In last week's update, I discussed the fact the recent oversold condition of the market, combined with a massive short interest position, provided the ingredients necessary for a strong reflexive rally from the recent lows. To wit:
“While last week's FOMC minutes gave the “bulls” some confidence that the Federal Reserve is not removing its accommodative policy, it was the massive amount of short-interest (people betting on markets to fall) that provided the fuel.
The massive jump in short interest has to be covered as stock prices rise. When players are ‘short the market,' bullish reversals in prices force traders to close out their positions by ‘buying' into the market. This fuels additional buying, which pushes prices higher, which forces more players to close out their short positions. This cycle continues until the “fuel” is exhausted. This is why market rebounds tend to be extremely sharp and fast, but also fade just as quickly.”
The markets now face a very tough position. The recent spike in prices, as shown below, has now taken the markets back to extremely overbought conditions as it approaches a cluster of price resistance around the 2040 level.
Click on image to enlarge
Importantly, as I discussed last week, the current technical backdrop of the market is far different than that of 2011 which is the current “bullish” forecast.
“In 2011, asset prices plunged on fears of a ‘debt default' coupled with the lack of liquidity following the end of QE 2. However, price momentum and the relative strength of the underlying market internals remained bullishly biased.”
Click on image to enlarge
“Currently, the technical deterioration is more aligned with the previous bear market cycle as ‘sell signals' have been registered for only the third time since the turn of the century. With only one ‘sell signal' not registered, the moving average crossover, there is a minor ‘hope' for the bulls at this juncture. However, given the steepness of the descent it is likely that signal will be registered in the weeks ahead if the ‘bulls' are unable to gain solid footing and push markets to new highs fairly quickly.”
