In early April, I expressed the view that the rally in the U.S. Dollar Index was coming mainly from weaker European currencies which meant that the dollar rally wasn't as widespread as it appeared. To support that view, I showed three foreign currencies that were rallying strongly against the greenback that included the Australian and Canadian Dollars along with the Brazilian Real. It didn't hurt that those three currencies were tied to commodity-producing countries and showed that global traders were still willing to assume some risk. That situation has changed. The next three charts show all three currencies plunging below their 200-day moving averages. The hardest hit by far is the Aussie Dollar. Chart 3 shows that high-yielding currency plunging to the lowest level in nine months. Money leaving high-yielding currencies usually flows into lower-yielding ones like the Japanese yen in a flight to safety.

The tremendous market volatility is stressing many traders. My approach to tense situations is to push back a bit, look at the big picture, and then return to shorter-term charts for making tactical decisions. I am a huge fan of the New High ? New Low Index and invite you to take a look at its signals with me. Let us review the weekly chart of the previous bull market and apply those signals to current events.

(Ed. Note: The NH-NL Index will be available on StockCharts.com very soon. Watch for an announcement on our homepage.)

A bull market typically has three stages, clearly marked on this chart. If this is the model, then I believe that today we are between Stages 1 and 2, in a normal corrective zone. If this is right, how will the weekly NH-NL mark the bottom? If it follows the model of the previous bull market, it will signal a buying opportunity when it declines towards the minus 2,000 level. And where is it now?

The weekly NH-NL stood at plus 604 on Friday, 5/14. I wrote at that time that we were moving in the direction of a bottom ? but not there yet. This week?s decline pushed the weekly NH-NL down to minus 516. It is now closer to an important low, but more bottoming work needs to be done. There is certainly no rush to jump in and buy. We expect menacing price action to continue and the feeling of mass pessimism to darken in the weeks ahead. Paradoxically, this will create a terrific long-term buying opportunity.

A combination of technical analysis, experience, and discipline provides the tools for understanding the markets and succeeding in them. We share our research, including the analysis of NH-NL at www.spiketrade.com ? and we cordially invite the members of StockCharts.com to visit us.

- Alexander Elder

The S&P 500 decline over the past several weeks has reached a critical junction point in the decline at the 380-day exponential moving average support level. There are several forward scenarios that can occur:

1) Prices are sufficiently oversold on a short-term basis to where the S&P can manage to move to new highs above the 1217 level. This would represent a rally of +12% or thereabouts. The question would then become whether significant and material negative divergences developed in the advance/decline and new highs/new lows indicators that would suggest a major top in the making. This period would likely be akin to that of the August to October 2007 rally that led to the end of the cyclical bull market.

2) Prices are sufficiently oversold on a short-term basis to where the S&P can only manage a countertrend rally towards the 1130-to-1180 zone, and then fall back and breakdown below the 380-day exponential moving average in an end to the cyclical bull market from the March-2009 low. This countertrend rally would be had with very poor underlying advance/decline figures and slack volume patterns.

3) Lastly, the current decline that has nascently broken through the 380-day exponential moving average - continues its extension lower without an relief or respite rally whatsoever. This would along the lines of a "mini-crash" or perhaps something even more dour. This would be the "tail risk" event that very few are expecting.

Having said this, the odds obviously favor one of the first two scenarios, with the first scenario in all probability being the "most likely" at this juncture. We have a difficult time postulating this course, but the technical evidence at the recent highs were coexistent with simply an interim high rather than a high formed by major negative divergences or non-confirmations. Lowry's rightly notes that all major bull market highs have had certain conditions attached to them; of which they were not present at the recent S&P high at 1217. They say we live in historically interesting times; and this case is no different. But is this time really different to warrant a different outcome than the probabilities suggest?

Good luck and good trading,
Richard

With the market in a dizzying decline, some of our subscribers are wondering why our market posture is only neutral. Where's the sell signal? The short answer is that the Thrust/Trend Model (T/TM) can only give a intermediate-term neutral signal if the long-term signal is still on a buy (the 50-EMA is above the 200-EMA).

This decision is based upon the conservative assumption that bull market declines will be short-lived, and that a neutral signal eliminates market exposure during a correction, while at the same time addressing the lower probability outcome of a full bear market decline. In other words, we never know if a bull market correction will actually be the beginning of a new bear market, but we do know that most of the time it won't be, so we bet with the odds and go neutral.

The point is that we wait until LT conditions are negative, THEN we wait for intermediate-term rules to generate a sell signal within the negative long-term environment. Our foremost objective is to avoid losing money during declines. Short selling losses can have a double negative effect regarding our performance versus the market, so we try to limit it to only those times where the odds favor success.

This doesn't prevent individuals developing techniques that allow them to be more aggressive, but the parameters of the T/TM are intended to function within an intermediate time frame, with the hope of filtering out shorter-term swings.

Bottom Line: There is no need to expect a signal change for at least a couple of weeks. We think that the most likely next signal will be a new buy signal, resulting from a rally that ends the correction; however, the market needs to stop going down before it can go up.

Global stock markets have been quite volatile of late and significant gap ups and gap downs are becoming the norm. While trading gaps may seem impossible at times, there is good news technically from the market selloff that resulted from the debt crisis in Europe. In recent articles, I've spoken about long-term negative divergences, overbought conditions and extreme complacency and how that would likely lead to short-term market weakness. That weakness first appeared in the influential financials sector one day before the news of the alleged Goldman Sachs (GS) fraud by the SEC. Shortly thereafter, our two leading major indices - the NASDAQ and Russell 2000 - both printed bearish reversing candles to confirm the uptrend off the early February lows had ended. Even if you weren't inclined to believe that the trend was over, at a minimum, it was important to note the elevated risks.

The ensuing selloff has relieved the overbought oscillators and negative divergences. In addition, the extreme relative complacency that certainly contributed to the selling was relieved. After the panicked selling of May 6th and 7th, our equity only put call ratio (EOPCR) printed an extreme PESSIMISM reading that was the highest since November 21, 2008, marking a short-term bottom (see chart below). I've discussed in many articles in the past how the elevated EOPCR can be used on a relative basis to gauge investors' complacency and pessimism. When that ratio reaches extremes, it doesn't necessarily mean the market has topped or bottomed (although in many instances it will coincide with tops and bottoms). Instead, what traders should take from it is that risks are elevated and, at a minimum, hedges should be in place. Acknowledging increased or reduced inherent risks in the stock market is as important as finding quality trades. Risk averse traders/investors could simply move to cash when relative complacency hits high levels. Such a strategy would have avoided the latest carnage. Check out this year-to-date chart of the EOPCR and how the S&P 500 was impacted by swinging sentiment:

Personally, I consider the -20% level (red line) to be "extreme pessimism", at which point I begin looking for other confirming signs of a potential bottom. These confirming signs could be reversing candlesticks, long-term positive divergences, oversold oscillators, an exhaustive gap, etc. On the flip side, the +20% threshold signals that a near-term top could be approaching and hedging strategies (or increased cash levels) should be considered. As you can see from the chart, the relative complacency signaled that long positions carried higher risks starting in mid-March. By mid-April, the relative complacency had grown to over 35%, a record since the CBOE began providing the EOPCR data in 2003. One week later, the major indices began suffering huge losses on very heavy volume. I didn't know when exactly the selling would occur, but I could see it coming. Here was an excerpt from our daily Market Chatter on April 15th, essentially at the market top:

"The bulls continue to overcome everything in their path - at least for now. Historically, April 13th and 14th represent two of the worst trading days of the month. The bulls could care less as the major indices keep marching forward. The extreme complacency that we've been referring to lately apparently wasn't extreme. Yesterday's complacency most certainly was!!! Are you ready for this? How about .33 on the end of day equity only put call reading? Think that's extreme? Well, let us just say it's the lowest daily reading EVER since the CBOE began providing us the equity only data on October 21, 2003. There hasn't been a single day more complacent than yesterday. What added to that complacency was the volume of equity contracts traded. 4 million contracts. While there have been more contracts traded in a day, there has never been the disparity between calls and puts.

Consider this: There were 3 million equity calls traded while just 1 million equity puts. That difference - 2 million more equity calls - far exceeded the previous record of 1.5 million.

We understand what we're seeing, which is the bulls' complete ignorance of every red flag waved in front of them. But we 100% believe that ignoring these signs and simply going along with the crowd without any hedges in place could potentially result in disaster. We're not interested in that strategy and you shouldn't be either. Whether the market continues higher or not in the near-term, it makes no sense whatsoever to be 100% long in this market without a backup plan or hedging strategies in place."

The risks were there and were obvious to me. But everyone has to make his or her own call as to the risks they're willing to take each and every trading day. Given all the volatility of late, knowledge of gap trading strategies is paramount. On Friday morning, we issued our daily Chart of the Day featuring a stock that had recently printed an exhaustive gap. Recognizing that gap, this stock was considered for a short alert and it promptly fell nearly six dollars intraday on Friday. You can check out that chart and video by CLICKING HERE.

Additionally, on Tuesday, May 18th at 4:30pm EST, I will be presenting the second in our monthly Online Trading Series, "Learning to Trade Gaps with Precision". You can learn more about this presentation by CLICKING HERE. I hope to see you there!

Happy trading!