Up, Down or Base Forming?

With the high frequency trading games being played over the past couple of weeks, it is becoming more difficult to form an opinion on the future direction of the market.

You could fairly surmise that if the bulls don’t crap out in the next couple of days, that stocks are now in the process of forming a base. Unfortunately, the basing process involves a continuation of the volatility that usually occurs at bottoms followed by a period of backing and filling. As long as the downtrend does not resume on a closing basis, the bulls will argue that a nearly 15% intraday correction is probably sufficient and that higher prices are looming.

However, there is an old adage that states “the bigger the base, the bigger the move.” Although this market turns on a dime these days, we need to understand that it may take a while for the bulls to get their act together. Let’s remember that the causes of the decline haven’t gone away to any great degree and that the market will likely continue to be driven by the news flow.

The biggest argument we have for the market having entered a basing phase is that stocks roared ahead on Thursday, breaking through some important short-term resistance in the process. The move was set up by the oversold condition and the extremely negative sentiment that had taken over the market.

The bulls’ move higher on Thursday certainly was welcome but given the fact that we are faced with a long holiday weekend [US Memorial Day] and that today is the last trading day of May, it is probably a safe bet that the upside surprise may also have been related to short covering, window-dressing, and the computer-driven trading that has made life miserable at times over the past month. As usual it will be interesting to follow how the markets play out.