4:00 PM Stoch: Falling

Daily      LOLR     STS

5/2-DT    6/1-DT    3/4 U/T

Breadth: 809/1667

ADR: 0.75 SPY: +3.50

NYMO:    -6  Falling Intraday

NAMO: +10  Falling Intraday

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The most important question facing investors now is no longer whether the market’s internals have deteriorated. They clearly have.

The question is when the Primary Bear Market will finally take complete control of the market averages.

And that is something we simply cannot know.

It could happen in the hours ahead. It could happen next week. Or, conceivably, we could see several more weeks of new record highs in the S&P 500 while the “real market”—the vast majority of stocks beneath the surface—continues to deteriorate.

That possibility is precisely what makes this market so difficult to trade.

The evidence accumulated over recent months has become increasingly compelling. The SPX has repeatedly advanced to new highs while the advance-decline line, market breadth, the Magnificent Seven, the Nasdaq, the Transportation Average, the Utility Average, and virtually every other internal measure we follow has failed to confirm those highs.

This is not a new development. It is a persistent and widening divergence.

Last week’s powerful surge in the major averages briefly produced the strongest internals we had seen in some time, putting the bears on alert but not on retreat. That burst of strength, however, quickly demonstrated the same characteristic we have seen repeatedly during this terminal phase of the bull market: the major averages can surge dramatically even when the underlying market fails to establish a durable improvement in character.

The result is a market that increasingly resembles two different markets.

One is the market represented by the SPX and a handful of enormously influential stocks. It can continue to rise and, under the right circumstances, can even produce additional records.

The other is the market represented by breadth and the broad participation of individual stocks. That market has been deteriorating for some time.

We believe the second market is telling us what eventually matters.

But markets do not operate according to our timetable.

That is the central lesson we must respect now.

We Cannot Predict the Hour

It would be easy to look at the evidence and declare that the Bear Market must begin tomorrow.

We will not do that.

The market has demonstrated repeatedly that it can postpone recognition of deteriorating internals far longer than seems reasonable. A market driven by momentum, concentration, liquidity and investor psychology can remain disconnected from its underlying condition for an extraordinary length of time.

Consequently, we will not attempt to predict the precise day—or even the precise week—when the Primary Bear Market takes complete control.

We will wait for the market itself to tell us.

That distinction is critically important.

If the decisive turn occurs tomorrow, we want to be prepared.

If it takes another week, we will wait.

If the SPX produces another series of record highs while breadth continues to deteriorate, we will wait.

And if the market somehow manages to repair the extraordinary divergences that have developed, we will respond to that evidence as well.

Our job is not to predict what the market must do.

Our job is to recognize what the market is doing.

The Trading Dilemma

This leaves us in an unusual but, we believe, highly advantageous position.

To trade this increasingly failing market aggressively from the long side would mean betting against the deteriorating internals. The odds of sustained profitability from that strategy are, in our view, becoming increasingly unfavorable.

But aggressively building a large short position today presents the opposite problem.

If the decisive turn is delayed for hours, days, or conceivably weeks, the major averages could continue higher—and a premature large short position could produce substantial losses before the Bear Market finally reveals itself.

We have no interest in making either mistake.

We therefore intend to remain patient.

Our remaining position in SQQQ will have its stop lowered to 34.47, and then we will wait for what we believe must eventually arrive: clear and, from our perspective, indisputable evidence that the Primary Bear Market has taken control.

That evidence will matter far more than another prediction.

Locked and Loaded

There is a temptation in markets to believe that if the evidence is compelling enough, action must immediately follow.

That is not necessarily true.

Sometimes the greatest discipline is knowing when not to act.

We believe the market has arrived at one of those moments.

The deterioration beneath the surface has been too persistent and too widespread to dismiss. The repeated failure of breadth and other key internals to confirm the SPX’s record highs has created a condition that, in our view, cannot continue indefinitely without consequence.

But “cannot continue indefinitely” does not mean “must end tomorrow.”

That is why we remain locked and loaded rather than fully committed.

We will allow the market to determine the timing.

When the Primary Bear Market finally takes complete control, we expect the character of the market to change dramatically. What has so far been a market of sharp rallies, narrow leadership and persistent internal deterioration should give way to something much broader, deeper and more sustained.

That is the Bear Market we have been preparing for.

We believe it is coming.

We simply do not know the day or the hour.

And until the evidence becomes indisputable, patience remains our position.

The Bear Market may be waiting in the wings—but when it finally steps onto the stage, we intend to be ready.