Market Stats

Todd and I have switched nights this week. He will be with you on Wednesday.

The Sunday night futures were looking good for the bulls until Europe started selling off on more concerns about Greece and their debt. That had futures only slightly positive by the time the cash market opened and other than a quick pop higher around 12:00 PM there was virtually no trading being done. Trading volume was one of the lightest days of the year so the pattern of strong volume on selling and light volume on buying continues (not what the bulls want to see). The impression I was left with by the end of the day was that today was a dead cat bounce, probably in the commodities as well.

Luxembourg's Prime Minister Jean-Claude Juncker said today Greece "does need a further adjustment program." That was political speak for the "Greece needs to reorganize its debt." Standard & Poor's rating service also felt the need to downgrade Greece's debt yet again. The rating was lowered to B from BB- due to the discussed extension of the European Commission's portion of the debt (the 110B euro bailout).

Basically what the S&P ratings agency is telling everyone is that if Greece's debt payments are renegotiated for the EU's bailout loan then that would mean the same thing for all other commercial creditors who have loaned money to Greece (through bond purchases). If bond payments are extended that's a "distressed exchange" according to S&P's criteria, which results in a rating of SD, or selective default. Ah, default -- there's that bad word and one of the sectors suffering today was the banking sector.

As S&P stated, "Even if there were no discount of principal, such an extension of maturities is generally viewed to be less favorable to commercial creditors than repayment according to the original terms of the debt". S&P says Greece's ratings remain on CreditWatch with negative implications and essentially what many are coming to realize is that Greece is much closer to default that previously believed (hoped?).

While we didn't have any major economic reports to deal with today there was a report in the Wall Street Journal that mentioned a zillow.com survey that showed a significant further decline in the housing market. Numbers for Q1 2011 shows the decline was the steepest in the past three years. That's hardly what homeowners want to read and it will only further depress consumers.

The survey reported nearly 30% of borrowers are under water -- they owe more on their mortgage loans than their home is worth. It makes me wonder how many will take the "strategic default" route and simply walk away (I'm reading a lot more stories again about financial planners recommending this route). There are already a large percentage of homeowners who are more than one year, and in many cases two years, in their homes without making any mortgage payments.

The pipeline for mortgage defaults is expected to get even more stuffed in the coming year. And these properties are sitting on banks' balance sheets at full value. I've seen figures reporting more than a third of the housing market is in REOs (Real Estate Owned by a bank) as a result of previous foreclosures. And we've got more foreclosures coming that could choke a horse. The big question is how much longer the banks can sit with all that inventory on their books and not do something about it, especially if the economy goes south on us again.

The bottom line for housing is that it has already "double dipped" into recession, which is something most (all?) economists are saying will not happen to our economy. Home prices are now below where they were at the March 2009 low. The huge rally in the stock market hasn't helped Main Street one bit. So I'll take that bet and take the opposite side of all the economists -- I think there's little question that we'll dip back into a recession and in fact when all the numbers are rehashed years from now they'll show we've been in a depression and only by flooding the market with extra liquidity has the true problem been buried for a while.

Bernanke has stated many times that part of the reason for flooding the market with liquidity was an effort to get investors into riskier assets, namely the stock market. We've seen a huge rally (bubble) in commodities again because it's a relatively small market and there's been a lot of money chasing a small market higher (until last week). Bernanke is hoping the "wealth effect" will rub off on people and get them spending again. But people have mostly ignored the stock market because they feel poor everywhere else. With inflation (even though it's "transitory") is eating into budgets and wage growth is not keeping up with it.

Since most people own a home it's the home's value that makes people feel wealthy or not. And since most homes continue to decline in value I think it's fair to say most people are not going to be in a spending mood this year. Keep in mind that the nationwide housing bust is the first one since the Great Depression. And for all of Bernanke's efforts to keep interest rates down they're actually higher than when he announced QE2 last year. If he really wanted to make people feel wealthier he would have done a better job enticing people into the bond market. In reality he's proven beyond a shadow of a doubt that he's only interested in the health of the banks, not U.S. citizens. The Federal Reserve is a private consortium of banks interested only in self preservation. Ron Paul is one of the few Congressmen who seem to understand this.

As traders turn from exuberance (greed) to fear again we'll see them turn from riskier assets to safer ones. This will likely have traders leaving the stock and commodity markets and heading for the bond and cash markets. For this reason it's a good idea to keep your eye on the small caps because they're a very good measure of willingness to take on risk. So I'll start tonight's review with a look at the RUT.

The RUT briefly popped above its 2007 high but so far has not been able to hold it. I've got some channel lines within the parallel up-channel from 2009 and the highs since February have been pushing up against the upper dotted channel line. Combined with the uptrend line from August you can see a small rising wedge has formed. We could still see another press higher inside this wedge but at this point I'd say your upside potential is dwarfed by the downside risk. Bulls are still OK (in an uptrend) until price breaks below 825. Even though the RUT has made a new high above the 2007 high I've still got in counted as part of a larger pattern that calls for another bear market leg down, one that could break the 2009 low.

Russell-2000, RUT, Weekly chart

Looking a little closer with the daily chart below, the rising wedge pattern shows how we could get another leg up the 880 area this month. The bearish divergences on both the daily and weekly charts will likely continue if we get a new high and based on the wave count possibility for a new high, with the bearish divergence, I think it would be a screaming short play at the new high. At the moment I think it's a higher-odds play to short the current bounce in anticipation for the decline to continue. A break below 825 would be a confirmed break of its uptrend line from August and its 50-dma.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 860
- bearish below 825

The 60-min chart below zooms in the bounce off last week's low and I'm depicting a little more to the bounce (maybe to the 850 area) before heading lower. There is the possibility the bounce will finish right here with a test of last Friday's high near 843. Above 852 would be more bullish and above 860 would very likely mean the "one more high" scenario will play out (potentially into opex week).

Russell-2000, RUT, 60-min chart

SPX may also be hammering out a rising wedge pattern that could use one more new high, potentially up to the 1385-1390 area. But with last week's strong selling and what appears to be a dead cat bounce so far I'm having a difficult time believing in the possibility for another new high. Another break below the "neckline" that's near 1337 would be a bearish development and below last Thursday's low near 1329 would be a final nail in the rally's coffin.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1362 to 1385-1390
- bearish below 1329

The bounce pattern off last week's low supports the idea for another relatively small leg up (1360 area) before heading lower again. Right now 1350 is resistance and a drop back below 1337 would be a break of a few support levels which is why I would view it as a bearish move. Above 1362 would be a bullish and point us to the new high (1385-1390).

S&P 500, SPX, 60-min chart

The DOW has been relatively stronger since the April 18th low and has formed more of a parallel up-channel as shown on its daily chart below. So far it's holding above the mid line of the channel so that's bullish as long as it continues to hold above last Thursday's low at 12521. A break below that level would also be a break of its "neckline" from February. Above 12800 would be a good indication of a run up to 13K+.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 12,800
- bearish below 12,500

NDX looks different from the others but has exactly the same pattern and setup. The rising wedge pattern supports the idea for one more leg higher (2450 area) but currently looks too weak to do that. I think it's going to break down instead.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2418
- bearish below 2325

The bond market continues to rally and that has yields declining. Might the Fed's money finally be making it into the bond market now that their stock market work can be declared "mission accomplished"? We were seeing a divergence since mid April between TNX (10-year yield) and the stock market (as both the bond and stock market rallied together) but last week's decline in the stock market has it playing a little catch-up with the drop in yields.

TNX continues to work its way down to potential support in the 3.02%-3.08% area. Its 50-week MA is at 3.081%, a 50% retracement of its October-February rally is at 3.039%, its 200-dma is at 3.07% and two equal legs down from February is at 3.016%. This is going to one tough support level for TNX and I would not expect it to break on the first attempt (if ever). As shown on the weekly chart below, we could see the current decline get completely reversed as yields head much higher later this year (green) or we'll see a bounce (maybe) and then continue lower as part of a large sideways consolidation into late this year before dropping lower in 2012 (red). A rally back above 3.25% would be a break of its downtrend line from early April and an indication that we'll see at least a correction of that leg down (maybe back up to its 200-dma near 3.9%).

10-year Yield, TNX, Weekly chart

The daily chart below shows where I think TNX is headed in the next week -- the bottom of a parallel down-channel from February and the projection at 3.016% for two equal legs down makes for a good downside target. It might also find support at its 200-dma at 3.07%. The big question from there is whether the A-B-C pullback from February will lead to another strong rally into the summer and end of year or if instead we'll see just a bounce before heading lower again. The answer to that question will not become more obvious until we see what the bounce looks like (assuming of course we'll see a bounce rather than a decline below 3%). A corrective looking bounce will point lower once it's done otherwise a strong bounce will start to point higher.

10-year Yield, TNX, Daily chart

The banks were weak today and never got the kind of bounce we saw in the broader averages, which of course is bearish. Rallies without the banks will always leave the rallies suspect. The parallel down-channel for BKX calls for a continuation of the selloff and I've got two price projections based on the relationships between the waves at 48.19 (two equal legs down from February) and 48.28 (two equal legs down from early April). With the close correlation in the projections that strengthens the probability that we'll see it. But back above last week's high at 51.84 would obviously be a bullish breakout.

KBW Banking index, BKX, Daily chart

The Trannies have been strong although today it too was unable to join the broader averages in the green. The rising wedge pattern supports one more leg up to the 5650 area to complete the wedge but a break below Thursday's low near 5370 would confirm we've probably seen the high for its rally.

Transportation Index, TRAN, Daily chart

The dollar rallied strongly on Thursday and Friday partly on rumors that Greece was going to pull out of the European Monetary Union (or be forced out if it defaults), which had a negative effect on the euro. Several Greece officials adamantly denied the rumors. There's a saying that the stronger officials officially deny rumors the more likely the rumors are to be true. Do you remember all the denials of banking troubles before the financial collapse in 2008? Bear Stearns' officials adamantly denied the need for more capital.

At any rate, some short covering in the dollar likely started what could become a much larger rally in the U.S. dollar if it continues. The climb off last Thursday's low looks impulsive and that suggests a pullback will be followed by a continuation higher.

The dollar based for about a week with building volume and then popped higher, with strong volume, on Thursday and Friday. It rallied right up to the top of its down-channel from February and looks ready for a little more pullback, maybe to the 74 area or a little deeper, to correct last week's rally. Assuming we get a pullback correction I would look at it as a buying opportunity for what should be a strong rally to follow.

U.S. Dollar contract, DX, Daily chart

The dollar's weekly chart below is a projection for what I think we could see in the coming year+. Labeled in red on the chart below, a big A-B-C bounce off the 2008 low would have the dollar rallying slightly above 90 before it will be ready to resume its decline (towards what could be a very ugly chapter for the dollar as we head for 2016). But for now we've got a very sweet setup for the bulls (of which there are still very few).

U.S. Dollar contract, DX, Weekly chart

Commodities in general took a big hit last week, especially on Thursday and Friday. The commodity index, CRB, left a bearish engulfing candlestick for the week, taking back all the gains since the end of January. Three months of gains gone in 4 days. Unless you were short that was a painful move for commodity bulls. The CRB has bounced off support at its 50% retracement (337.06) of the 2008-2009 decline (it failed at its 62% retracement), which is where it found resistance in January and then support in February and March. I'm not sure how high a bounce we'll get but I believe commodities will head lower and potentially much lower. The A-B-C bounce correction to the 2008-2009 decline should have completed at last Monday's high, which now calls for another bear market leg down.

Commodity index, CRB, Weekly chart

Gold finished last week as an outside down week. The candlestick is a bearish engulfing candle giving us another good reversal signal. Making it stronger is the fact that gold did a throw-over above the top of its parallel up-channel from 1999-2000 and its trend line along the highs from December 2009 and then closed back below both. This puts gold in a bearish position which means look to short the bounces from here.

Gold continuous contract, GC, Weekly chart

Silver was probably one of the primary reasons why many of the other commodities suffered since the margin calls on silver probably forced the liquidation of many silver longs but also longs in other commodities as traders scrambled to meet their margin calls. But the crash in silver, and to a lesser extent in gold, very likely created fear in other traders who decided to quickly sell and simply take profits off the table.

Silver has bounced off support at its uptrend line from July, near 33.80, and made it back up to the 50% retracement of the July-May rally, at 38.06. A little higher, near 39, is its 50-dma and broken trend line along the highs from May 2006 - March 2008 (this trend line is shown on the weekly chart below). Watch that level for resistance as another opportunity to short silver since I think it will head much lower still.

Silver continuous contract, SI, Weekly chart

There are many fundamental reasons to believe oil will be different than other commodities. The trouble for me as a technical trader is that I don't trust fundamental reasons for pricing. I've seen too many times when strong fundamentals get completely run over with emotions (and I've been burned in the process). Markets are driven by emotions, not fundamentals (fundamentals follow price, not the other way around).

So I'm expecting oil to follow the price of other commodities. The price patterns between the commodities index and oil are too similar to ignore. The weekly chart below shows oil getting a bounce off its uptrend line from January 2009, near 99.75, but I'm not expecting it to hold. Once back below last Friday's low at 94.63 the next support level will be the 200-dma at 89.13 (and climbing) and its 50-week MA at 87.46. Eventually, and perhaps quickly, we could see oil breaking down.

Oil continuous contract, CL, Weekly chart

Getting in a lot closer to oil's decline and bounce, the 60-min chart below shows the impulsive (5-wave) decline last week and the bounce off last Friday's low, which is so far an A-B-C correction to the decline. The impulsive decline means we should get at least another leg down following the bounce.

Oil continuous contract, CL, 60-min chart

After hiking margin requirements five times on silver in a two-week period it looks like CME might be after oil traders now. They announced this evening that they'll be raising the margin requirement for crude-oil trades effective Tuesday. That could prompt some selling out of the gate.

Tuesday starts off the week's economic reports and we'll see how prices are looking. So far both import and export prices have been rising substantially and that of course is due to inflation. Transitory or not, consumers feel it and are not happy about it. More significant inflation numbers will come from the PPI/CPI numbers on Thursday and Friday. As long as the government can continue to hide true inflation, and not have to increase payments to those dependent on inflation adjustments, the more the government can save (and you thought the government was here to help you).

In fact if you look at a chart of these swings in inflation/deflation since 1996 you'll see the swings are becoming more volatile as they whip to higher highs and lower lows. This to me is a vivid example of the Fed being out of control. When a pilot starts chasing corrections in an airplane he gets what we call "behind the airplane". You try to correct nose down by pulling the stick back and then put in too much correction and the nose points too high so you push the stick forward to lower the nose back down but realize too late that you pushed it too low so you pull it back again and get even more out of control to the upside. It's call pilot-induced oscillation (PIO) and is very common with student pilots. What I'm seeing here is some PIO by our out-of-cotnrol Fed and many times PIO will lead to a crash or some other unpleasant event (like getting passengers air sick). Get my point?

Export and Import Price Changes, chart courtesy briefing.com

The balance of this week's economic reports, other than possibly retail sales on Thursday and Michigan Sentiment on Friday, is not likely to affect the market much.

Economic reports, summary and Key Trading Levels

My overall sense about the current market is that we have seen the high. The strong selloff has been followed by a weak bounce so far, which fits the dead-cat variety. Price is the final arbiter and the price pattern does support the possibility for a final high later this month (opex) and therefore I would stay aware of that potential when making plans for your May options positions. We could see a very low volume choppy rally that simply adds a few more points each day rather than sell off but at the moment I don't see enough evidence to support a recommendation on the long side.

I'm looking at the potential for 30 S&P points to the upside vs. 300 points to the downside. I don't see a strong move to the upside (with lots of volume) but I do see the potential for a strong move to the downside. Therefore it just doesn't make sense to try a play to the upside. If unsure about being short simply wait for breaks of the key levels to the downside that I discuss with the charts.

It's often hard to short the market into the hole after a big move down but I think the setup is there to chase it lower. The risk of course is for the market to come flying back in your face. Trade with options and smaller positions and if the market moves in your favor simply add to the position and adjust your risk/stop accordingly.

Trade carefully this week and good luck. I'll be back with you a week from this Wednesday.

Key Levels for SPX:
- bullish above 1362 to 1385-1390
- bearish below 1329

Key Levels for DOW:
- bullish above 12,800
- bearish below 12,500

Key Levels for NDX:
- bullish above 2418
- bearish below 2325

Key Levels for RUT:
- bullish above 860
- bearish below 825

Keene H. Little, CMT