Market Summary

We expected the markets to move lower this week after last Friday's action but the downward momentum was reversed on Wednesday as news of a pending 'solution' to the subprime mortgage problems surfaced. The markets reacted warmly to the proposal on Thursday but two days of strong gains were halted on Friday as job growth exceeded analysts' expectations and lowered the chances of a 0.5% rate cut at next Tuesday's FOMC meeting.

The expectation of a 0.5% rate cut has fueled the recent rally that began on November 27 and since then the market has been under accumulation with just three days of profit taking on lighter volume. Our equivolume charts (published daily) give a snapshot of market conditions and illustrate the strength of the recovery.

Despite this progress, our market signal for the S&P 500 remains at 'exit' and we examine the reasons for that in this weeks top tip. We have considered overriding the signal but resist doing so for two reasons:

1. The recent growth is based on an expectation that the FOMC will cut rates by 0.5%. A cut of only 0.25% (or less!) would be a disappointment and result in a sell-off.
2. The measures announced on Thursday to contain the subprime mortgage crisis will do little to assist stressed homeowners, mortgage backed securities investors or homebuilders. When this is realized, the markets will resume their decline.

Unfortunately, we also fear that any attempt to apply logic to the current situation is pointless as the markets are rigged . We have thought and said for weeks now that the administration is determined to keep the markets buoyant whatever the costs to inflation and dollar strength. We therefore think that the Fed will cut rates by at least 0.5% on Tuesday and that once it is realized that the current subprime plan will not adequately protect the financial sector from further steep losses another plan will be hatched and promoted.

The number of breakouts doubled this week to fifteen for an average gain by week's end of 2.96%, comfortanly beating the market averages. Of the fifteen, only two closed the week with a modest loss.

No new features this week.

Why the Market Model Still Says 'Exit'

Our market model signaled an exit for the S&P 500 (representing the broader market) on November 1. From its close of 1508.44 on that date it subsequently lost 6.8% but has now recovered those losses since a rally began on November 27. Despite those gains in just seven sessions, our market model still stays at 'exit'.

The model requires an accumulation day on which the market closes at least 1.5% above the low on the fourth or subsequent day of the rally AND that the close be above the 200 day moving average by 0.05%.

A look at our equivolume chart shows that the first accumulation day came on the fourth day of the rally but the close was below the 200 dma. The next accumulation day came on the seventh day of the rally. The index did close above the 200 dma, but by less than 0.05%, so the signal stayed at exit.

If the S&P 500 closes higher and we get an accumulation day following the FOMC meeting on Tuesday, then the signal will revert to 'enter'.

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