The Indices Dare to Cross the Line

SAN FRANCISCO -- A critical juncture. The point of no (or lower) returns. The proverbial line in the sand. Whatever you call it, we're there or darn close to it.

Tuesday's losses weren't devastating on either a point or percentage basis -- the Dow fell 1.8% to 10,241.12, the S&P 500 lost 1.6% to 1171.65, the Nasdaq Composite shed 1.5% to 1959.24 and the Nasdaq 100 lost 1.5% to 1604.86. But major averages breached or at least approached levels deemed critical by many technical analysts. (Much of this will be familiar to followers of RealMoney.com's Columnist Conversation, where we've been discussing the significance of recent activity.)

Of particular interest are the intraday lows hit July 11, which are significant to chart readers because they represent the lowest levels for many averages since mid-April. That is, they mark one of the market's last lines of defense before the late March/early April lows. For those who believe in the significance of technical analysis, such levels can dictate buy and sell decisions.

The S&P traded as low as 1165.54 Tuesday vs. its July 11 low of 1168.46. The Comp traded as low as 1938.28 vs. its July 11 low of 1935. The NDX traded as low as 1580.57, breaching its July 11 low of 1600.19. Similarly, the New York Stock Exchange Composite traded as low as 596.05 Tuesday (it closed down 1.7% at 598.12) vs. its July 11 low of 598.52.

As with the other averages, the Dow is within close-enough proximity to its July 11 low to suggest a test is occurring, according to Jonathan Dodd, technical strategist at J.P. Morgan. The index traded as low as 10,203.69 vs. its July 11 low of 10,120.88.

If these levels are clearly broken, more downside is likely, perhaps to the averages' late March/early April lows, Dodd said. "We think that's a good possibility for the Comp because of its tech weighting," he forecast, although not necessarily for the other proxies.

Because these levels have been closely watched by many market players, the open question is how participants will react, now that averages are right at or below them. Many observers had suggested the market's ability to stay above certain levels, despite the recent avalanche of bad news, was a sign the baby bull is intact. Will those folks now throw in the proverbial towel after Tuesday's technical breakdown?

Said towel-throwing is unlikely to already have occurred, if only because trading volume remains relatively modest -- with 1.2 billion shares traded on the NYSE Tuesday and 1.6 billion in over-the-counter activity. Also, fear gauges such as the CBOE equity put/call ratio have risen -- to 0.75 from 0.52 Monday -- but not to levels hit in the week of July 11, much less historic highs. Also, bonds likely would have fared better if there were panic in the equities market. Hurt by the dollar's weakness, the price of the benchmark 10-year Treasury dipped 3/32 to 97 25/32, its yield rising to 5.11%.

"I think people have been fighting this the whole way down and I think they'll continue to do so," John Roque, senior analyst at Arnhold & S. Bleichroeder and RealMoney.com contributor, said last night when asked about the crescendo/capitulation possibility.

The Dow's 200-day moving average has been in a downward slope since February and accelerating down recently, Roque noted in a report Tuesday. Historically, that "trumps everything," including Fed rate cuts, he observed, forecasting a likely retest of 9500 by the index. "The trend is still lower."

But as we've seen many times in the past 18 months, a lower trend does not necessarily preclude sharp rallies.

If major averages start to firm up over the next several days, that would indicate the market is "trying to make a stand" from at (or near) the July lows, J.P. Morgan's Dodd said. But he seemed skeptical, noting "rallies to this point haven't generated good upside momentum."

Scott Bleier, chief strategist at Prime Charter, was more hopeful about the possibility of a near-term bounce.

"The last few days have been so vicious but I think we'll bounce from the marginal new lows" in the coming days, Bleier said. "Everybody looks at the same charts and thinks 'we've got to get short here,' and that's when we bounce and move up toward the middle end of the [trading] range."

He pegged the Comp's range at between 1950 and 2500, and the Dow between 10,120 and 10,800.

For near-term trades only, he recommended buying AOL-Time Warner (AOL), General Motors (GM), Applied Materials (AMAT), Starbucks (SBUX), Bed Bath & Beyond (BBBY) and Calpine (CPN). Prime Charter does not do investment banking.

It's difficult to catch the turn, he conceded, but bear market rallies are most likely to occur when everyone is saying there's no reason for the market to go up.

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