Option Strategies for the Week Ahead

12/29/2008 10:48 am EST

Focus: OPTIONS

Lawrence McMillan

Founder and President, McMillan Analysis Corporation

Several times in the last few weeks, all of our indicators have been on buy signals. Yet the market has essentially struggled to make upside progress. True, it has advanced well off the November 20th lows, and it may still advance from here. But if $SPX cannot make upside progress quickly, it is likely that sell signals will emerge in the new year.

$SPX made a new closing high (for this move) on December 16th. At that time, it was quite bullish, with a series of higher highs and higher lows in place. Since then, it has stumbled, and has violated the uptrend line that was in place. If it trades below 850, it will break the sequence of higher lows that is in place.

The equity-only put/call ratios have been on buy signals for a few weeks and remain on those buy signals.

Market breadth continues to vacillate wildly from day to day, and the breadth indicators rolled over to sell signals this week.

Volatility indices ($VIX and $VXO) have been declining for some time. Moreover, they violated their longer-term uptrend line, so that the predominant trend of volatility is down. That is also bullish for the broad market. Generally, when both the equity-only put/call ratios and $VIX are in downtrends (as they have been for some time), the market responds with a strong rally. It has not.

In summary, the indicators are still generally bullish, as only breadth is on a sell signal. It may turn out that tax selling or other temporarily adverse conditions have artificially weighed on the market here at year end, and the bullish case will reassert itself, in line with the generally bullish indicators. However, if $SPX falls below 850, that would likely turn its chart negative and issue in a much more bearish scenario.

By Larry McMillan of OptionStrategist.com

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