Market Stats

The stock market seems to be fond of trapping traders. The big gap moves in the mornings are making it very difficult for traders to get in on the beginning of a move and this morning was no different. I liked the setup going into the close yesterday to take a few puts home with me but I recognize that's a risky move in this market. After tempting bulls to take home long positions Tuesday night, with the S&P 500 closing back above its 200-dma, they were mistreated by the market for doing so, leaving them trapped with the head-fake break. Once again it shows the higher-than-normal risk of carrying trades overnight in this market. Guess right and you're a hero (and richer); guess wrong and you're a goat (and poorer).

But there was a significant warning yesterday to the bulls and the reason I was recommending a short position. I'm sure the Boyz were well aware of the setup. They rallied the market Tuesday afternoon (again, which was the same pattern we saw on Friday and Monday) and were very likely selling into the rally as most traders were by now believers in the afternoon rallies (which lacked market breadth and volume, another warning). So what was the big warning?

I thought yesterday that the afternoon rally in the stock market made no sense in light of what was happening in Italy. The bond market is "smarter" than the stock market -- bond traders tend to be more aware of geopolitical events that have an impact on bond prices whereas stock traders, especially with the HFT and algo traders, get more involved with what the stock market is doing at the moment. The bond market is the adult and the stock market is the child with ADD (Attention Deficit Disorder). Each afternoon the Boyz started a rally on light volume and the HFT and algo traders took it from there.

When Italian bond yields spiked higher yesterday into their close, followed by our stock market rallying in the afternoon, I thought it was a recipe for a bull trap. I decided yesterday that it will matter when it matters, and apparently it mattered this morning. Yesterday the Italian bond market was waving a red flag in front of the bull who charged, only to be met with a sword piercing its heart. Yesterday's chart below shows the spike up to 6.77% and today it closed at 7.25%.

Italian Government 10-year Bond Yield, November 8, chart courtesy Joe Wiesenthal

Italian bonds with maturities of two years and greater saw their yields spike above 7% today, a sign of danger, and it alerted people to the problem. The bond market is declaring Italy has a problem and the risk of default is climbing fast, a replay of what occurred with Greece but on a much larger scale and one that is more dangerous to Europe. Even the ECB can't reverse the climb in yields with their efforts to buy Italian bonds. They are rapidly running out of fingers to plug the leaking dike.

Last week I showed a chart of the Italian-German bond spread and pointed out the break above 4 points signaled trouble. Today it closed at 5.53, up +.56 (+11.2%) from yesterday. On the chart I placed the cursor over the same date one year ago and you can see on the right side the blue arrow showing 1.66 points. The two charts of the Italian bonds should quiet the critics who keep saying the problem in Europe is only Greece and that by solving that problem it solves the European debt crisis. Nothing could be further from the truth and stock holders who ignore the message of the bond market do so at great risk to their accounts. The spread between the French and German bonds suddenly widened today as well (from 1.3 to almost 1.5 points (+14%) so it won't be long before we're hearing more about France's debt burden as well (starting with a downgrade of its AAA credit rating).

Italian-German Bond Spread, chart courtesy bloomberg.com

A few stocks got punished today for scaring investors. ADBE dropped as low as 26.13 (-4.29) at this morning's open but finished off its low and down "only" -2.34 (-7.7%) at 28.08 after announcing some restructuring plans and layoffs.

GM reported earnings that fell in the 3rd quarter compared to last year (but came in above analyst estimates, as if their estimates matter). GM expects similar results in the 4th quarter compared to last year. It closed down -2.73 at 22.31 (-10.9%). So how's that hopey thing working for GM investors? Oh, that's right, that includes us tax payers who invested in the company at $35 thanks to a government bailout of the union, um, I mean company. I believe GM will be below $15 next year.

General Motors, GM, Daily chart

There was no economic news of importance this morning, not that it would have mattered much since the worry is over Europe anyway. So we'll just jump into tonight's charts, working our way down from the SPX weekly chart to the 15-min chart in an attempt to show what I'm looking for over the next couple of days and weeks.

SPX's weekly chart shows today's drop has it back down to the 62% retracement of the 2007-2009 decline, at 1228.74. Only slightly lower is the 20-week MA just below 1226. The 1220-1230 is price-level support from the August 31st and September highs. This area supported the first pullback into the November 1st low and a break below 1220 could spook more than a few traders out of their long positions (and entice bears to get short). The two red candles following the test of the broken H&S neckline, just as it did in May 2008 (which led to the strong decline into November 2008), is bearish. Notice also the MACD -- if it rolls back over from the zero line it would create a strong weekly sell signal, especially with RSI not being able to get above 60 (usually the limit for a bounce in a bear market).

S&P 500, SPX, Weekly chart

The daily chart below shows the bearish kiss goodbye at the broken H&S neckline at the end of October, followed now by another bearish kiss goodbye at the test of the 200-dma yesterday. It's hard to look at today's big red candle following that failed test as anything other than bearish. But there could be another magical rescue plan announced for Europe overnight and until SPX breaks below its November 1st low near 1215 (getting it firmly below the 1220-1230 support area), we have to respect the possibility for another rally attempt back up to at least the broken H&S neckline again (if not up to 1307 for a 78.6% retracement of the May-October decline).

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1278
- bearish below 1215

Moving in closer with the 60-min chart below, if the market has reversed back down it would be cleaner if we get another new low tomorrow morning before getting a bigger bounce. The downside target is near the November 1st low (1215.57) or possibly down to 1201 where the decline from October 27th would have two equal legs down. As depicted, the bearish wave count (red) calls for a bounce tomorrow, perhaps up to the 1240-1250 area, before tipping back over for a stronger selloff into early next week. It now takes a rally back above 1273 (downtrend line from October 27th and the 200-dma) to negate the bearish wave count although I suspect we'd have earlier clues (such as a strong impulsive rally back up). The overlapping highs and lows in the bounce off the November 1st low confirmed that the bounce was a correction and looking for a lower high was the setup. This morning's decline confirmed it.

S&P 500, SPX, 60-min chart

The 15-min chart below shows what I'll be watching tomorrow. Assuming we'll get another new low early in the morning, we should then get a bounce into the afternoon before starting back down. A downside projection for the decline is to 1213.85, which as noted on the chart, is where the 3rd through 5th waves would equal the extended 1st wave. If we get a quick pop up in the morning and then a selloff we could see a low slightly above the November 1st low followed by the bigger bounce. A break above 1240 tomorrow morning (without a new low) would increase the possibility that we're only going to have a 3-wave pullback, opening the door to run to new highs into opex week. So bears should be mindful of 1240 first thing tomorrow morning and then watch to see if we get just a corrective bounce or something more impulsive to the upside. If we first get a new low and then a bounce above 1240 it would not negate the bearish pattern. With the higher bounce I will be watching for a bounce failure to get short for the next leg down. And lastly, if the market tanks hard tomorrow, starting with a big gap down, it would be uber bearish since the pattern would look like a 1-2, 1-2 wave count to the downside from Tuesday's high. That would call for a strong decline tomorrow morning followed by stair-stepping lower. I don't expect to see that but heads up (down) if it happens.

S&P 500, SPX, 15-min chart

After bouncing off its 20-dma at the November 1st low, the DOW then held its new uptrend line from October 4th, dipping down to it on Monday before starting one of those magical afternoon rallies. Today's decline is a firm break of both its uptrend line and 20-dma (11819), both obviously bearish. The bears need to see the November 1st low near 11630 broken and from there watch for potential support levels

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 12,190
- bearish below 11,630

On Tuesday NDX made it back above its broken uptrend line from March 2009 and for the 5th time since September's attempt, it has failed to hold. I suppose one could consider it bullish that resistance keeps getting tested and I might "buy" into that theory if we weren't seeing bearish divergence since mid October. The break of its uptrend line from October 4th, and well below its 20-dma, is bearish. Now we wait to see if the 200-dma near 2298 will provide support again. A break below 2298 would target the 50-dma near 2273 but it might not be much more than a speed bump.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2410
- bearish below 2298

The RUT paints a similar picture as the others. Its bounce into yesterday's high failed short of its downtrend line from July and the break below its 20-dma this time is a bearish signal. An immediate push back above 733 would neutralize the price pattern (and would improve the chances for a bullish sideways triangle pattern (not shown on the chart). Watch for support at the November 1st low near 712 and then a bounce for a shorting opportunity.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 757
- bearish below 712

As the euro drops from worry about the EU and European bonds become less desirable, U.S. Treasuries become the safe haven (lesser of the evils) and bonds rallied some more today. This pushes yields down (something the Fed wants to see as well) and today's decline in TNX, the 10-year yield, was a convincing break of the uptrend line from October 4th, like the stock market. The short-term pattern leaves open the possibility for another bounce up to the 2.22% area before heading lower but at the moment that looks like a lower probability move than simply lower from here.

10-year Yield, TNX, Daily chart

The banks rallied strongly on Tuesday afternoon and it was the one index that had me scratching my head in amazement. As mentioned earlier, the bond market was telling us the risks in Europe are rising fast and yet the banks rallied. Not only that, the BIX rallied up to its downtrend line from February when it shouldn't have been rallying to begin with. It was a short play from heaven handed to traders who were paying attention. Today's decline is a strong bearish engulfing candle, retracing price action since last Thursday, a break of its 20-dma and its uptrend line from October 4th.

S&P Banks index, BKX, Daily chart

Not only did BIX run back up to resistance at its downtrend line from February but it did so with a 3-wave bounce off its November 1st low, achieving two equal legs up into the close on Tuesday and the c-wave finished its 5-wave count, as shown on the 60-min chart below. It even finished with a shooting star for the final 60-min candle at the downtrend line. The setup was almost too pretty to be trusted. This was a gift to short traders, especially considering the message from the bond market. Of all the indexes I regularly follow, this one has me feeling the most bearish -- as you can see on the daily chart above, the mess of a consolidation since August will be completely retraced and then some. Wait for some Fib portion of today's decline to get corrected and then look to short it.

S&P Banks index, BKX, Daily chart

The TRAN has the same pattern and like the main indexes, it closed below its 20-dma today after staying above this important intermediate-trend MA since the November 1st pullback. It should continue down to just below 4500 before consolidation and then pressing lower again. That's assuming we're going to get a 5-wave decline this month as projected on its chart, finishing near the October low before bouncing into December.

Transportation Index, TRAN, Daily chart

With renewed worries over European debt the euro spiked down last night and the U.S. dollar rallied. The rally spiked the dollar out of its bull flag pattern that it's been in since its November 1st high (coinciding with the stock market's low on that day). The bullish breakout should be the start of a much stronger rally in the dollar and after a pullback that could test the top of the flag, near 77.40, assuming we'll get a pullback from here, would be an excellent opportunity to go long the dollar (UUP for example).

U.S. Dollar contract, DX, 120-min chart

The daily chart of the dollar shows it should be at the start of a very strong rally in the next couple of month, one that will take it well above 80 before pulling back in December and then launching much higher next year. The euro would see just the opposite.

U.S. Dollar contract, DX, Daily chart

Gold poked above the top of a bear flag pattern (I'm calling it a bear flag because of the corrective price structure inside it) on Monday and Tuesday, didn't like what it saw there and tucked tail today and dropped back down, creating a little throw-over finish (and another bull trap). The pattern fits well as a completed bounce correction to the decline from August and should be followed by another leg down. Two equal legs down from August would target 1416.

Gold continuous contract, GC, Daily chart

Silver has also been in a corrective bounce since September and has been relatively weak. It did not make a new high this week and a drop below 33 would signal a breakdown. Silver should drop to about 25 and then towards 20 and potentially much lower than that.

Oil's final (?) rally leg from November 1st was unable to get above the mid line of its parallel up-channel from October 4th, one sign of weakening in the rally. But it's still within its up-channel and there is still an upside target zone at 98.91-99.60 to hit two Fibs there. The lower one is the 162% projection for the 2nd leg of the bounce off the August low and the higher one is the 62% retracement of the May-October decline. But if oil breaks below 94 it will confirm the top of its bounce is in place, especially if the stock market is also dropping lower.

Oil continuous contract, CL, Daily chart

Other than the unemployment claims tomorrow we'll some export and import prices, the trade balance numbers and the Treasury budget. Nothing that will be market moving.

Economic reports, summary and Key Trading Levels

Other than the problems with European debt issues, the other shoe that could drop on this market is the fallout from MF Global, which has had very little press coverage due to Europe. But there's a problem with getting traders' accounts reconciled and funds/positions transferred to other brokerage houses. A story in Reuters yesterday, MF Global clients face shortfall despite protections, suggests there could be a big problem brewing with the segregated futures accounts, or at least they're supposed to be segregated and protected. Now there is concern by many that funds were commingled and futures account holders, who should be protected by the CFTC (Commodity Futures Trading Commission), may not be made whole.

The commodity futures industry has always talked about the safety of their account and how client money was protected by the independent clearing corporations. While the collapse of Refco in 2005 hurt general creditors, the segregated account holders were made whole. It would appear this might not be true with MF Global and if clients' accounts have been lost it will be a test of the system to see if those clients' accounts are made whole. It would be as though depositors at a regular bank are not made whole after the bank declares bankruptcy. The government has had no problem bailing out the banksters and if individuals are not made whole then the entire futures market could be in jeopardy. The current administration would be declaring war on individual speculators (those damned shorts!) while rewarding institutional speculators. You want to see the OWS movement expand exponentially?

Our financial system is based on trust and the credit market is based on faith that money owed will be money paid. If a MF Global fiasco results in loss of faith in the financial institutions, causing a drastic reduction in trading liquidity, the credit system will lock up tighter than a drum. This is a very serious situation that's not getting much attention at the moment. Keep your ears to the ground and listen and watch carefully. The collapse in the stock market in 2008 was largely due to a credit market that froze up.

Lastly, the current news from Europe, as reported in Reuters, is that "German and French officials have discussed plans for a radical overhaul of the European Union that would involve establishing a more integrated and potentially smaller euro zone, EU sources say." Hmm, I guess the ESFS idea might not work, especially since some of the countries the plan needs to leverage up the fund are the same ones who need the fund. And smaller euro zone? That doesn't sound promising.

As mentioned last week, I think the market is perched on the edge of the cliff and nothing in the past week has changed my opinion of that. But as depicted in tonight's charts, the fall off the cliff could see the market bouncing down to lower levels before getting a dead cat bounce in December before rolling off the steepest part of the mountain. Having said that, the risks just mentioned above put this market at great potential risk. I see little upside potential and a lot of downside potential so you know which way I'm looking to trade.

Good luck and I'll be back with you next Wednesday.

Key Levels for SPX:
- bullish above 1278
- bearish below 1215

Key Levels for DOW:
- bullish above 12,190
- bearish below 11,630

Key Levels for NDX:
- bullish above 2410
- bearish below 2298

Key Levels for RUT:
- bullish above 757
- bearish below 712

Keene H. Little, CMT