SEC puts in new ‘circuit breaker’ rules

June 10, 2010

SEC puts into place new ‘circuit breaker’ rules to prevent repeat of May 6 stock market plunge

Marcy Gordon, AP Business Writer, On Thursday June 10, 2010, 5:44 pm EDT

WASHINGTON (AP) — Federal regulators on Thursday put in place new rules aimed at preventing a repeat of last month’s harrowing “flash crash” in the stock market.

Members of the Securities and Exchange Commission approved the rules, which call for U.S. stock exchanges to briefly halt trading of some stocks that make big swings.

The major exchanges will start putting the trading breaks into effect as early as Friday for six months. The New York Stock Exchange will begin Friday’s trading session with five stocks: EOG Resources Inc., Genuine Parts Co., Harley Davidson Inc., Ryder System Inc. and Zimmer Holdings Inc. The exchange will gradually add other stocks early next week, expecting to reach by Wednesday the full number that will be covered.

The Nasdaq stock market plans to have the new program fully in place on Monday.

The plan for the “circuit breakers” was worked out by the SEC and the major exchanges following the May 6 market plunge, which saw the Dow Jones industrials lose nearly 1,000 points in less than a half-hour.

Under the new rules, trading of any Standard & Poor’s 500 stock that rises or falls 10 percent or more in a five-minute period will be halted for five minutes. The “circuit breakers” would be applied if the price swing occurs between 9:45 a.m. and 3:35 p.m. Eastern time. That’s almost the entire trading day. But it leaves out the final 25 minutes before the close — a period that often sees raging price swings, especially in recent weeks as the kind of volatility that marked the 2008 financial crisis returned.

The idea is for the trading pause to draw attention to an affected stock, establish a reasonable market price and resume trading “in a fair and orderly fashion,” the SEC said.

On May 6, about 30 stocks listed in the S&P 500 index fell at least 10 percent within five minutes. The drop briefly wiped out $1 trillion in market value as some stocks traded as low as a penny.

The disruption “illustrated a sudden, but temporary, breakdown in the market’s price-setting function when a number of stocks and (exchange-traded funds) were executed at clearly irrational prices,” SEC Chairman Mary Schapiro said in a statement. “By establishing a set of circuit breakers that uniformly pauses trading in a given security across all venues, these new rules will ensure that all markets pause simultaneously and provide time for buyers and sellers to trade at rational prices.”

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Breakout or Fakeout?

June 16, 2009

The S&P 500 celebrated its great technical accomplishment highlighted in our last note by doing exactly nothing. Maintaining a tight 32 point range from top to bottom, the S&P 500 netted just over 3 points from our previous note to the closing price last Friday, June 12. This week has changed the tune, giving up more than 34 points in just two days. Surrendering initial support in the 925-930 area designated by the May highs, the SPX is once again bearing down on the 200 day moving average, this time from above.  Additional support of the 50 day moving average is also moving into the area, just 15.5 points below the 200 day as of today, and rising.  The lows from May, which are also the highs from April and February, mark another major support level in the 875-880 range.

spx06.16.09 intraday

Both the MACD and the daily 13/34 exponential moving average indicator have signaled a negative divergence by not confirming the new highs in the price of the average.  With the January highs holding as resistance, the head and shoulders bottom we discussed in Still overbought, but over first resistance also is still in play.  As we noted, “…finishing the inverse head and shoulders bottom should happen somewhere around the end of June time wise to produce a symmetrical pattern. At this point, it looks like the January highs need to hold as resistance to keep the inverse head and shoulders pattern in play. This is also the approximate level of the 200 day moving average currently and the 200 day stopped the SPX multiple times from 2001-2002, plus twice early in 2003. The first test early in 2003 led to the formation of the right shoulder in the bottoming pattern and the second test required a test of the 50 day moving average as support before breaking out and leaving the 200 day well behind.”  With the 50 and 200 day moving averages relatively close together this time, plus the support of the recent lows/previous highs around 875-880, this market has plenty of candidates for a right shoulder not far from current prices.  A convincing move back below 875 would signal a deeper correction with targets as low as 741 still completely valid.

spx06.16.09

Which brings us to the market leading NASDAQ Composite.  Since our last note highlighting the breakout by the COMP, a brief rally has fizzled out with the last two trading days completely erasing the gains and setting up a quick test of the breakout point as support.  The rally stopped short of filling the gap opened on the way down in early October 2008, but did manage to bring the 50 and 200 day moving averages into a bullish golden cross.  Plenty of support exists for this market, but it doesn’t come into play until 60-120 points below the breakout point at 1785 if the breakout fails to hold.  Targets as low as 1500 do not invalidate the uptrend if the SPX makes a run toward the 2002 lows or even 741.  The MACD is also showing a negative divergence here by not confirming the new high in price and the ROC shows a failure to build momentum on the breakout.

comp06.16.09

We are again returning to our short positions, including SH, after precautionary stop outs proved unnecessary and untimely.  Our position in SH specifically was re-entered exactly at the stop out price (see Security Growth for details).


Still overbought, but over first resistance also

May 5, 2009

Another update finds the market shaking off initial profit taking to challenge the highs for the year. Monday’s big push finally left the late January, early February highs behind for the S&P 500 (SPX) after about two weeks of backing and filling to make room for the exit of early profit takers. Volume for this stage of the rally has not been impressive, declining since the large profit taking day in the third week of April. What is impressive, is new buyers have stepped up to continue to push prices higher. Fear of “missing the bottom” is setting in and chasing the rally at this point remains dangerous.

spx050509

The NASDAQ has been leading the charge, already surpassing the highs for the year to challenge the early November 2008 highs and the 200 day simple moving average. Up more than 39% in less than two months is a remarkable move and building on that through the seasonally weak summer session is going to be difficult. Up days are beating down days by more than 2 to 1 since the bottom, but the pace of gains is decelerating. Volume has remained relatively solid and this change in market leadership posture is notable. Investors have clearly decided to favor more aggressive stocks in this recovery, with the small and mid caps also showing relative strength.

comp050509

It’s time to break out a chart we were saving for later, as the comparison may be valid already. This is a chart of the bottom formed in the SPX during 2002-2003, after the tech bust. While the bottom itself formed an inverse head and shoulders pattern (which we expect this time also), the recovery from the right shoulder is what really interests us here. Since the drop was not as violent and much more time was worked off with the head and shoulders bottom, the moving averages were not as far above the low prices and were overtaken sooner as a result. But look at the trend that steadily moved up from March to June, before flattening out for the summer, then racing higher again into 2004. It was less than a 30% gain for the first leg up in 2003 from the March low; it’s already 36% for the SPX from the bottom in March this year. While the low was much lower this time, the highs and resistance levels from both years are almost identical. In 2003, the SPX overtook the early January highs around 930 in early May. After a quick, steep drop below 920 to test the breakout, it was off to the races for another straight month, rising over 10% before the June highs. Then it was one test of the inverse head and shoulders neckline in early August at 960 before moving over 1150 by early 2004. This year, the early January highs are in the area of 944 and the SPX is again challenging them in early May. A breakout here followed by a retest of the 920 level could again produce a similar result. The only problem is finishing the inverse head and shoulders bottom, which should happen somewhere around the end of June time wise to produce a symmetrical pattern. At this point, it looks like the January highs need to hold as resistance to keep the inverse head and shoulders pattern in play. This is also the approximate level of the 200 day moving average currently and the 200 day stopped the SPX multiple times from 2001-2002, plus twice early in 2003. The first test early in 2003 led to the formation of the right shoulder in the bottoming pattern and the second test required a test of the 50 day moving average as support before breaking out and leaving the 200 day well behind. Either of those would be a welcomed event for this market to burn off some overbought conditions and excess euphoria. With the VIX at the lowest levels in seven months, purchasing some protection via puts is probably a good idea. We continue to hold and look to add to our position in the ProShares Short S&P 500 ETF (SH) which is about 5% under water now from our first entry. Select longs continue to beat the market averages by a wide margin.

spx20022003bottom


Overbought and moving into resistance

April 14, 2009

An update on the SPX chart today to show the market finding resistance near previous highs. We are adding a new indicator to the top of the chart, the MACD. The negative divergence in the MACD histogram reinforces the strength of this resistance as the market advance begins to stall. Finally, we have a short term reversal pattern showing in the candlesticks as an Evening Doji Star has formed over the last 3 trading days. Taken together, it looks as if profit taking may have already started.

spx041409

The NASDAQ chart shows similar resistance being met at the Jan highs with negative divergences in the MACD histogram and the Rate of Change indicator which is approaching the zero line.  Both of these confirm the loss of momentum as the market approaches resistance.

comp041409

Exactly the opposite looks to be developing in the ProShares Short S&P 500 Fund ETF (SH) as positive divergences are present with the price firming near support.  Hedging long exposure here and/or taking profits looks like a good idea.  It’s still a bear market rally at this point.

sh041409


Phases of fear and elation in the VIX

March 18, 2009

Here we show a nice relationship between the VIX and the SPX.  While this is a commonly referenced pairing, many still challenge the value of using the VIX as a market indicator.  There are numerous ways too use the VIX and almost everyone has their own tweaks.  This chart shows a very clear inverse relationship with several distinct “phases” discernible in the value of the VIX.  These “phases” correlate well with the action in the SPX.  We have labled these phases “euphoria”, “fear” and “panic”.  We also included the 400 day moving average (equivalent to the 80 week) which we discussed previously in The Significance of the 400 day (80 week) moving average.  This bull/bear market reference point matches up very well with the action in the VIX, as the VIX moves into the “fear phase” just as the 400 day is coming under assault, before eventually breaking.  A final test of the 400 day from below, which we highlighted in late April 2008, was accompanied by one last dip into the “euphoria” zone for the VIX.  That was the “last chance” to get out before the drop gathered steam as the SPX then dropped over 50% in less than 12 months.

We added the notes on Bear Stearns and Citigroup for a consensus of the “expert” opinion at the time.

vixspx031809


ETFs: A Better Bet in a Bear Market

February 26, 2009

Amid the financial crisis, tax advantages are but one benefit of exchange-traded funds. Their transparency, liquidity, and lower fees also appeal to investors

By David Bogoslaw
BusinessWeek.com

Imagine having invested in the DWS Commodity Securities A Fund (SKNRX) in 2008. The mutual fund had an annual return of -45.9% and also distributed nearly two-thirds of its net asset value as capital gains, incurring a substantial tax bill for investors on top of the losses they suffered. Unfortunately, this wasn’t the only mutual fund to do so: More than three dozen funds with negative returns of at least 21% paid out over 30% of their net asset value as capital gains last year, according to Morningstar (MORN). Ouch and double ouch.

Making capital gains even higher than usual was the fact that most traditional mutual funds were forced to sell legacy holdings that had dramatically appreciated in value since being purchased in order to fund redemptions as nervous investors fled the market.

That may have prompted more people to switch to the mutual funds’ chief rival for the affections of diversification-minded retail investors, exchange-traded funds. Unlike mutual funds, ETFs incur zero capital gains until an investor actually sells his shares. While turnover in an ETF’s holdings can be high, it is done through in-kind exchanges of one security for another rather than through selling and buying.

But since the deepening of the financial crisis last September, the tax advantages of ETFs are just the icing on the cake.
Transparency, Liquidity, Lower Fees

The primary reason ETFs are more popular than ever is they give financial advisers the ability to better control their clients’ investment portfolios. First, there’s the transparency of knowing exactly what’s in an ETF on any given day, which matches advisers’ need for real-time management of investments in order to minimize wealth destruction. In this regard, ETFs have a clear advantage over mutual funds, which are required to disclose their holdings only four times a year. Of course, there are plenty of traditional index funds that are just as transparent as ETFs by virtue of the ability to see the contents of the underlying index on any chosen day, says Russ Kinnel, director of fund research at Morningstar.

ETFs’ inherent liquidity is also more valuable than ever in view of the continuing high volatility in stock and bond markets. Then there are the lower fees typically charged by ETF sponsors, which make a big difference in the current environment, where returns are mostly underwater.

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Govt trading ban could have unintended results

September 19, 2008

Friday September 19, 5:07 pm ET
By Marcy Gordon and Stevenson Jacobs, AP Business Writers

Big SEC step to ban short-selling of financial stocks could have unintended consequences

WASHINGTON (AP) — The government’s unprecedented move Friday to ban people from betting against financial stocks might be a salve for the market’s turmoil but could also carry serious unintended consequences.

In a bid to shore up investor confidence in the face of the spiraling market crisis, the Securities and Exchange Commission temporarily banned all short-selling in the shares of 799 financial companies. Short selling is a time-honored method for profiting when a stock drops.

The ban took effect immediately Friday and extends through Oct. 2. The SEC said it might extend the ban — so that it would last for as many as 30 calendar days in total — if it deems that necessary.

That window could be enough time to calm the roiling financial markets, with the Bush administration’s massive new programs to buy up Wall Street’s toxic debt possibly starting to have a salutary effect by then.

The short-selling ban is “kind of a time-out,” said John Coffee, a professor of securities law at Columbia University. “In a time of crisis, the dangers of doing too little are far greater than the dangers of doing too much.”

But on Wall Street, professional short-sellers said they were being unfairly targeted by the SEC’s prohibition. And some analysts warned of possible negative consequences, maintaining that banning short-selling could actually distort — not stabilize — edgy markets.

Indeed, hours after the new ban was announced, some of its details appeared to be a work in progress. The SEC said its staff was recommending exemptions from the ban for trades market professionals make to hedge their investments in stock options or futures.

“I don’t think it’s going to accomplish what they’re after,” said Jeff Tjornehoj, senior analyst at fund research firm Lipper Inc. Without short sellers, he said, investors will have a harder time gauging the true value of a stock.

“Most people want to be in a stock for the long run and want to see prices go up. Short sellers are useful for throwing water in their face and saying, `Oh yeah? Think about this,'” Tjornehoj said. As a result, restricting the practice could inflate the value of some stocks, opening the door for a big downward correction later.

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