Market Remains in Clear Uptrend

by Darrin Donnelly on October 20, 2010

Click on chart to enlarge.

Click on chart to enlarge.

The markets sold off sharply on Tuesday, causing some traders to panic.  This panic wasn’t completely unreasonable as Tuesday’s session gave us a clear distribution day. 

A distribution day occurs when a major index declines on increasing heavy volume, signaling that institutions are selling.  Studies have shown that four or more distribution days within a period of about one month is a good indicator that the market is ready for a decline. 

Tuesday’s distribution day was the second for the NASDAQ in less than a month as the first one came back on September 30th.

Despite the distribution day we saw on Tuesday, it’s certainly not the time for Darvas traders to head for the exits.  One-day pullbacks on heavy volume are common in every bull market. 

We DO want to keep an eye on the distribution day count.  If we see these distribution sessions start to add up, we’ll want to start selling some of our positions and we’ll even consider an inverse ETF to hedge our risk.  But we’re not at that point yet.  In fact, the market is still in a very clear uptrend.

When we see a sudden sell-off like the one on Tuesday, it’s easy to get spooked out of your positions.  But it’s during those times of panic when you need to take a step back and look at the bigger picture. 

The best way to do this is to LITERALLY look at a bigger picture.  That is, turn your attention to the weekly charts in order to see the larger trends that are in place.

When we look at the NASDAQ weekly chart, for instance, we see no question that this market remains in a bullish uptrend.  (Notice the trend line on the chart the accompanies this article.)

Tuesday’s pullback was ugly, but it was perfectly natural within the overall upward trend we’re in. 

So far on Wednesday, the market has rebounded impressively.  As of this writing, most of Tuesday’s losses have already been recouped.

Another key to evaluating the health of the market is to analyze your individual Darvas stocks.  As you’ll see in the Wednesday issue of Darvas Trader PRO, key support levels were maintained by most of our holdings. 

Those Darvas stocks that did not maintain support levels simply revealed themselves to be weaker stocks.  In that sense, harsh pullbacks can actually be a good thing as they separate the top stocks from the pretenders.

In most bull cycles, Darvas traders will find that the truly strongest stocks rise to the top.  As the uptrend continues, there will be fewer and fewer stocks to hold on to as the weaker pretenders fall to the wayside.  Ultimately, we’ll find that four to six Darvas stocks establish themselves as true market leaders and these are the only positions we’ll want to keep holding.

Remember also that earnings season can have a strange effect on the market.  Sometimes even outstanding reports can be followed by sell-offs either because such great news was already factored into the stock price or because investors question whether such great news can be continued.  It’s the “too good to be true” worry.

Ultimately, you’ve got to trust the numbers and the technical action of the stock.  If the earnings numbers continue to meet our Darvas stock criteria and if the stock maintains key technical support levels, there’s no reason to exit a position just because of a one- or two-day decline following a positive earnings report. 

We’ll look at how earnings announcements have been impacting our individual Darvas stocks throughout the Wednesday issue of Darvas Trader PRO.

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* Portions of this article appeared in the October 20, 2010 issue of Darvas Trader PRO.  You can try Darvas Trader PRO risk-free for 30 days by clicking here.

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