Volatility and OPEX Week - September 12, 2011

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The most important development in the market last week has been overlooked by the majority of commentators. Since they are all stubbornly obsessed with the unreliable VIX – a totally useless options-related volatility indicator with no consistent timing predictive value – they have ignored the impressive drop in actual market volatility as measured by ATR percentages.

IWM’s ATR has dropped to 3.6% compared to over 5.4% at the close of the previous week, or a one-third drop since Labor Day. This is obviously a consequence of a market returning into a more professionally programmed behavior and a drop in ATR% is a leading indicator for a bullish multi-pivot bias in the days ahead.

ATR is the main parameter for measuring the clusters widths and has a direct consequence on the clusters strengths. For example, a resistance cluster with a strength of 24 two weeks ago when ATR was over 5% would be split into two resistance clusters with average strength of only 12 once ATR drops to 2.5%, allowing for much more orderly and repetitive daily progress.

ATR is also a main ingredient for many risk management techniques and the lower it drops, the better the reward-risk ratios for entering new long trades for large institutional value investors.
Because 80% of market transactions are driven by algorithms factoring in the various floor support and resistance levels and the ATR with the final objective to accumulate average positions well below the multi-timeframes VWAPs with good reward-risk edges, all conditions are now met for an imminent sustainable rally starting anytime soon.
Taking into account that this week is options-expiration week and that the maximal pain level is far above current prices, options market makers will also try to push prices higher.

The paradox, often puzzling the public at large, is that large market makers anticipating a rally will first scare the crowd by letting their HFTs programs unleashed on the sell side until exhaustion. We are still in that stage as indicated by the cumulative TICK and it has been the main factor of success for the ongoing short robot position.

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The public is conditioned to fear a bear flag breakdown with a price target at 2010’s low levels, but the mix of professional hints and clues suggests instead a major bear trap being currently manufactured. Note also that the average net 20 DMF daily change for the shortened 4-day week was actually positive (+ 33%) and the daily market stage structure shows steady and growing accumulation.

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We will of course let the robot guide us on the existing position, but I’d like to issue a warning about entering a new short position at today’s limit of 66.88. A very likely scenario this week is a quick recovery above QS3 (68.17) leading to an opex rally with potential up to the yearly pivot (71.84), just below the robot’s trailing stop of 72.20. If the robot stays short all along, a new robot entry at the initial 70.81 limit price would be possible later in the week.

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SPY presents a confirmation of the potentially bullish floor bias as it closed the week just above the always so important QS3 (115.39), a most likely bottom level area for the third quarter where professionals have systematically accumulated recently. The reduced volatility is clearly tightening the resistance clusters widths and strengths and total floor resistance and support strengths are now equivalent to one another.


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QQQ’s price pattern is much stronger than IWM and SPY as it is still trading above QS2 (50.95) and is within two ATRs reach of the RISING 200-day moving average (56.17). A quick bounce holding above WPP (53.42) and QS1 (54.00) would confirm the bullish bias.

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The small pullback in GDX on Friday did not put long positions in jeopardy. The next strong floor resistance at the confluence of SR2 and QR2 (69.65) remains the next target and could be hit within three days as it waits just above two ATRs distance.
Billy

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