12/14/2010 9:16:04 AM

After a large gap up open, the markets can't hold on and slide somewhat dramatically into the close...

Recommendation:
Take no action.

Daily Trend Indications:

- Positions indicated as Green are Long positions and those indicated as Red are short positions.

- The State of the Market is used to determine how you should trade. A trending market can ignore support and resistance levels and maintain its direction longer than most traders think it will.

- The BIAS is used to determine how aggressive or defensive you should be with a position. If the BIAS is Bullish but the market is in a Trading state, you might enter a short trade to take advantage of a reversal off of resistance. The BIAS tells you to exit that trade on "weaker" signals than you might otherwise trade on as the market is predisposed to move in the direction of BIAS.

- At Risk is generally neutral represented by "-". When it is "Bullish" or "Bearish" it warns of a potential change in the BIAS.

- The Moving Averages are noted as they are important signposts used by the Chartists community in determining the relative health of the markets.

Current ETF positions are:
In cash.

Daily Trading Action

The major index ETFs opened higher and then began to immediately sell-off for the first half hour then rallied to a new intraday high by 11:00am. From that point, it was a tale of two markets with the Dow and S&P-500 managing to attain a further intraday high by 3:00pm only to sell off dramatically into the close. The NASDAQ-100, Russell-2000 (IWM 77.35 -0.40) and the Semiconductor Index (SOX 413.20 -3.49) all sold off posting fractional losses. Still, it is clear that the risk trade has come into question as all the riskier indexes underperformed the larger cap indexes. The Bank Index (KBE 25.20 -0.11) and the Regional Bank Index (KRE 25.11 -0.18) also posted fractional losses. The 20+ Yr Bonds (TLT 93.50 +0.35) recovered somewhat from Friday's drop. NYSE volume was light with 962M shares traded. NASDAQ volume was nearly average with 1.832B shares traded.

There were no economic reports of interest released. Instead, the market took its initial queue from China's inaction on their interest rate. On Saturday, China announced it was not changing its prime rate for lending.

The U.S. dollar fell 1.1% after rallying after the lunch hour.

All ten of the economic sectors in the S&P-500 moved higher led by Industrials (+1.0%), Financials (+0.9%) and Healthcare (+0.9%).

Implied volatility for the S&P-500 (VIX 17.55 -0.06) closed somewhat flat. The implied volatility for the NASDAQ-100 (VXN 18.26 -0.51) fell nearly three percent. The VXN made a new intraday low of 17.73 and the VIX made new low of 16.68.

The yield for the 10-year note fell two basis points to close at 3.28. The price of the near term futures contract for a barrel of crude oil rose ninety-one cents to close at $88.65.

Market internals were mixed with advancers edging decliners on the NYSE while decliners led advancers 3:2 on the NASDAQ. Up volume led down volume 4:3 on the NYSE while down volume led up volume by nearly 3:1 on the NASDAQ. The index put/call ratio fell -0.37 to close at 0.99. The equity put/call ratio rose 0.03 to close at 0.45. The level of complacency remains extreme.

Monday's trading saw the implied volatility continue to drop, even with the somewhat dramatic late day sell-off. Apparently, options writers aren't too concerned with the sell-off. With the index put/call ratio now below 1:1, we feel that complacency has reached a point where a sell-off could get started before the end of this week. While the Dow advanced, the S&P-500 barely moved higher and with the three amigos (NASDAQ-100, Russell-2000, Semiconductor Index) all moving lower, the risk trade appears off or seriously diminished.

We will be looking to employ a strategy to trade implied volatility as well as enter positions for the major indexes going forward but will remain in cash for another day. The implied volatility strategy will employ VXX, and XXV to take long and short positions on the closest two month implied volatility contracts for the VIX (S&P-500 implied volatility). We will have more on this shortly.

Commentary:

Monday's trading saw the implied volatility continue to drop, even with the somewhat dramatic late day sell-off. Apparently, options writers aren't too concerned with the sell-off. With the index put/call ratio now below 1:1, we feel that complacency has reached a point where a sell-off could get started before the end of this week. While the Dow advanced, the S&P-500 barely moved higher and with the three amigos (NASDAQ-100, Russell-2000, Semiconductor Index) all moving lower, the risk trade appears off or seriously diminished.

We will be looking to employ a strategy to trade implied volatility as well as enter positions for the major indexes going forward but will remain in cash for another day. The implied volatility strategy will employ VXX, and XXV to take long and short positions on the closest two month implied volatility contracts for the VIX (S&P-500 implied volatility). We will have more on this shortly.

We hope you have enjoyed this edition of the McMillan portfolio. You may send comments to mark@stockbarometer.com.