Rev Shark:
Rear View: What Drove Yesterday's Action
1/4/05 8:20 AM ET
"He that struggles with us strengthens our nerves, and sharpens our skill. Our antagonist is our helper."
-- Edmund Burke
Investors, who had been confident and optimistic for several months, started off the new year with a bout of nervousness. The persistent and, some would say, unrealistic optimism gave way yesterday to doubt and uncertainty as a euphoric open fizzled and aggressive profit-taking set in for the reminder of the day. It was the worst technical action the market has experienced in quite some time with poor breadth and heavy volume.
Is this it? Is this the beginning of the end of the powerful rally we have been riding since August? Any reasonable person who looks at a chart of the stock market action since the bottom in August would have to conclude that we will eventually see a pretty good pullback or at least a rest of some magnitude.
The question isn't whether we will have a pullback, it is a question of when, and to what degree. Investors who have had a good run for months now are inclined to give into their nerves and become cautious quickly. We had a taste of that yesterday as profit-taking persisted throughout the day with very little bounce once it started.
The market requires a very careful balancing act at this point. There are plenty of good reasons to be cautious and to expect a correction to kick in but the conditions that have created this surging market in the first place have not dissipated. In particular the likelihood of continued cash inflows is one good reason not to become too negative about the market too quickly. That is a powerful driver and we have to be careful not to overlook it as we struggle with our nerves.
The question many are pondering is whether the selling yesterday was just a reversal of window dressing, and sellers who have delayed profit-taking for tax reasons. Maybe, but there is no way to be certain. We have to take it for what it was, which was poor technical action that should make us a bit more cautious. The burden of proof has shifted slightly to the bulls and they have to convince us that things are indeed OK.
I believe there is a good chance that positive seasonal factors at the beginning of the new year will help the market, so I'm not inclined to be overtly bearish, but a little caution is certainly prudent. Market participants tend to err on the side of being too early and I don't want to fall into that trap at the first sign of a little weakness.
Early market action is slightly positive. The Nikkei hit a six-month high overnight and European stocks are holding up as oil continues to skid and the dollar shows some strength. Walmart (WMT:NYSE) announced that holiday sales weren't that bad after all but Amazon (AMZN:Nasdaq) has a downgrade.
We'll see if the bulls can shake off yesterday's poor action. I wouldn't be to quick to count them out.
Gary B. Smith:
