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Market Wrap

Hanging On By Its Finger Nails

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With the DOW threatening to break some very long-term support and the S&P 500 threatening to break last week's low, the blue chips aren't looking so chipper. But there are a lot of people still believing in a year-end rally and are not willing to give up the idea that it's better to be in the higher-performing, high-beta stocks for the anticipated run up. The techs and small caps continue to outperform to the upside and today's rally was no exception. The Nasdaq-100 (NDX) was out in front today with a +1.6% gain. It's good to see the generals out in front but sooner or later the troops need to be willing to follow. The Nasdaq (COMP) did well (+1.3%) but was a little less willing to challenge Tuesday's high as NDX did today.

Even the RUT is willing to let the tech generals lead this charge. Seems they're waiting to see if they got shot before venturing out onto the battlefield. In the meantime we had the DOW gaining a measly 34 points (+0.3%) while SPX didn't do that much better (+0.37%). The banks have been getting pummeled this week and that has dragged the DOW lower. Energy stocks sold off today and that anchored SPX. The techs, followed by the small caps, will need the blue chips to join up with them otherwise the bifurcated market is not a healthy market. We all learned that lesson 8 years ago. There is no new era that says the blue chips can be ignored.

You can also see there is a lack of market breadth even on an up day. The new 52-week lows continue to stomp all over new highs. The advance/decline has been generally weak but slightly in favor of the bulls today. Where this market is headed next is difficult to tell with so many mixed messages that we're currently getting. Opex week only confuses the picture a little more since we don't know how much of this week's price activity is related to squaring/protection of positions rather than betting on a direction. I will of course review the key levels on the charts to help us determine where to next.

Economic reports

It was a quiet day for economic reports today (and even quieter tomorrow--as in no economic reports). There were no great surprises and nothing for the bulls to get excited about (or the bears for that matter).

A chart of the Leading Indicators shows the continuation of a disturbing trend:

Leading and Coincident Indicators, 1992-2008, courtesy briefing.com

The Leading Index peaked in early 2004 and has been heading sharply lower since that time. It's now getting close to the level back in 2001. The Coincident Index has been lagging but has also rolled over from a lower high than the highs prior to 2000 (an indication that the economic recovery post 2002 was not as strong as the period prior to the 2001-2002 recession. These point to a continuation of the slowdown in the economy and a stock market that will very likely follow.

The Philly Fed Index, one of the better gauges of economic activity (this one and the Chicago Purchasing Managers Index, PMI), is showing a dangerous split:

Philadelphia Fed Index, 1992-2008, courtesy briefing.com

Picture yourself standing on a dock with one leg on a boat that is pushing away from the dock. We all know what happens next and I suspect the economy will suffer the same consequences. Spiking prices while manufacturing activity slows down is not a healthy combination.

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We knew this could be a tough week because of the big banks reporting and in that respect it hasn't been too much of a surprise to see the market struggling. The banks (BIX) have been making new lows below the 2000 lows so the only thing that's surprising is how well the broader market is holding up. If the banks can find a bottom soon, and I think they could, there is the possibility for a market rally. But at this point I think we're right on the edge--a faster decline could kick in if nearby support gives way, which we'll review in the charts.

SPX chart, Daily

I've kept the bold trend lines from last week on the chart as these outline a rising wedge pattern that I think still has a chance to play out into July/August. But it needs to get started to the upside now otherwise the shorter term price pattern turns more bearish. So the bulls need to do their thing here and not let go tomorrow and certainly start some serious buying next week. The DOW has already broken below its key level (last week's low) so that's a warning sign. If SPX joins the DOW by breaking below 1331, and staying below it, I'd feel much less comfortable being long any stocks.

Key Levels for SPX:
- Cautiously bullish above 1367, confirmed bullish above 1404
- bearish below 1331

SPX chart, 60-min

Right now the 60-min chart looks like a successful retest of last week's low with bullish divergence. The next hurdle is the downtrend line from June 5th, currently near 1350. There is also a Fib projection for the current leg up that matches the 1350 level. If the bulls can drive it higher than that then the broken downtrend line from October 2007 near 1358 and the downtrend line from May 19th near 1370 would be the next upside targets/resistance. But if price rolls back over after the current bounce finishes and makes a new low below today's we could see some acceleration of the selling which would take the market much lower.

I wanted to show the weekly chart of the DOW again because of the important of the long-term uptrend line from 1974, which is where the DOW is currently trading:

DOW chart, Weekly

This uptrend line is a very important one, especially since the previous uptrend line from 1982 is where the April and May highs found resistance (and did a kiss goodbye). The DOW is currently slightly below the line (I have it near 12080) but it's the weekly close that's important--so tomorrow the bulls need to see the DOW close above 12080. If 12K gives way then a retest of the March low (and probably a break of it) at 11730 will be next, as shown on the daily chart (dark red):

DOW chart, Daily

The DOW is approaching the bottom of a shallow up-channel from January which is near 11950. That's why I have the key level located there--it's the last line of defense before the DOW heads for its March low of 11730, its January low of 11630 and then probably a little lower before bouncing back up to those lows for a resistance check. That's the bearish potential with the price pattern set up the way it is. If the bulls can get some serious buying going again and get the DOW back above 12323, Tuesday's high, then there's a much better chance for another leg up that's similar to the one shown on the SPX daily chart (in pink on the SPX chart).

Key Levels for DOW:
- cautiously bullish above 12323
- bearish below 12076 (we're there), confirmed bearish below 11950

DOW chart, 60-min

The downtrend line from May 19th is near 12170. A 50% retracement of this week's decline is at 12159 and the 62% is at 12197. So I think we have an upside target zone of 12160-12200 if we see a little more rally on Friday. As with SPX, if this bounce is followed by a break of today's low then the wave pattern suggests a very bearish outcome as the selling really kicks into high gear. Do not be looking to play a bounce until much lower levels if that happens.

I also wanted to look at a weekly chart of the NDX since the techs have been holding relatively well.

NDX chart, Weekly

There is a large parallel up-channel from the 2002 low and last year's top was at the top of the channel. If you'll recall I showed how price and time came together to make a market top call up there. Price then dropped hard to the bottom of the channel. Actually it dropped slightly lower and found support at the 200-week moving average. It's common for price to then bounce back up to the mid line of the channel which is what NDX did at its double top in May and then dropped away. That's bearish. But so far it's struggling to find support at its 50-week moving average which is currently near 1960. It closed above it today so the bulls would like to see that moving average continue to support price.

A weekly close below that level would be bearish confirmation that we'll likely see the techs start back down with the blue chips (in fact it's likely they'll start to lead the way back down). But if the bulls can get this market pushed back up then I think there's a good chance we'll see NDX up to 2100 next.

Nasdaq-100 (NDX) chart, Daily

NDX 2100 would be a retest of the its broken uptrend line from March if it gets up there by early July. That would be another place to watch for the rally to fail but I'll worry about that setup if and when we get there. In the meantime, as with the DOW and SPX, a drop below today's low would likely mean the bounce off the June 12th low, near 1913, is finished. That June 12th low is the key level to the downside.

Key Levels for NDX:
- cautiously bullish above 2056
- bearish below 1913, confirmed bearish below 1885 (April 7th high)

Nasdaq-100 (NDX) chart, 60-min

A little more rally tomorrow could have NDX tagging the price projection at 2015.57 for two equal legs up from June 12th. If it pushes higher then watch for resistance at the June 5th high (2056) and a retest of the broken uptrend line from March, possibly as high as the Fib projection at 2064. Any higher than that and it would likely mean a trip up to at least 2100. But as depicted in dark red, a turn back down from here, or 2015, would likely see some very strong selling kicking in.

Russell-2000 (RUT) chart, Daily

The RUT is a little stronger than the blue chips and a little weaker than the techs so it's not likely to give us an indication for the market before one of the others does. If the bulls can push this higher then watch for resistance at a retest of its broken uptrend line from March, currently near 750 and the 50% retracement of the October-January decline at 751. It takes a break below 717 to put the bears back in the driver's seat.

Key Levels for RUT:
- cautiously bullish above 743, more bullish above 775
- bearish below 717

Russell-2000 (RUT) chart, 60-min

As with NDX, a rally that achieves two equal legs up from the June 12th low would have it hitting 751.53. "Magically" this is also the same level where it could find resistance at its broken uptrend line from March (next week) and the 50% retracement level shown on the daily chart. Could be a very interesting short play there if that were to set up. Otherwise a drop back down below the June 12th low would be immediately bearish.

BIX banking index, Daily chart

The banks have now achieved a 5-wave move down from the high on May 1st. It might not be quite done yet but it is a warning for those who are short the banks to now be careful. This sector is due a bounce and it could be a big one (green) or one that only makes it up to the 220 area by the end of August in a sideways/up consolidation before heading lower again. But tacking on even 40 points to 180 would be good for a +22% (rally and lots of calls for a bottom in the banks). At the same time it's looking like the decline from May 1st should be completing it is achieving some downside Fib targets (178-180) and is near the bottom of a parallel down-channel from January (I deleted the shallow descending wedge because I don't think it fits any longer).

U.S. Home Construction Index chart, DJUSHB, Daily

I created a parallel line to the one across the February and April highs and attached it to the January low. Sure enough that's where the latest decline found support. Parallel channels can be one of your most effective tools. Today's rally brought the home builders index back up to the downtrend line from February 2007 but there could be a little more upside to 317 before either turning back down or entering a longer sideway/up consolidation. But like the banks, this index completed a 5-wave move down from April 1st and therefore is due a bounce. It could even lead to a much stronger bounce shown in pink.

The weekly chart of the home builders (to keep things in perspective), shows why it's possible we'll see another rally leg back up to the top of its shallow up-channel from January.

U.S. Home Construction Index chart, DJUSHB, Weekly

On the weekly chart, what looks like a wide shallow channel on the daily chart is just a small bear flag. Another leg up within the flag pattern could have price tagging the downtrend line from 2005. At this point it's a bit of a coin toss but a break below the June 11th low (277.43), whether next week or next month, would indicate the next leg down is already underway (dark red). The next leg down will be the last one. I don't know where it will finally bottom but I see a final bottom for this sector this year. I can't say the same thing about the broader market.

Transportation Index chart, TRAN, Daily

The TRAN is cycling around its broken uptrend line from March 2003 and I can't quite figure out which way it's going to go. Until it breaks back below 5032 I see the potential for another new high and a rally up to about 5700 by early/mid July (shown in green). Note that that would have it achieving its upside price objective out of the inverse H&S pattern (January's low is the upside down head and the March low is the right (left?) shoulder). But a little more rally could run into the broken uptrend line from March, just below 5400, for a potential kiss goodbye.

U.S. Dollar chart, Daily

The US dollar is holding in a short term up-channel (bear flag?) since the March low that is within a longer-term down-channel from 2002. If it is a flag pattern it could whack around inside this for a while longer. Longer term bets on the dollar really can't be made until it breaks one of the channels that it's in.

Oil chart, Oil Fund (USO), Daily

Since the June high oil has been chopping sideways. That's typically bullish and until I see a break below its uptrend line from April, currently near 103, that's the way I'm leaning on this one. But I'm not comfortable enough with that opinion to recommend a long play. It's just a likely that what looks like a flag pattern is in fact a topping pattern. Need more price action before we can determine the next move.

Oil Index chart, Daily

While I might be leaning long oil I'm leaning short the oil stocks. Not quite yet since the 50-dma is holding but if it breaks then look out below. And if the oil stocks break down then oil will likely follow soon. If oil stocks manage another rally leg then I see upside potential to 1082.60 where the 5th wave of the move up from January will equal the 1st wave.

Gold chart, Gold Fund (GLD), Daily

Gold seems to be forming a sideways triangle and like oil I'm not quite sure now whether it's bullish or bearish. My first guess is that it's bearish based on the initial drop from the March high which is now being followed by the triangle. This typically means a continuation pattern for the move preceding the triangle, down in this case. That means another leg down to match the one from March to the April 1st low and the $79-80 continues to look like a good downside target in that case (maybe a little lower to about $76). If gold rallies out of this pattern and gets above 93.71 then we will likely have a very decent gold rally ahead of us (and the US dollar will probably be confirming it with a breakdown from its bear flag).

Summary and Key Trading Levels

Because it's opex week we have to be careful in judging market direction by what prices do this week. In fact prices haven't done a whole lot. Opex Fridays, especially in the summer, are typically very boring days to sit in front of the computer and make believe you're trading. It's make believe because generally there's nothing to trade (in the indexes anyway--there's always a stock or two that's moving). Many stocks and their indexes simply get pinned by final opex squaring/protection. So be careful about forcing trades.

The bearish setups in the market are very clear and a break back below this week's, and certainly last week's lows, could trigger an acceleration of selling since the price pattern turns very bearish in that case. As I depicted on the DOW's daily chart, we could see the DOW down to 10500 by August. That would have the DOW back down to lows not seen since 2005 before we'd be due a bigger bounce into September/October. Only you can decide where to place protective stops for your own portfolio.

If I've got the longer term pattern correct then we're at the start of the next larger bear market leg down. To me it's a matter of whether we start declining from here or after another rally leg into August first. I could of course be very wrong about this (that's actually happened a time or two, wink) but until the credit crisis is resolved (we've got a long way to go on that) and we see some end to the continually worsening news about home foreclosures (which will be followed by general credit account defaults), the consumer mood will continue to sour and that has always led to a slowdown in the economy (as they stop spending and start conserving). A slowing economy and booming stock market just doesn't add up.

But we'll let price lead the way. Opinions are good for discussions but not for making money. Only price moving in your favor makes you money. So keep an eye on the key levels and trade this market in the direction she wants to go.

Good luck and I'll be back with you on Thursday.

Key Levels for SPX:
- Cautiously bullish above 1367, confirmed bullish above 1404
- bearish below 1331

Key Levels for DOW:
- cautiously bullish above 12323
- bearish below 12076 (we're there), confirmed bearish below 11950

Key Levels for NDX:
- cautiously bullish above 2056
- bearish below 1913, confirmed bearish below 1885 (April 7th high)

Key Levels for RUT:
- cautiously bullish above 743, more bullish above 775
- bearish below 717
 

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