Market Internals

Introduction

Traders have come to expect Monday to be a down day, and this Monday delivered with some notable exceptions. The SPX eased 0.22 percent; the Dow, 0.15 percent; the NDX, 0.62 percent; and the RUT, 0.44 percent. The SOX dropped harder, by 1.56 percent. Retailers underperformed. Homebuilders were weak despite Lennar's upbeat report. However, transports climbed 0.88 percent, and financials as represented by the BIX steadied. The dollar climbed, which sent some dollar-priced commodities such as crude and gold lower.

Asian bourses started the ball rolling downhill. Last night, the Nikkei 225 dropped 0.45 percent; the Hang Seng, 0.19 percent; the Straits Times, 0.33 percent; and the Shanghai Composite, 0.29 percent.

The European bourses followed suit. The FTSE 100 slipped 0.24 percent; the DAX, 0.52 percent; the CAC 40 0.95 percent; and Spain's IBEX 35, 1.12 percent.

Monday's Developments

Renewed calls for Spain to declare itself and ask for help contributed to the weakness in Europe. So did increased speculation that Greece is underreporting its budget deficit. More provocation can be found in today's economic reports. Last night, Germany's important Ifo Business Climate disappointed, dropping to 101.4 from a previous 102.3. The headline number had been expected to rise slightly to 102.6. The 101.00-101.5 area is an important one, marking both the last above-100 level in 2008 before the number slid into 2009 lows and also a zone of sideways trading after the laborious climb back up before the Ifo took off north again into 2011 highs. This is the fifth month in a row of lower numbers.

Germany's Ifo Business Climate, by Forex Factory:

Other global developments added to uneasiness. Iran ratcheted up the rhetoric this weekend, with a brigadier general asserting on the state-run television channel that if Iran believed that Israel was planning an attack, it would strike preemptively. It would also hit U.S. bases in Bahrain, Quatar and Afghanistan, as well as block shipments through the Strait of Hormuz, the brigadier general warned. This rhetoric was probably in response to the joint 25-country war games in the Persian Gulf and ahead of President Mahmoud Ahmadinejad's attendance at the U.N. General Assembly. While the brigadier general's warnings of WWIII might be scary, and we can never discount what Iran might do, such warnings are not new.

That was the state of things as the U.S. open approached. Iranian President Ahmadinejad's rhetoric was going to be even more inflammatory than his brigadier general's had been, saying that Israel would be eliminated, but we didn't know that as the market open approached.

That pre-open time period featured the Chicago Fed National Activity Index for August. The report's summary indicated that "August was a very weak month for economic data in general." The report's headline -0.87 certainly indicated that weakness. The prior report had measured -0.13 but was revised higher to -0.12. The prior revised three-month moving average had been -0.26, but August's weakness dropped that moving average deeper into negative territory, to -0.47.

Production fell from a positive number to -0.58. Employment and sales/orders/inventories components slipped into slight negatives.

Later, the Texas Manufacturing Survey for September, produced by the Dallas Fed, offered a contrast to the Chicago Fed's report. The prior business activity index for Texas had dropped to -1.6. Today's number rose, to -0.9, but that was below expectations for a rise to the flat-line or even into positive territory. The contrast was found elsewhere. The production index did rise above expectations. It was expected to come in a 6.4, and instead was a much more positive 10.0.

The summary characterized factory activity in Texas as increasing in September with stronger output growth. "Forward momentum may be picking up somewhat," the report concluded, since the new orders index, capacity utilization index, and shipments indices all rose. Plant managers remain "cautious about hiring," however. Hours worked edged up, and the employment component was positive but its lowest positive in more than year. Raw materials costs jumped.

Shortly before the market closed, at 3:30 PM ET, Federal Reserve Bank of San Francisco President John Williams addressed the City Club Roundtable luncheon in San Francisco. Audience questions were taken. Since Williams is a 2012 FOMC voting member, this speech and the question-and-answer session would have been gleaned thoroughly only a week ago. Would it have as much impact on trading today? As I searched this afternoon, I didn't find a single headline dedicated to his discussion. I did read about a meeting of the Group of 20's deputy finance ministers and central bankers in Mexico. Those aides concluded that recent efforts by the FOMC, Bank of Japan and ECB have helped but do not go far enough.

Story stocks today include LEN, PAYX, and RHT, reporting earnings. Homebuilder Lennar (LEN, 36.96, down 0.55 or 1.47 percent) said that the recovery in real estate was gaining steam. The company reported net income of $0.40/share against expectations of about $0.28/share. The company pointed to tight supply and low mortgage rates as helping the company almost quadruple its $0.11/share earnings from the year-ago period. The company noted an increase in its contract backlog of 79 percent, with this backlog an indicator of future sales. Costs for materials and labors increased. Most analysts felt it was a solid quarter, but that didn't stop LEN from dropping lower in early trading as other homebuilders also slipped lower. It dropped as low as $36.04 before spending most of the afternoon climbing off that low. Volume was almost triple its 3-month moving average.

Paychex (PAYX, 34.38, down 0.17 or 0.49 percent) reported after the close. Net income rose to $0.42/share, a penny more per share than the year-ago comparison and a penny better than expectations. Revenue was $568.1 million versus an expected $557.7 million. The CEO mentioned high client retention and reaffirmed 2013 guidance.

Red Hat (RHT, 57.54, down 0.10 or 0.17 percent) reported income that fell to $0.18/share versus $0.20 in the year-ago period, disappointing expectations of $0.21/share. Revenue rose to $322.6 million, above expectations of $310.80 million. The CEO emphasized their double-digit growth and recent recognition by Forbes on its list of the World's Most Innovative Companies. In after-hours trading as this report was prepared, price had been knocked back another $1.19 from the closing value.

Facebook (FB, 20.79, down 2.07 or 9.06 percent) figured among the story stocks. Today, a Barron's article called the stock "still too pricey" and set a price of $15 for the stock. The stock gapped lower. It traded as low as $20.36.

Apple (AAPL, 690.79, down 9.30 or 1.33 percent) shares dropped in early trading. It traded as low as $683.00. iPhone 5 sales topped five million in three days, but that apparently wasn't enough for some investors. AAPL also released information on its schedule for releasing the iPhone 5 across the globe. The company promised that it was "working hard to build enough iPhone 5s for everyone." Some pre-ordered phones will not be shipped until October and AAPL has sold out of its initial supply. The company also noted than 100 million updates of iOS devices to the new iOS 6. In after-hours trading, the stock was down another $0.94 from the close.

Last night, Apple might just have had a wee bit of a problem with production on those new iPhones. Several news sources report a temporary shut down of a Chinese factory owned by Foxconn Technology Group. The plant was variously portrayed as an "iPhone assembly company" and a manufacturer of the iPhone 5's back plate in different articles.

Police in the city of Taiyuan characterized the trouble as a personal dispute in a dormitory that spread to a mass brawl in which 2,000 participated. Employees and others posting online said factory guards beat employees, prompting a mass protest.

TiVo (TIVO, 9.94, up 0.38 or 3.97 percent) announced today that Verizon Communications Inc. (VZ, 45.68, up 0.04 or 0.09 percent) had settled pending patent litigation by entering a mutual patent licensing arrangement. Verizon will pay TiVo cash and quarterly payments that will total $250.4 million, subject to a credit of up to $29.4 million if "certain commercial initiatives" pan out prior to December 21, 2012. Verizon will also pay TiVo monthly license fees through July 2018. In after-hours trading, TIVO had added a few more cents and VZ had shaved a few more off its price.

Let's look at daily charts for an overview.

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:

The last week has felt like a period of weakness on the SPX. However, when the SPX chart daily chart is viewed, it's just a sideways-down pullback to the 9-ema. Routine. To be expected. A pullback like that was experienced from 8/21-8/23.

Does that mean that the SPX won't go lower? Let's look. For now, the SPX seems trapped on daily closes between equal-strength resistance and support. Potential resistance lies at the top of its rising regression channel and support, at the red 9-ema and other support converging at and just above 1449.

It's been quite a while in terms of both distance and time since the SPX traveled all the way down through the smallest of its Keltner channels and tested the lower boundary. Is it time for the SPX to do so? Doing so now by dropping to about 1438-1442 to test support there still wouldn't be a big negative for the SPX.

After such a support test, the SPX could bounce back up to retest the 9-ema, and we could determine if that moving average would then be resistance. If the SPX is weakened, it could instead decline through the through the rising regression channel. It's been a while since the SPX has tested that channel's support, either.

That's what could happen if the SPX falls through the current support and slips lower into further support tests. What happens if the support it was testing today holds? If window-dressing or some other as-yet-unanticipated cause propels the SPX up and through the top of its rising regression channel on daily closes, it would set a potential upside target that's now near 1490-1495.

Annotated Daily Chart of the Dow:

The Dow's sister index, the Dow Jones Transports, climbed today after a week of sharp declines. I would urge readers to keep that index on the radar screen as it sometimes leads the Dow.

Even a quick scan of the Dow's chart leads to the conclusion that its setup is much like the SPX's. Instead of the SPX's sideways-down movement, the Dow's sideways movement was a sideways slide right into a rising 9-ema. Routine.

Just as the SPX seems trapped between strong support and strong resistance, the Dow does, too. The Dow's support can be found at the converging midline of its rising regression channel and the rising red 9-ema, from about 13498-13521. The Dow's nearby resistance on daily closes is found first at the convergence of last week's highs and the top of its smallest Keltner channel and then at the top of the rising regression channel. A breakout above that rising regression channel on daily closes sets up a potential target now near 13,950.

However, it's been a long while, both in terms of price distance and time elapsed, since the Dow dropped to test the bottom of its smallest Keltner channel, now near 13380-13385. Is it time, just in the due course of things, for the Dow to drop back and test this support? While we don't know that this will happen, we should certainly expect that the lower channel boundary will be tested at some point.

This particular Keltner support seems a bit like too-stretched elastic when the Dow tests it, so we can't be at all certain that this Keltner channel line, now near 13380-13385, would immediately spring the Dow back up to retest resistance. We should still watch for that possibility if it is tested. However, it's been even longer since the Dow has tested the bottom of its rising regression channel. Keeling over all the way to test the bottom of that channel would be a possibility, too, once the Dow slipped as low as 13380. Neither support test would be a disastrous outcome or undo future possible gains, although they could each spell disaster for a particular trade, of course.

Further potential downside targets are marked, if needed. For the immediate period, we just don't know anything until the Dow breaks out of that tight convergence of support and resistance discussed here.

Annotated Daily Chart of the NDX:

The NDX doesn't adhere as much to channel lines or moving averages. The NDX setup is different and has been different for a while. Today, the NDX gapped below the rising 9-ema, not a good thing, but then rose to retest that 9-ema from the underside. Prices couldn't be maintained, and the NDX dropped back to close beneath the 9-ema. For today, anyway, the 9-ema was resistance on daily closes and not support.

If daily closes are maintained below the 9-ema, this action sets a potential NDX target near 2805-2810. The NDX doesn't adhere to as cohesively to boundaries, so keep that "potential" in mind and think in terms of "tentative" or "possible" rather than in "probable." With any index other than the NDX or RUT, I would be saying "probable" right now. The target has been set, but these indices are not like the staid indices that color their candlesticks within the boundaries. As bearish as the action seemed to be today, it was one day on an index that often overruns boundaries.

The lower boundary of the NDX's smallest Keltner channel now converges with the top of its former regression channel. The NDX scrambled outside that channel in early August and has mostly stayed above that channel since then. Any test that doesn't just barrel through that boundary may find buyers willing to nibble at new positions on NDX component stocks. They've been rewarded every time they bought there in the past.

If that buying fails to materialize or stick, or if the NDX barrels through that support, maybe it's time to stand back and watch. Support converging near the midline of its former rising channel may be next support, now at about 2750-2760.

If the NDX instead gaps higher one of these fine mornings and hurdles over that 9-ema again, last week's high is next potential resistance, followed by 2935-2945 if the NDX can maintain daily closes over last week's highs.

Annotated Daily Chart of the RUT:

The RUT's chart resembles the NDX's in many ways. The RUT gapped below the 9-ema and couldn't maintain its attempt to scramble back above it. The RUT has tentatively set a downside target near 835-840, with some light potential historical support perhaps kicking in about then, too.

I would not be surprised to see the RUT either tumble down to test that next support level--or even, possibly, all the way down to 823-830--or scramble back up and give last week's highs a go again. Traders definitely need to prepare their trades to endure either a tumble to 835-840 or a climb to last week's 868.50 high. If this were any index other than this one or the NDX, I would give more credence to the tumble-lower scenario than to the spring-higher one, but the RUT is like the NDX. It doesn't like to color its candlesticks within the boundaries. Overrunning boundaries doesn't always mean the same thing with the RUT as it does with the more staid indices.

Tomorrow's Economic and Earnings Releases

ECB President Draghi will be speaking in Berlin at an annual event put together by the Federation of German Industries. I do not know whether there will be a Q&A session associated with the speech, but it barely matters. His speech will be parsed for clues anyway. Unless he says something shocking, I don't think it will have the same impact it had two weeks ago, but we should still be aware that it is happening, especially with concerns about Greece and Spain heating up again.

Treasury Secretary Timothy Geithner will be in New York, addressing the Clinton Global Initiative. Again, no information was available as to whether he would be answering questions.

Companies reporting earnings tomorrow include CCJ, JBL, and MTN.

What about Tomorrow?

Annotated 30-Minute Chart of the SPX:

The SPX spent quite a bit of time today testing support on 30-minute closes that ranges from about 1452-1455. Although 30-minute candles regularly pierced the top of this support band, the SPX maintained that support on 30-minute closes. Bulls want to see that support maintained, or there's danger of the SPX dropping to the next support zone marked on the chart, from about 1435.50-1439.50. Of course, there's a specific line on the chart, but these are dynamic channel lines, and that channel boundary will have changed by tomorrow morning. Think in terms of zones.

This afternoon, the SPX attempted to scale higher and punch through resistance. That effort was not successful, with the top of that resistance band likely near 1461.50 by tomorrow morning. If the SPX gaps above that resistance tomorrow morning or scales above it and can maintain 30-minute closes above it, it sets a new potential upside target near 1464.50-1467.50. Again, these are my best estimates of where that dynamic channel line will have moved if the SPX climbs first thing tomorrow morning, but you also have Friday's 1467.07 high to lend potential resistance, too.

Further-out support and resistance levels are marked on the chart.

Annotated 30-Minute Chart of the Dow:

Again, the Dow's setup is similar, with some small differences. While the Dow tested the same support setup first thing this morning, it did not again dip that far the rest of the day. Was that showing some strength as compared to the other indices? Perhaps, remembering that the Dow's sister index was climbing strongly today.

However, the Dow's attempt to bulldoze through converging resistance was no more successful than the SPX's attempt. The Dow was knocked back.

Therefore, another retest of support converging from about 13500-13526 is about as likely as another retest of resistance near 13590-13600. Consistent 30-minute closes outside that web of support and resistance set the next marked levels as potential targets.

Annotated 30-Minute Chart of the NDX:

As is often true, the NDX's setup appears different. The NDX fell below the converging support and spent most 30-minute periods testing and sliding lower along a descending support level. When other indices popped higher this afternoon, the NDX did, too, but it was popping up to test the top of the construct that had been support for other indices and was no longer support for the NDX. All that chopping around managed to separate what had been converging support.

It looks as if the NDX would have to sustain 30-minute closes above about 2850-2853 or below today's low to set new upside or downside targets. Until then, the zigzagging is just noise. If you have a bullish heart, you can look at that chart and see an incipient inverse-head-and-shoulder formation, still lacking the right shoulder. If you lean toward the bearish direction, you see an index that was weaker than others when these Keltner lines are compared. Those next targets are marked on the chart as zones rather than particular lines.

Annotated 30-Minute Chart of the Russell 2000:

The RUT tested support today and hit it so hard that it drove the dynamic support line lower. Potential support on 30-minute closes has to be stretched now from last Thursday's 847.09 low to about 850.25. Sustained 30-minute closes below that level set up a potential downside target near 840, but that should be considered a target zone of a few points and not a specific point.

When the RUT drove higher with other indices this afternoon, it reached up test the top of its gap from this morning, Friday's close, and potential Keltner resistance on 30-minute closes. All that is clustered near 854-856. If the RUT can sustain 30-minute closes above that, the Keltner channels suggest it can drive all the way up to about 858-862. However, a look at the chart shows this morning's high, the top of Friday's gap, and numerous highs, lows, opens and closes near 856, too. In other words, there's a lot of potential resistance between the top of that Keltner resistance and the next upside target near 860.

Further out potential support and resistance levels are marked on the chart.

What do I think? I thought last week that it was getting time for the indices to test their 9-ema's. This time, I feel as if it's getting time, and maybe past time, for them to test the bottoms of at least their smallest Keltner channels on the daily charts and maybe even the bottom of their rising regression channels. That's just normal and natural behavior.

Will that "normal and natural" behavior happen now or at some time in the future? When I look at the SPX, and I see that it's maintaining its strongest rally behavior and I think of the way the transports rallied today and I think about it being an appropriate time for end-of-quarter window-dressing, I'm a bit skeptical. When I look at the NDX and see how it behaved with respect to the 9-ema today, I conclude that it behaved exactly as one would expect if it were time for that index to drop to the bottom of its smallest Keltner channel. That's a bifurcated view that I don't know how to resolve. Which index do I most trust? I'll just say that I think it's time in the normal course of markets for a pullback to stronger support without a huge conviction that it will happen just yet.