Anatomy of October's bull market offers insight

Have you seen “Eyes Wide Shut”? There’s a famous scene where the late, great Sidney Pollack and Tom Cruise hang out around Pollack’s pool table. I’ve read that scene took three weeks to shoot properly. They were discussed many things when Pollack’s character told Cruise’s Dr. Bill, “life goes on, until it doesn’t. But you know that.”

Life does go on. But this time a lot of people who are supposedly the smartest guys in the room made a big bet that it wouldn’t. Not in Europe. I suppose most of them never saw “Eyes Wide Shut.” Instead, they ended up with an early Halloween horror show. The Europeans? They’ve kicked the can down the road. It’s something I thought would happen, eventually. It’s amazing to me how many people were on the wrong side of this trade. I can’t remember the last time I saw something quite like this. Some of the best technicians in the world were interviewed the past couple of days for their take on what they’ve observed. What did they all say?

"Short covering."

They didn’t talk about moving averages, MACD or wave counts. They talked about the human element of the market. By the way, it’s something we’ve taken very seriously this year. Who was on the wrong side of the trade? I’m going to cut to the chase and lay this out for you as simply as possible. It’s the same thing we’ve discussed most of the summer. A black swan event materializes when participants are caught by surprise in an event that is NOT predictable. The sequel is never as good as the original. Nobody wanted another Lehman moment. In 2008 there was plenty of denial. Why? Because we just came off 5 years of a smoke and mirrors bull market but it’s not conceivable for the Dow to be at 6000 when it’s at 12000. But after it’s been at 6000 or 6470 (whatever the bottom was) IT’S VERY CONCEIVABLE. Right now, 14000 is less conceivable than 6000 (maybe a few days ago) even though we are much closer to one number as opposed to the other. That’s what needs to be thought about. So much of the October rally has been one short covering phase after another.

It does concern me. Even at this late date. Why? Because if we don’t start to see some legitimate buying, even as we are only 2Gs from that number, it could take years to get there even as we may never go to 6000 again. But much of what many were concerned about a week ago is off the table for THIS YEAR. Any baseball fans out there? There once was a little team called the Brooklyn Dodgers. They were good but not great. Every year it seemed they lost the World Series to the Yankees. The rallying cry was “Wait Til Next Year!”

That’s how it is when we kick the can. There will come another day, another crisis and another round of this negotiation. I’m sure we’ll revisit the PIIGS again next year. Now that the ink is barely even dry on this agreement they are already picking it apart. Those investors out there who are going to sell every time they do pick it apart are likely to go through this very same exercise again.

Here’s what I want you to watch for. It’s already started. If when they have days where they pick the Greek deal apart and the market goes up, we are climbing a wall of worry. Remember, bears don’t cover on bad news. Let me repeat that. Bears like BAD NEWS. Bears cover on good news. They get squeezed on good news. A lot of people got CRUSHED last week. Simply put, they didn’t understand what I’ve been teaching you for weeks and weeks. If markets don’t go down on bad news it means there’s no more bears. Elementary dear Watson but you have to remember that when it happens. The perma bear crowd with their robotic way of looking at the market told you the big wave down was right in front of us. I got an email from a guy the day before all of this took off informing me the Euro was about to commence a leg that would take it to a fresh low.

But I will tell you I need to see buying come in or we’ll stay in this range. We’ll know if real buying comes in if we get days where the market goes up on lousy news. We’ll know when we start to see moves on the indices where we get polarity flips as opposed to skyscrapers.

Here’s how markets work. Most of you already know this but it’s hard to stay objective about it real time in the heat of the moment. After a bear phase, short covering comes in. Those are buy orders. It’s a useful part of the market because it allows short term traders to participate and provide further liquidity. From there fund managers come when they feel like they can dip their toe back in the water. This is why you hear we are in a traders market right now. You have a lot of short covering obviously but also a lot of intraday and swing traders. This is a market that is in a transition. It’s really a positive thing if you think about where we are in the cycle.

But here’s the problem. From 1975 which was the real bottom of that bear market, fund managers didn’t really get involved until after Ronald Reagan was President. We had a sideways market for years. You’ve seen those tight trading ranges on the futures contract on intraday charts, right? They always seem close to breaking out but can’t seem to get it done. Right now this is playing out on a larger scale. Bears have covered and fund managers are at bat. They have a chance to drive the ball. But Texas was also one strike away.

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