Figure 1.

Rydex Bullish and Leveraged to Bearish and Leveraged/ daily

1) The ratio of Bullish and Leveraged to Bearish and Leveraged: 0.90 2) Values <=1 (below blue line) means more bears than bulls and typically this is bullish for prices 3) Values >=2 (above red line) means more bulls than bears and typically, this is bearish for prices

Figure 2. Rydex Money Market Fund/ daily

1) High indicator value suggests fear as investors are seeking the safety of the money market fund; this is bullish for higher prices 2) Low indicator value suggests complacency as investors are fully invested; this is bearish for higher prices 3) The trading bands are set to identify values that are 2 standard deviations above normal over the past 40 trading days

Figure 2a. Rydex Buying Power/ daily

1) The Rydex Buying Power indicator assesses the amount of money on the sidelines; it is fuel available for buying 2) This indicator assesses considers both non committed money (i.e., assets in the money market fund) and committed money (i.e., assets in all of the bearish funds that could potentially wind up in bullish funds) as available money on the sidelines 3) The indicator is calculated by taking the sum of all assets in bearish plus money market funds divided by all assets in bullish plus bearish plus money market funds 4) Low indicator values suggest little money on the sidelines and are consistent with excessive bullishness (i.e., bear signals) 5) High indicator values are consistent with increased buying power and are consistent excessive bearishness (i.e., bull signals)

Figure 3. Rydex Relative and Absolute Combination Indicator/ daily

1) When the indicator is green bullish for higher prices 2) When the indicator is red bearish for higher prices 3) The indicator uses the total amount of assets in all bullish funds and the total amount of assets in all bearish funds; the indicator looks for both relative and absolute extremes in the data

Figure 4. Rydex Combo Indicator/ daily

1) Figure 4 is a composite indicator constructed from figure 1, figure 2a, and figure 3.

Figure 5a. $VIX/ daily

Figure 5b. $VXN/ daily

Figure 6. Rydex Total Bull v. Total Bear/ weekly

1) The indicator uses the total amount of assets in all bullish funds and the total amount of assets in all bearish funds 2) The indicator attempts to identify multi week swings 3) When the indicator is green, Rydex investors are bearish and there are more assets in bearish oriented funds than bullish oriented funds; in general, this is bullish for higher prices 4) When the indicator crosses above the signal line, prices tend to move higher

5) Indicator values >=58% lead to intermediate term tops

Figure 7. Rydex Buying Power/ weekly

1) The Rydex Buying Power indicator assesses the amount of money on the sidelines; it is fuel available for buying 2) This indicator assesses considers both non committed money (i.e., assets in the money market fund) and committed money (i.e., assets in all of the bearish funds that could potentially wind up in bullish funds) as available money on the sidelines 3) The indicator is calculated by taking the sum of all assets in bearish plus money market funds divided by all assets in bullish plus bearish plus money market funds 4) Low indicator values suggest little money on the sidelines and are consistent with excessive bullishness (i.e., bear signals) 5) High indicator values are consistent with increased buying power and are consistent excessive bearishness (i.e., bull signals)

My Comments 1) Ok, we have a big report tonight with a lot to get through 2) Figure 1, the ratio of bullish and leveraged to bearish and leveraged, is now less than 1 3) And this is a bull signal.But and this is a big BUT, lets qualify this bull signal a bit by looking at when the bull signal occurs relative to the 200 day moving average 4) In the first scenario, we will go long the SPY when the ratio in figure 1 is <=1 (more bears than bulls) and when price is >200d ma 5) We will stay long the SPY as long as the ratio of leveraged bulls to bears is <=1 6) All positions are taken at the open, which replicates how I would disseminate the data and signals to you 7) The first graph is the equity curve for this strategy

8) Pretty awesome, but remember prices are already above the 200 day ma when positions are initiated 9) Since the start of the bull market in Q1, 2003, this strategy generated 56 SPY points while buy and hold SPY netted only 29 10) You were only in the market about 10% of the time 11) So you generated a return twice buy and hold with 1/10 the market exposure
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12) There were 41 trades of which 73% were profitable 13) Most amazingly, there were only 3 trades that had draw downs greater than 2% with the largest losing trade being closed out for a 2.5% loss 14) Now lets look at buying the SPY when the ratio in figure 1 is <=1 (more leveraged bears than leveraged bulls) and when price is <200d ma 15) The same rules apply: we sell when the ratio is >1 and all positions are taken at the open 16) Here is the equity curve from this strategy

17) Reasonably nice upward curve but a little bit more jagged then the first strategy 18) This strategy generated 59 SPY points while buy and hold netted only 9 SPY points 19) Since February, 2002 there were 65 trades of which 69% were profitable 20) To achieve these results, you would have been exposed to market risk 17% of the time 21) More importantly and to understand what is going one we need to look at the MAE graph 22) MAE stands for maximum adverse excursion 23) What does MAE measure? You put on a trade and if you are like me it probably moves against or adverse to your entry point. MAE measures in percentage terms how far a position moves against you until it is closed out for a loss or a win. MAE is the angst factor 24) The next figure is the MAE graph for this strategy

25) Look at the green caret inside the blue box 26) This trade was put on and it had an MAE or loss of 5% (x-axis) before it reversed and was closed out for a 1% winner (y axis); we know the trade was a winner because it is a green caret 27) Now look at the 9 trades to the right of the orange line 28) These trades all had MAEs or losses > 6% before being closed out 29) For the SPY this is a fairly dramatic and when compared to the original strategy above (prices > 200 d ma), this is huge difference 30) On the positive side there is a whole cluster of trades that were positive and had an MAE less than 2% and in fact, if a trade had an MAE> 2% it was likely to be a loser 31) There were 19 trades with MAEs > 2% and 12 of them ended up being losers 32) So what conclusions can we draw from this and how can this information help us in the coming weeks and days?

33) Regardless where price is relative to the 200 day moving average, I hope the equity curves and win/ loss characteristics of both strategies demonstrate that buying when others are bearish is a winning strategy 34) But where prices are relative to the 200 day moving average does matter in terms of risk 35) There is much reduced risk when prices are greater than the 200 day moving average 36) When prices are less than the 200 day moving average, the MAE profile is very similar to the other measures of investor sentiment that I follow 37) By this I mean: about 80% of the trades on the SPY are executed with an acceptable draw down (usually <6%) and about 20% of the trades have draw downs that one would consider excessive (>6%) 38) With regards to those other measures (i.e., dumb money), the best time to buy would be one week after the original signal; although I dont have the data until Saturday morning, I am assuming the dumb money indicator will be bearish this week. This means a bull signal is generated the following Friday 39) In other words, I dont see any great urgency to chase prices higher here the data suggests you can wait 40) However, here is another alternative 41) We know that MAEs greater than 2% will generally lead to losses 42) A tight 2 or 3% stop loss can be used from tomorrows open if you feel compelled to go long the SPY 43) Remember once the MAE goes greater than 2% you have a 63% of being a loser 44) Or alternatively, you can wait (as long as leveraged bears remains > leveraged bulls) for that 2-3% pullback thus reducing your risk as you are buying against that level 45) If this isnt clear, please feel free to email me as I know it is a lot to digest 46) Lastly, I wanted to show the equity curve and MAE graph for the QQQ when you go long with the value in figure 1 < 1 and with prices < 200 d ma (same rules as strategy 2)

See next page

47) Once again, another very nice equity curve

48) In this strategy, 7 out 56 trades had MAEs greater 6% 49) The best trades had MAEs <3% 50) Lets switch gears for a second and point out figures 5a and 5b 51) Resistance is looming overhead; for the SPY it is 118.91 and for the QQQ it is 53.88 52) And lets switch gears one last time and I will explain to you exactly what I am doing 53) I work off of weekly data for the most part, so I have to wait until the end of the week to get my signals 54) As mentioned above, it is my expectation that sentiment will be bearish this week and I will be going long the week after even though I believe we are in a bear market 55) And I think that is enough for now!!!!