it moved up through the level of resistance. The moving average convergence/divergence (MACD) and volume-adjusted moving averages have crossed to the plus side. The next thing, usually, would be a lighter-volume pullback before going higher. I am inclined to wait for such a pullback before going in.

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Ford: Short

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Source: MetaStock

The two-month run-up in Ford (F - commentary - Cramer's Take) looks as though it is coming to an end. The very heavy-volume day in mid-April looked like an upside blow-off. It was then tested on lighter volume, and the stock failed in the attempt to make a higher high. Note particularly the crossover in the MACD across the top of the chart. It looks as though it could be sold short around current levels.

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99-Cent Stores: Short

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Source: MetaStock

Here is a low-priced stock that looks as though it is about to become a lower-priced stock. 99 Cent Stores (NDN - commentary - Cramer's Take) spent about three months in a consolidation. Now that consolidation has been broken to the downside. Volume was heavy, and trading range expanded as it penetrated the support level. It is likely to rally a bit on lighter trading before going lower, so I would suggest waiting for such a rally, and then putting on a short position.

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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.

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