Magazine

Looking for the Bottom of the Slippery Tech Slope


After two of the worst weeks in stock market history, the major market indexes turned north on Mar. 22 and kept climbing before turning down again on Mar. 28. Before the renewed sell-off, you could almost hear the sigh of relief on Wall Street. But the question still remains: How can investors tell whether a rebound is for real?

At critical turning points, many investors turn to technical analysts, those Wall Streeters who divine the market's moves by studying such arcane things as "head-and-shoulders" patterns in stock prices or advancing versus declining issues and the amount of trading volume. In concentrating purely on this stock market data, the technical analysts get a read on changes in investors' collective mood. Unlike fundamental analysts, they don't bother with interest rates, the state of the economy, or earnings forecasts. All of that, say the technicians, is already incorporated into the market activity that they track.

So what are these analysts' charts telling them? The worst of the sell-off may be behind us, but don't expect stocks to climb back nearly as swiftly as they fell. "We are likely to bump along the bottom for a while before any major advance gets started," says Richard McCabe, Merrill Lynch & Co.'s chief technical analyst. "It will take time for investors to get their confidence back."

What to look for in a bottom? For starters, they are rarely V-shaped. Instead, stock prices recover a bit from their slide, then fall again as investors who didn't sell at the bottom jump at the chance to get out at a higher price. This process can go on for months. Technical analysts call it base-building, because on a stock price chart, it looks like a floor. The reason: In the repeated ups and downs, the bears get opportunities to cash out. When the sellers are gone, the stage is set for a recovery.

That's why it's tough to call a bottom the day it happens. So technicians look for further price and volume activity to reinforce that call. Bernadette Murphy, technical analyst at Kimelman & Baird, says she is waiting to see if the market remains above recent lows on the next decline. If the Dow Jones industrial average remains above 9106, its Mar. 22 intraday low, she would take that as a positive sign.

For an idea of what base-building might look like, technicians point to the SOX--the widely watched Philadelphia Stock Exchange's Semiconductor Index. The SOX hit a low of 535 in December. It has gone up and down in the months since--reaching a high of 732 in January--but it has not slipped below the December low. This is modestly bullish for tech stocks, since technicians view the SOX as a leading indicator for the Nasdaq Composite Index.

CALL TO ARMS. Another hopeful sign is the Arms Index, created in the 1960s by Richard W. Arms Jr., a technical analyst in Albuquerque. It is the ratio of the trading volume of stocks that rise in price to the volume of issues that decline. During the week of Mar. 19, the Arms Index for New York Stock Exchange stocks rose above 1.5, only the seventh time it has done so in the past 32 years. The six other times the Arms Index jumped above 1.5 were just before market bottoms, including those in 1974, 1982, and 1987. An Arms Index above 1.5 signifies extremely heavy selling volume and a sign that many investors are throwing in the towel.

Once a recovery gets under way, however, it could be a long way back to the top. Jeffrey deGraaf, chief technical analyst for Lehman Brothers Inc., says that when market declines are severe, stock prices usually take twice as long to recover as they did to go down. The last time that the Nasdaq Composite had a 50%-plus decline--during a 21-month period in 1973-74--it took until 1978 for the Nasdaq to return to its previous high. After the October, 1987, crash, the Dow took two years to climb back to its August, 1987, peak. Given the year-long slump in the Nasdaq Composite, deGraaf figures it could take at least twice that time for Nasdaq to break 5000 again.

To be sure, technical analysis is hardly foolproof. But fundamental analysts, who use earnings and interest rates to call the market, have not covered themselves with glory either. The technicians just might have the answer to the burning question: Is the bear market over yet? By Susan Scherreik in New York


American Apparel's Future
LIMITED-TIME OFFER SUBSCRIBE NOW

(enter your email)
(enter up to 5 email addresses, separated by commas)

Max 250 characters

 
blog comments powered by Disqus