Option Investor
Market Wrap

Russell Leads the Way

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     05-25-2004            High     Low     Volume Advance/Decline
DJIA    10117.62 +159.19 10121.67  9915.86 1.84 bln   2410/ 478
NASDAQ   1964.65 + 41.67  1966.68  1913.73 1.73 bln   2216/ 850
S&P 100   542.39 +  8.35   542.72   531.57   Totals   4626/1328
S&P 500  1113.05 + 17.64  1113.80  1090.74 
RUS 2000  565.39 + 13.67   565.43   550.16
DJ TRANS 2931.95 + 66.59  2934.22  2856.11
VIX        15.96 -  2.12    18.42    15.73
VXO        15.91 -  2.40    19.21    15.63
VXN        22.04 -  2.29    24.82    21.62
Total Volume 4,012M
Total UpVol  3,476M
Total DnVol    454M
52wk Highs     117
52wk Lows      125
TRIN          0.40
PUT/CALL      0.90

While market participants focused on the Iraq situation, crude oil prices, the Consumer Sentiment and Existing Home Sales, the Russell 2000 was making a sneak assault on the top boundary of its nearly month-long rectangular congestion zone. That sneak assault led the way for other indices to challenge recent consolidation patterns, too. By the end of the day, the move had led to gains of 2.48 percent on the Russell 2000, 1.16 percent on the SPX, 2.17 percent on the Nasdaq, and 1.60 percent on the Dow, with those gains produced on moderate volume. Other volume patterns proved impressive, however, with the ratio of advancing to declining issues 28:6 on the NYSE and 23:9 on the Nasdaq. Up volume amounted to more than eight times down volume on the NYSE and seven times down volume on the Nasdaq.

With crude oil futures closing at a record high on Monday, the stage had been set for a decline in overseas markets. Following network television's decision not to televise Bush's speech live, articles discussing overseas market performance made little mention of Bush's five-point plan for achieving a stable, peaceful Iraq as a factor in trading decisions. Instead, those articles focused on the likely impact of increasing oil prices.

The Nikkei followed through on the promised declines, falling 138.71 points or 1.25 percent to close below the psychologically important 11,000 at 10,962.93. With concerns that oil prices would restrict economic growth and Germany's much-watched IFO Index easing in May, European markets gapped lower, too, but then treaded water near their opening levels. Stagnating consumer demand continues to impact expectations in Germany, with higher oil prices being mentioned along with escalating health-care costs as negative factors. Some took heart from the increase in the expectations component of that index, however.

Our futures reacted by falling throughout the night, beginning a labored climb about 6:30 am EST, perhaps about the time that it was clear that European markets would steady rather than tumble precipitously. The dollar weakened and fixed income markets throughout the globe stabilized. Yields for the benchmark Ten- Year Treasury Note opened lower, followed by early weakness in equity markets.

Most indices fell toward their morning lows just ahead of and as May's Consumer Confidence and April's Existing Home Sales numbers were released at 10:00 am EST. Expectations for May's Consumer Confidence had ranged from 93-94 with a prior number at 92.9. The expectations component of the consumer confidence number, 60 percent of the total index, rose from 94.8 to 95.2, with the present-situation component falling from 90.4 to 90.3.

The 93.2 Consumer Confidence number was variously hailed as meeting expectations and being lower than expectations, depending on the news source. Survey results listed rising gasoline prices, a mixed employment outlook, and the growing Iraq scandal as pressures on confidence levels. UBS issued a report last Friday that speculated that the rising oil costs could trim $35 billion from after-tax income this year if those higher costs continue. Goldman Sachs believes consumer confidence and presidential approval ratings to be strongly linked, and Bush's approval rating has dipped as the Iraq situation intensifies.

All agreed on whether the existing home sales number met or beat expectations, with that number surprising to the upside. The 6.64 million sales figure was the second highest on record according to the National Association of Realtors. Consensus expectations had been for a decrease to 6.41 million from March's 6.48 million sales, although I'd read forecasts that ranged from 6.40-6.48 million. Some theorize that potential homebuyers rushed to get into homes as interest rates rose, fearing higher interest rates to come, making that bump higher a temporary one. Perhaps predictably, the homebuilders saw some of the strongest gains, with the $DJUSHB, the Dow Jones US Home Construction Index, gaining 4.90 percent in Tuesday's trading.

The SPX, Dow and Nasdaq reacted variously to those numbers and a concurrent dip in crude oil futures by steadying a few minutes or dipping to a slightly lower low. The Russell 2000, however, just steepened the climb that it had begun at Tuesday's open when it broke above the consolidation zone in which it had been confined since May 7.

Annotated 60-Minute Chart of the Russell 2000:

After closing above its 200-dma on Monday, the Russell charged above that consolidation zone and important 60-minute averages at the open, pausing only to absorb the impact of the economic numbers before steepening that climb.

Annotated Daily Chart of the Russell 2000:

As can be observed on the Russell 2000's daily chart, recent gains produced a bullish cross in the MACD, but from below signal, and broke the stochastics above the signal line. Shorter-term 5(3)3 stochastics (not shown), however, have already cycled far toward levels indicating short-term overbought conditions, with that stochastics level being approached as the Russell 2000 approaches horizontal resistance, the upside target of its 60-minute rectangular consolidation band, the 50-dma, and one version of a descending trendline off recent highs. While today's impressive gains can not be minimized, especially as they created a new P&F double-top breakout signal with an upside target of 630, neither should that impressive resistance be minimized.

This move can not be called bullish with certainty until it retraces more than 50 percent of the recent decline. If the Russell 2000 can break above the 572 level, it should next test the 100-dma and then the 595-600 range if it can climb above the 100-dma.

If the Russell 2000 led the way, did the other indices follow? Most major indices produced breakouts, with the SPX being one of those indices.

Annotated Daily Chart of the SPX:

The SPX has been particularly important to watch as its tests of the 200-sma have prompted recent bounce attempts. While some other indices, most notably the OEX, appeared more bearish because of continual closes below their 200-dma's, the SPX's closes above that important moving average coupled with the bullish divergence on its daily chart signaled a warning to those thinking bearishly. Today's action saw the MACD produce a bullish cross, but from below signal.

Annotated Daily Chart of the Nasdaq:

If the Russell 2000's close above its 200-sma Monday predicted that it was breaking out of its recent congestion zone, the Nasdaq's close above its 200-ema Monday may have been doing the same. Especially with tech-related indices, I like to watch the -ema as well as the -sma, and this viewpoint shows the OEX scrambling above that moving average Monday, finding support at it on Tuesday's morning dip, and then climbing strongly from that average. As with many other indices, MACD produced a bullish cross but from below signal. The 21(3)3 stochastics have moved up through the signal line. The shorter-term 5(3)3's (not shown) have already cycled far toward levels indicating overbought conditions as the Nasdaq heads up to test its 50-dma, the psychologically important 2000, and then perhaps its 100-dma and the descending trendline off the year's high, depending on whether it can surmount each succeeding level or gets turned back. It's possible to draw several versions of a triangle on the Nasdaq's chart, and the possible formation I've drawn on this one proves less neutral than a symmetrical triangle. The chart reveals that the Nasdaq is perhaps just rising within that formation that consists of a flat bottom and a series of lower highs. That presumes the formation of another lower high, but it was also possible to draw a triangle with an ascending lower trendline, the neutral version of a triangle. The coordination of the MACD bottoms with the price bottoms within the flat- bottomed structure hint that it may be the correct one.

I've included a neutral triangle (ascending bottom support) and a bearish one (flat bottom) on the Dow's chart, although here an interpretation of the formation as a bearish right triangle seems a stretch.

Annotated Daily Chart of the Dow:

The Dow's chart (using the DJX as a proxy) has produced bullish price/MACD divergence, too. As with the other indices, the MACD bullish cross was produced from below signal, and prices head straight up into moving-average, horizontal and trendline resistance. Dow 10,200-10,300 registers as important known historical resistance as well as the location of the 30- and 50- dma's and the former supporting trendline from the Dow's neutral triangle.

Weekly charts show these indices trying to steady at first important weekly support, while weekly 21(3)3 stochastics attempt bullish crosses, completed only on the COMPX and without a move up through the signal line on that index. On all, RSI hooks up within a roughly descending formation. Weekly MACD has not turned up on any of the above indices.

What does it all mean? Earlier in the week, I had speculated that indices might make a run higher this week into the June 3 official OPEC meeting in a kind of buy-the-rumor move. Yesterday's climb by crude oil futures spoiled that effect, with Jane Fox of the OIN Market Monitor perhaps pinpointing one reason behind that climb. It was perhaps produced at least in part by a safety shutdown at a Royal Dutch/Shell Oil platform in the Gulf of Mexico, with that shutdown cutting the oil supply by 150,000 barrels a day.

With some statements about an optimum price being $30/barrel producing Tuesday's pullback in crude prices, we then saw the expected run higher, a run into resistance. That continued inverse relationship between oil prices and equity behavior gives me pause about predicting whether the indices will be able to push above their next approaching resistance levels. Crude oil prices have been consolidating above the benchmark $40.00, with these moves higher and lower occurring within a consolidation zone roughly between $40.00 and $42.00. Moves within a consolidation zone prove difficult to predict. Daily oscillators for crude oil head lower . . . or did, until stochastics turned higher again on Tuesday, refusing to fall below the signal line.

The other factor giving me pause relates to economic releases Wednesday, with one of those releases being the Crude Oil/Gasoline/Distillate Inventories at 10:30. In this climate, that number might be watched more closely than in the past, with further declines producing a move higher in the crude futures. We're beginning to see earnings reports and business and consumer confidence numbers being impacted by crude oil costs, such as Germany's IFO Index and our Consumer Confidence Index. Headlines for articles discussing airline stocks mention fuel surcharges, but the airliners aren't the only entities affected by those high crude prices. Articles today about eurozone movers and shakers included notations that chemical firms such as BASF and Bayer had been notable decliners in early trading today, attributing those declines to crude oil costs.

The best I can say is that I think indices will attempt continued bounces into resistance as long as crude prices consolidate or show an inclination to decline into the June 3 OPEX meeting. However, if Wednesday's inventory numbers concern market watchers or some global geopolitical event heightens worries and send crude oil higher again, markets appear vulnerable to a downturn below resistance. Whether indices can break above upper descending trendlines remains in question at this time and may depend in part on OPEC's decision. If we do get a buy-the-rumor continued run higher, then even a beneficial decision by OPEC might result in a sell-the-rumor effect, especially as some doubt how much production can be increased.

When we're considering what's likely to happen, however, we shouldn't ignore the collapse in volatility today. The collapse was huge, almost mirroring the March 10 one-day gain in volatility. The collapse turned the VIX back into the 15.75- 16.75 range that has been a recent axis of gyrations for the VIX and elicited intrigue about who knows what. Is China going to announce a decrease in demand that will uncouple the inverse relationship of oil and equities? Will Russia reveal that it will complete its pipelines sooner than expected and be able to supply the world's needs? Who knows something and what is it that's known?

It's not the actual number that proved so startling, since that's within that recent axis, but the precipitous drop. As far as I can ascertain, Tuesday produced the biggest one-day drop in the VXO since the reformulation of the VIX. A continued drop in the VIX produces an enigma for market watchers who remember the old "when VIX is low, it's time to go" axiom, coupled with the usual advice about selling stocks in May. We've watched the VIX go lower and lower, reaching new multi-year low after new multi-year low with only to-be-expected pullbacks resulting, so how low is low?

Other economic reports due Wednesday include the 8:30 release of April's Durable Goods Orders, with expectations anything from a flat number to a 0.8 percent decrease. March's number stood at 5 percent and March's Durable Goods Orders minus transportation at 5.4 percent. This release by the Census Bureau often proves market-moving even though it can be volatile. Non-defense capital goods can be a much-watched component of this number since it gives insight into business investment component of the GDP. Market watchers will want to see gains, if any result, be broad based rather than isolated in a particular sector. Other economic releases include April's New Homes Sales at 10:00 EST and the already mentioned Crude Oil/Gasoline/Distillate Inventories at 10:30. Homebuilder Toll Brothers (TOL) also reports before the bell. Like other indices, the $DJUSHB's gain today sent it up into resistance, and market watchers want to see TOL announce results that reassure the dip buyers that the made the right decision.

Keep an eye on the Russell 2000 and crude oil prices tomorrow as guides to likely action, and be careful around the time of these economic releases.


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