Market Internals

Introduction

U.S. bourses pulled back this morning, then bounced off their lows. The pullbacks proved minor and, so far, in keeping with the "small range day follows big range day" pattern that we sometimes see. Their performance offers a caution that indecision showed up, but they offer nothing more than that as yet.

Monday's Developments

Those of you who were children up through the 70's may remember a childhood game called "Crack the Whip." Children joined hands and the leaders took off, zigzagging and tugging the other children behind them. Those at the end of the line had better be fleet and sure footed, as they were on the end of the whip being cracked. Sometimes they really were cracked: my broken collar bone testified to that, I'm sure other children were injured more severely. That's probably the reason that you don't see that childhood game played in schoolyards any longer.

We're being forced to play that game, like it or not. All summer, global finance ministers, politicians, economists, analysts and news commentators have been playing a game of crack the whip with global bourses. Just when bourses will be headed one way, they'll make an announcement that will whip them the other direction. We've been handed a break the last couple of weeks, but the traditional holiday month in Europe is drawing to a close and important meetings are scheduled beginning on August 23.

Over the next couple of weeks, the U.S. may figure as one of the leaders cracking the whip, too, as the Jackson Hole Economic Symposium 2012 approaches. The symposium takes place from Thursday, August 30 through Saturday, September 1. FOMC Chairman Ben Bernanke is scheduled to speak on Friday, August 31 at 10:00 AM and ECB President Mario Draghi is scheduled to speak the next morning, also at 10:00 AM.

Today, news flicked the whip again, testing the markets with a minor zigzag. The first small flick of the whip came overnight. In our good-news-is-bad-news economic world, Asian bourses turned in mixed performances on news that China's housing market may be strengthening. That means that China is less likely to ease further, many market participants concluded.

Probably before China's results were released, the Nikkei 225 gapped higher and traded higher through its morning session, but it lost steam in the afternoon session, perhaps after the Chinese data was released. The Nikkei 225 dipped into negative territory before recovering enough to close higher by 0.09 percent. The Hang Seng dropped 0.06 percent, the Straits Times was flat, and China's Shanghai Composite dropped 0.38 percent. The Shanghai Composite actually closed well off its intraday 2089.02 low, closing at 2106.96. This closing value matches--exactly--its previous six-month low from 7/31. It marks an equal-low test. Will the Shanghai Composite whip higher again or will market participants see prices whipped the other direction, through that previous low? Perhaps put China's Shanghai Composite on your radar screen.

European bourses got off to a mixed start, too, with a little flicking of that whip going on there, too. This weekend, Der Speigel published an article suggesting that the ECB was considering capping yields on borrowing costs. Today, a spate of ECB and other officials spoke out against the speculation.

An ECB spokesperson scolded those who speculated "on the shape of future ECB interventions," specifically referencing those who say the ECB will buy bonds. The spokesperson went on to say that the ECB would act strictly within its mandate, as reported in a MarketPulse article. This sounds as if there's been some reversals in the course of those at the head of the crack-the-whip game, but this may be posturing before the meetings that begin in Europe on August 23. I don't believe today's scolding is going to stop the speculation, of course, since that's what we humans do. We retail traders will just have to be prepared to be whipped around by the headlines of the day.

In an interview that was to appear in Germany's Frankfurter Rundschau ECB executive board member Joerg Asmussin asserted his preference that Greece remain in the EU. However, that was in preparation for stating that Germany's Bundesbank does not stand alone in its concern about new ECB bond-buying talk. Other entities were joining Bundesbank's show of concern. His second and third points were that the outcome is now in Greece's hands and that Greece's exit from the EU would be manageable, if that should occur, although likely not an orderly event. Reuters obtained an advance copy of the interview and reported it this morning.

As this week's meetings approach, meetings in which Greece is expected to ask again for an extension of time in which to meet ECB demands, it's impossible to ascertain how much these headlines constitute posturing. Last week, Germany's Bundesbank was reported to be more open to a discussion of bond-buying than had previously been thought, whipping our markets higher when it was believed that they might drop their opposition. Today's stories characterize the Bundesbank as stepping up the opposition and insisting on strict conditions being met before further help is offered.

Most European bourses saw end-of-day bounces off their lows, but they mostly still closed lower. The FTSE 100 dropped 0.48 percent; the DAX, 0.10 percent; and the CAC 40, 0.22 percent. Amid stern talk in the Eurozone, Spain's IBEX 35 dropped a deeper 1.21 percent.

Another warning about a potential default surfaced today, and it wasn't in Europe. Today, Belize missed a $23 million payment on $544 million of bonds. The finance minister admitted that the country is unlikely to be able to pay during the grace period that begins today, either. The yield on that debt had climbed from 6 percent to 8.5 percent this year. Some experts in debt strategy theorize that the country is trying to force a disadvantageous restructuring for debt holders after those debt holders rejected previous restructuring suggestions.

Reporting companies today included Lowes (LOW, 26.26, down 1.61 or 5.78 percent). The company disappointed, reporting earnings of $0.64 a share when analysts had predicted $0.70 a share. Sales declined two percent.

Urban Outfitters (URBN, 31.28, down 0.12 or 0.38 percent) reported after the close. The company reported profit of $0.42 per share, beating expectations of $0.33 a share. Revenue at $676.30 million was higher than the anticipated $672 million. As this report was typed, URBN had zoomed up to 36.35, up 5.07 or 16.21 percent from the day's close.

Story stocks today included Best Buy (BBY, 18.16, down 2.11 or 10.41 percent). The company has chosen French national Hubert Joly, currently head of Carlson, to step in to the CEO spot, a selection that investors failed to applaud. Carlson owns such companies as T.G.I. Friday's and Radisson. Joly will take over the reins from interim CEO Mike Mikan in early September, a Wall Street Journal article announced.

Wal-Mart (WMT, 72.30, up 0.31 or 0.43 percent) stepped up as a story stock, too, announcing the return and expansion of last year's popular holiday layaway plan. The plan will now include more items and will encompass a longer period of time, from September 16 to December 14.

In a move that investors did appear to applaud, Aetna (AET, 40.18, up 2.14 or 5.63 percent) announced today its intention to buy Coventry Health Care Inc. (CVH, 42.04, up 7.10 or 20.32 percent) for $5.6 billion. The cash-per-share part of the deal represents a 20.4 percent premium over Friday's closing price for Coventry. The move adds more than 5 million new members and increases Aetna's share of Medicare/Medicaid business. It doubles Aetna's Medicaid membership. This move occurs amidst other consolidations in the Medicare/Medicaid space, such as WellPoint Inc.'s recent deal to buy Amerigroup Corp. Some analysts concluded that Aetna appeared to be betting that government health care would remain in place.

More reports surface that Facebook's (FB, 20.01, up 0.96 or 5.04 percent) founder and Chief Executive Mark Zuckerman faces stanch criticism from investors and others. One of those others is Arun Sundararajan, a professor at New York University's Stern School of Business.

Apple (AAPL, 665.15, up 17.04 or 2.63 percent) topped $665 today as reports surfaced that Samsung Electronic's CEO would talk to AAPL's CEO in an effort to settle the companies' disputes before the jury begins deliberating. U.S. District Judge Lucy Koh had requested the talk between the two CEO's. I couldn't find news that a settlement had been reached, but AAPL doesn't need a reason to rise and perhaps someone knows more than I do anyway. The close cemented the company's status as the highest market capitalization of a U.S. company on a closing basis, according to numerous articles appearing after the close. If we have to consider European politicians and finance ministers as cracking that whip that drives our markets, we have to add AAPL as one of the leaders right up at the head of the line cracking that whip.

Today, auto club AAA said that U.S. drivers paid an average of $3.72 per gallon for gasoline. That cost was just above the 2008 previous high for this date of $3.717. Some experts expect to see $3.75 a gallon by Labor Day, with prices dropping after that, barring a hurricane that impacts production. In this weekend's Wrap, Jim Brown also mentioned the propensity for gasoline prices to fall after Labor Day passes.

Let's look at charts.

Charts

Those new to my Monday Wraps might find the following two paragraphs useful when interpreting my charts. Those who have read the Wraps can skip straight to the charts. I set up nested Keltner channels on my charts. It's a run-of-the-mill channeling system like the more familiar Bollinger Bands. As with those more familiar BB's, channel boundaries are often targets for upside or downside moves. They also mark levels where prices might find support or resistance on closes. When several channel lines converge, that potential resistance or support might appear stronger, just as it would if 20-, 50- and 100-sma's all converge in one spot.

For the benefit of subscribers, I mark potential upside and downside target/support/resistance levels with ovals, usually green for upside and red for downside. Orange ovals are sometimes used when the darker-colored ones would not allow for a clear examination of the next target. From now on, I will mention the nearest potential support or resistance level in the discussion on the chart, but not the further-out ones. They can be located on the charts if price breaks through the nearest levels on consistent daily closes. If an interpretation such as "support levels appear stronger than resistance, so up looks more likely than down" is possible, I'll tell you. Often we traders must be able to defend our trade against a move in either direction.

As with any type of potential support or resistance, those with profits should be protective of those profits as support or resistance is tested. If prices find support and climb, look to the next higher oval, even one just broken through, as potential resistance. Do the reverse when resistance is breached. Hopefully, this format provides you with the information you need without requiring all night to read as happens when I list each potential support or resistance level individually.

Annotated Daily Chart of the SPX:

Last Monday, I noted that the SPX had fulfilled many of the steps it usually took when setting up a rally pattern. Those included a strong gain, a mostly sideways move while the 9-ema rose up underneath it, a dip to test that 9-ema's support, and then a repeat of that action. The SPX needed the strong gain next. It took longer to produce that gain than it usually does with more days of consolidation, but the SPX finally produced that gain in a spectacular fashion.

In doing so, it has touched the bottom of the next target zone. This is where potential resistance can be found. The SPX is also at the point in this pattern in which it typically trades sideways for 1-5 days while the 9-ema rolls up underneath it again. Bulls want to see that pattern continue. Today's small-range candle could be part of that pattern, but we know what to watch in order to see that the pattern is changing.

The next upside target zone currently being tested extends all the way up to about 1432, but resistance on daily closes might be found at any point now. Protect bullish profits in this zone. If the SPX should break above its April high and maintain daily closes above it, look to the possibility that price will also break through the top of the chart's rising price channel and head toward next resistance marked by the green rectangle.

If, instead of merely trending sideways while the 9-ema rolls up underneath the SPX to provide support, the SPX breaks down through that average on daily closes and particularly if it produces daily closes beneath about 1395-1396, the pattern might be changing. In that instance, watch for the possibility that the SPX will roll all the way down through its rising channel again, testing marked channel and other support. Further downside targets are also marked in case the SPX should break through channel support.

It's natural for price to roll up and down within a rising price channel.

Annotated Daily Chart of the Dow:

The Dow's chart setup appears almost identical. Bulls want the same bounce, 1-5 days of sideways movement, dip to test the 9-ema and repeat pattern to continue. The Dow has moved to the bottom of its next target and potential resistance zone, like the SPX. Resistance could be found anywhere now. If the Dow should break above its early May high and sustain values above it, confirmed by daily closing levels above the top of its price channel, the next potential target is marked on the chart.

If the Dow should instead roll down through its 9-ema, producing daily closing values below it, confirmed by daily closes below 13,085-13,087, prepare for a possible test of the bottom of the price channel. Lower potential targets are marked if the Dow should break down out of that channel.

Annotated Daily Chart of the NDX:

The NDX's pattern is similar with regard to the action around the 9-ema, but the NDX broke out of the top of its rising price channel. Since its actions are so similar to the other indices in other respects, it's tempting to think that rising price channel just wasn't drawn correctly. However, note that the NDX was finding resistance at the underside of that top line for about a week before finally breaking through last week. The channel appears relevant. Bulls now want that channel's resistance to now serve as support on any retests.

The 9-ema now converges with the top of the former rising price chart. If the NDX should drop back now to retest the 9-ema, it would be testing both entities at the same time. A drop through the top of the channel and below the 9-ema, especially if confirmed by daily closes below about 2710-2715, suggests a further drop down to test the July swing highs. Further potential downside targets are marked on the chart.

Annotated Daily Chart of the RUT:

The RUT outperformed other indices at the end of last week, as all of us hapless souls forced to adjust our RUT trades know. However, back in July, the RUT broke through the bottom of its more sharply rising channel, and its climb since then has been along the underside of that former channel. The former support line has served as a resistance line as the RUT forms a new rising channel underneath that first one. Therefore the chart looks a little different, and the RUT's strength of last week must be viewed with a somewhat jaded eye.

Still the advice is the same. As long as the RUT is zooming up, trending sideways until it runs into or can dip to the 9-ema, and then repeating that action, it's maintaining a rally pattern. Technicians will recognize today's candle as an inside-day candle, another indication of indecision, and will look to a break outside today's range in either direction as sign of confirmed strength or weakness. Personally, I have never found "inside day" theory to be particularly trustworthy in my own trades, but it's possible that such breaks would lead to tests of the next closes resistance or support. In other words, maybe such breaks outside today's range would predict short-term direction, but I wouldn't count on it meaning anything more just yet, and I wouldn't even count on it meaning that much for a short-term moe, based on my own observations about inside days.

The RUT, like the other indices, has moved into the bottom of a likely target and resistance zone, so resistance might be found at any point now. Bulls want pullbacks to stop at the 9-ema. However, if they don't, the RUT risks dropping back to test the August 13 low. The potential support zone near there is composed of historical swing lows, congestion zone chop, moving averages and Keltner channel lines, so it's nearly impossible to ferret out the one price point that will make the difference. It must be considered a zone of possible support. A failure beneath about 786-788 on daily closes suggests a drop to test the August 1 low and maybe even to test the 755-758 zone.

Sometimes it's possible to conclude that AAPL is one of the leaders of that crack-the-whip game we've all been playing this summer. Sometimes the stock seems to be single-handedly propping up markets when they threaten to whip lower. No matter what kind of price channel, regression channel, triangle or wedge shape you had drawn on AAPL's chart heading into last week, it broke out last week. It broke above the April high. This is where I believe that Keltner channels help me most. In such a situation, where is one to look for the next potential price target and resistance zone?

Annotated Daily Chart of AAPL:

As can be seen from examining the chart, AAPL's stock sometimes adheres to the channel boundaries, as it did on tests on 4/18, 4/25, 5/18, 7/5, 7/9, 7/10, etc. Sometimes it does not, as occurred on the left-hand side of the chart, when AAPL zoomed outside the widest Keltner channel and just kept going on a strong momentum run. It's not a failure of the Keltner channels (or the more familiar Bollinger bands or less familiar Donchian channels) to predict price action when such a breakout occurs. Such breakouts show us or warn us that the underlying is on a momentum run. Trying to fade the run is like being stuck at the tail end of that crack-the-whip game: it can be fun, but it's certainly dangerous to those not fleet and sure of foot. It was dangerous last week when AAPL broke up through the middle Keltner channel and headed up to the top of the widest one.

Now that AAPL is closely approaching the next potential resistance, bulls are forewarned to watch for that potential resistance, perhaps by cinching up stops on their bullish trades. Any bears who have latched on thinking it's time for a turnaround can be forewarned to watch for another breakout as a sign that the stock is still on a momentum run.

Tomorrow's Economic and Earnings Releases

The economic calendar proves light across the globe tomorrow. FOMC Member, Atlanta Federal Reserve Bank President Dennis Lockhart, will answer questions from the audience when he addresses the Latin American Chamber of Commerce and World Affairs in Atlanta. Early in July, Lockhart claimed he was inching closer to lending support to QEIII if the economy weakened. With the FOMC Minutes to be released Wednesday, market watchers may attempt to glean hints about how close Lockhart was edging to that position and how the intervening economic releases might have impacted his stance.

Most eyes and ears will be attuned to Europe and, possibly, China, this week, especially as the August 23-24 meetings in Berlin approach. Be alert to the probability that many politicians, ECB officials and eurozone finance ministers will be issuing statements that reiterate or refine their stances ahead of these meetings and the markets might be dragged around like a child playing crack the whip. We may see warnings and promises and any manner of headlines that can whip our markets.

Tomorrow, our markets will also be awaiting Dell's earning after the close.

What about Tomorrow?

Annotated 30-Minute Chart of the SPX:

The SPX spent Thursday and Friday testing the upper boundary of the widest Keltner channel. Today, it dropped back into the middle channel. With this setup, the middle channel's upper boundary now looks like potential resistance, at the closest green rectangle. Of course that can be overcome by a gap higher tomorrow morning, and all that takes in this climate is a headline or two.

For now, a test of that nearest resistance seems about as likely as a test of the support near 1413-1415, and vice versa. A drop through that 1413-1415 zone on sustained 30-minute closes suggests a decline toward 1407-1409. A zoom up through 1418-1419 on sustained 30-minute closes suggests a test of 1420-1422. Further downside targets are marked on the chart, but look to the daily chart for further upside targets.

Annotated 30-Minute Chart of the Dow:

The Dow's setup is similar, although the Dow never quite made it up to the top Keltner channel line last Thursday and Friday. It, too, fell back inside the middle channel today. Now that channel's upper boundary can be presumed to be potential resistance on 30-minute closes. That boundary is marked by the nearest green rectangle. Sustained 30-minute closes above this boundary set a potential target at the next green rectangle. Potential support lies at moving average marked by the lower orange rectangle, in a band from about 13242-13252. Sustained 30-minute closes below that zone set up a potential downside target near 13190-13200. As the chart is set up now, it looks as likely for nearby support to be tested as for nearby resistance, and vice versa. Between that nearest green rectangle and the lower orange one, it's all just noise.

Further potential targets are marked on the chart.

Annotated 30-Minute Chart of the NDX:

The NDX not only tested the outer Keltner channel's (pink) boundary: it scrambled up on top of it and dragged its smallest (grey) channel up there with it. The NDX has been in breakout mode on this chart since Thursday morning and remained there today, too. When momentum is this strong, it's impossible to predict when it will wane, and the move can be equally dangerous for bulls riding the move or bears trying to fade it. The first tentative sign that something has changed would be sustained 30-minute closes beneath about 2773-2775, but that would be only a small and tentative change. A more trustworthy sign of change would be sustained 30-minute closes below the 45-ema, which should be between about 2769-2772 tomorrow morning.

The daily chart is needed to locate further potential upside targets, but downside ones are marked on the chart.

Annotated 30-Minute Chart of the Russell 2000:

Thursday morning, the RUT followed the NDX by also scrambling outside its widest (pink) Keltner channel and dragging its smallest (grey) channel up there on the roof with it. Today, the RUT managed to maintain most closes above that widest Keltner channel, but it was also showing the propensity to find strong resistance on 30-minute closes at the marked channel boundaries, even if those channel lines were climbing. That can of course change by tomorrow morning with one spoken sentence saying, "Yes, we will consider capping yields by buying bonds" by someone somewhere in Europe. However, for now, the RUT looks as if its short-term strength is waning.

First tentative proof will come with sustained 30-minute closes beneath the pink Keltner channel line, but more reliable proof of a change in tenor would require sustained closes beneath the (peach) 45-ema. That should be between 811-813 tomorrow morning.

We had a down day on most indices, but the pullbacks were small and were of the type we often see after large climbs. We're all standing breathless, waiting for the leaders to start running again and whip us one direction or the other. We have a defined rally pattern that we can use to set scenarios and make observations about any changes in that pattern. With volatility indices so low and equity indices testing resistance, think about what will be your benchmark for determining what is an expected pullback and what is something more.