Despite the pain and grief everywhere you look these days at Hedgehog we are just continuing to plod on in our low key way, grinding out a profit most days.  We did nothing today as it was just too volatile.  But we have a decent month underway.  We are making new equity highs on the year so there is nothing to worry about here.  (Hopefully that wont jinx the month!)

If you missed the news this evening, no doubt you’ll catch the newspapers over the weekend.  “Biggest fall in the FTSE for 21 years”, blah blah blah.  The S&P did go as low as 839 today – almost exactly a 50% fall from its high last summer.

So here we are going out on a limb expecting shares to rally next week!  Well thats just what our model says so whatever we feel emotionally, we have to give it the benefit of the doubt.  Yes the market was down hard today, but we were getting buy signals on the shorter term timeframes towards the end of the day.

These signals (which obviously are not 100% accurate but are about as good as it gets) have to be placed into context.  In this case the buy signals would be no more than signals to exit any short positions, but certainly not to initiate new long positions.  The reason is simple:  the larger timeframes (daily, weekly, monthly) are all making new momentum lows.  Therefore the odds overwhelmingly favour new lows to come.  Those new lows may be many days, weeks or even months in the future but they will almost certainly be seen.

So short term we expect to see a bounce, probably over the next few days, but ultimately the downtrend will reassert itself – hence the logical interpretation of exiting shorts but not initiating longs.  Rightly or wrongly on this occasion that is what the model says and in the long term we take money out of the market by playing the high probabilities.

One important thing to remember is that bear market rallies can be very dramatic, but that does not negate the downtrend nor the downside momentum.  In other words this volatility is not going to disappear anytime soon!

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Copyright © Simon Townshend 2009, all rights reserved.

Follow Up: After this email was sent out to members the next 2 days delivered an astonishing 16.1% rally in the S&P 500.  A month later however new lows were being made again, exactly as the model suggested.