1/27/2012 9:06:40 AM

Gap up open induces selling...

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

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

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Long DIA at $122.48
Long QQQ at $56.01
Long SPY at $126.17

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Daily Trading Action

The major indexes opened higher and dipped in the first fifteen minutes but rallied the folloing fifteen minutes. This would see the highs of the day with a continuous sell-off until the final half hour brought buyers back into control. All of the major indexes closed fractionally lower on the day with the Dow showing relative outperformance. The semiconductor index (SOX 411.94 -4.51) slid more than one percent. The Russell 2000 (IWM 79.18 -0.09) posted a modest loss while the Dow Jones Transport Index (IYT 94.59 +0.46) posted a fractional gain. The Bank index (KBE 21.19 -0.52) posted a -2.4% loss with the Regional Bank Index (KRE 25.79 -0.69) posting a -2.6% loss. The Finance Sector ETF (XLF 14.08 -0.12) posted a fractional loss. All equity indexes we regularly report on are above their respective 200-Day Moving Averages (DMAs) except for the Bank Index which closed even with this important level. The Regional Bank Index closed on its 20-DMA. All equity indexes have a BULLISH BIAS. Long term bonds (TLT 117.71 +1.54) added more than one percent. It is in a trading state and has a BEARISH BIAS. Trading volume increased but remained light on the NYSE with 859M shares traded. Trading volume increased to average on the NASDAQ with 1.959B shares traded.

There were six economic reports released:

• Initial Jobless Claims for last week came in at 377K versus an expected 375K
• Continuing Jobless Claims came in at 3.554M versus an expected 3.550M
• Durable Goods Orders (Dec) came in at +3.0% versus an expected +2.0%
• Durable Orders ex-transportation (Dec) came in at +2.1% versus an expected +0.7%
• New Home Sales (Dec) came in at 307K versus an expected 321K
• Leading Indicators (Dec) rose +0.4% versus an expected +0.7% rise

The first four reports came out an hour before the open. The latter two were released a half hour into the session.

U.S. Equities opened higher on the back of a stronger Euro and European bourses trading more than one percent higher. Sellers used the gap up open to exit long positions or to put on short positions. The day after the Fed releases its policy statement, the market often moves the opposite direction as that moved on the Fed Day. This is known as the counter-Fed trade. This is a one-day event and is highly correlated.

Nine out of ten economic sectors of the S&P-500 moved lower led by Telecom -1.9% and Energy -1.3%. The other seven declined less than one percent. Utilities +0.3% traded higher.

The U.S. dollar fell a tenth of one percent and the Euro fell nearly as much. The dollar had gapped down and rose through the session while the Euro did the opposite. This is likely a countertrend move and was consistent with equity trading through the day.

The yield for the 10-year note fell eight basis points to close at 1.93. The price of the near term futures contract for a barrel of crude oil rose thirty cents to close at $99.70.

Implied volatility for the S&P-500 (VIX 18.57 +0.26) rose one percent as did the implied volatility for the NASDAQ-100 (VXN 19.56 +0.20).

Market internals were negative with decliners leading advancers by a slim margin on the NYSE and by 6:5 on the NASDAQ. Down volume led up volume 2:1 on both the NYSE and the NASDAQ. The index put/call ratio rose +0.42 to close at 1.48. The equity put/call ratio rose +0.08 to close at 0.65.

Conclusion/Commentary

Thursday's trading was very clearly taken advantage of by sellers and traders looking to put on short positions. We are probably within a week of a more significant sell-off which may mean one more new high before U.S. equities collapse in a larger move than people are anticipating.

Implied volatility increased modestly but the put/call ratio of equity indexes rose dramatically. Bond markets and the U.S. dollar moved higher through the session causing U.S. equities to move lower.

We will still monitor key levels for the major index ETFs:

• DIA $129 - $131 would signal a new high above 2011 to a new high above 2008
• QQQ has already broken above even its 2007 highs
• SPY $144 - $157.50 would signal a break above the 2008 and 2007 highs

We don't expect the Dow ETF (DIA) to be able to surpass its barrier so will look to add put options when DIA reaches the $129 level. We will likely look to defray the cost of these puts by selling near month out of the money calls, which means we will be capping gains for our long positions if these options are exercised before expiration. are still looking to add "insurance at a reasonable price" for our long positions. We didn't pull the trigger yesterday as it appears we are likely going to surge to test the DIA level referred to above. We will move up the strike prices and align them to the potential for a top when DIA hits these levels. The most likely strike prices for "in the money" puts expiring in May/June would be:

• DIA $129
• QQQ $61
• SPY $134

If the market cooperates, we will achieve those positions this week or next week at the latest. We will put out an intraday note to inform you of our entry levels and prices paid which will be trigger by DIA trading to $129. We will likely follow by shifting to short positions when we believe we can actually see a top put in. If we do not sell the calls against our long positions, then we may adopt short positions when we anticipate the top within days. At this time, we anticipate the top to occur within the next week and a half.

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