Market Internals

Introduction

U.S. futures held relatively steady last night while many global bourses fell. Although such action encouraged early buyers, would-be buyers were stopped in their tracks thirty minutes after the open by the disappointing ISM Manufacturing data. Was the bad news really good news because of increased possibility that quantitative easing would continue? Or was the bad news finally bad news?

Not helping in the morning was Atlanta Federal Reserve President Dennis Lockhart's widely disseminated statement that the improving U.S. economy would soon justify a "downward adjustment" to quantitative easing. He called the decision on timing now a "meeting-by-meeting kind of thing." He believes that even with slowing bond buying, the Fed's actions offer plenty of stimulus. As so many Fed speakers have done lately, he also muddied the waters by asserting that if the U.S. were to see deflation, the Federal Reserve still had room for additional actions.

By the afternoon as prices bounced off their lows, the whole thrust of Lockhart's interview had been re-characterized. His bullet points had been distilled to his statement that the central bank was still committed to record stimulus and planned no major shift. Market action appeared to have been slung around on the strength of various bullet points today, doled out one by one. Lockhart is not even a voting member this year. Low volume helped create the volatility surrounding the various theories about quantitative easing.

The indices swooned this morning. They turned around and headed up into positive territory again this afternoon. Finally, they surged higher into the close, dizzying those watching the day unfold. Perhaps focused on the hopes for another positive Tuesday, buyers apparently hadn't heard or didn't care what another Federal Reserve President had to say during the afternoon. San Francisco's John Williams, said that bond purchases may be reduced over the next three months and end altogether by the end of the year. Of course, he also noted that just because the Fed might soon begin reducing those purchases, it could then go the other way and increase them again if the need arose. Perhaps equity market participants decided to ignore what the Fed speakers had to say entirely and made up their minds that QE would continue unabated because of the weaker-than-expected data today.

The SPX gained 0.59 percent; the Dow, 0.92 percent; and the NDX, 0.30 percent. The RUT gained 0.65 percent, and the SOX, 0.45 percent. The Dow Jones Transportation Index eased 0.03 percent. Financials as represented by the BKX almost made it back into positive territory, closing down 0.01 or 0.02 percent. BAC had closed lower on high volume today. Volatility indices spiked higher during the downdraft portion of the day, only to pull back from resistance by the day's close. Both the VIX and the RVX, the Russell 2000's volatility index, spiked up to test resistance at descending trend lines drawn off the last two spike highs before they pulled back.

Currency moves have led some global bourses by the nose lately. Today was the expiry of USD/JPY and the EUR/USD, among other pairs. Whether due to those expiries or the signs of weakness in the U.S. economy, the dollar declined sharply. Dollar-denominated commodities such as gold, silver and crude rose, with heightened geopolitical risks partly to blame for rising crude costs. Gold (/GC) futures closed back above $1400 for the second day out of the last three trading days. Gold futures for June delivery settled at 1411.7, up 19.1. Silver (/SI) futures for June delivery settled at 22.715, up .487. Crude futures settled at 93.45/BBL, up 1.61. Ten and thirty-year bonds rose as yields dropped.

One of those geopolitical risks concerns Iran. Multiple articles warned that probable cleanup efforts at Iran's Parchin site would render it less likely that the International Atomic Energy Agency could determine whether prohibited atomic activity had taken place there.

Monday's Developments

The major Asian bourses turned in mixed performances. Last night, China's Non-Manufacturing PMI and HSBC Final Manufacturing PMI measured 54.3 and 49.2, respectively. The prior numbers measured 54.5 and 49.6, respectively. As Jim Brown reminded us this weekend, China's government-issued May PMI had risen to 50.8 when reported on Friday, a better-than-expected result. However, he also reminded us that the government's numbers tend to be optimistic. He cautioned that the HSBC Final Manufacturing PMI might be weaker than the government's estimate, as did happen.

The Nikkei 225 dropped 3.72 percent; the Hang Seng, 0.49 percent, and the Straits Times, 0.61 percent. However, China's Shanghai Composite climbed 0.57 percent.

If China's PMI weakened, a host of PMI numbers across Europe strengthened, even if many remained in contraction territory. European bourses were volatile today, most closing lower. The FTSE 100 dropped 1.98 percent; the DAX, 0.76 percent; and the CAC 40, 0.71 percent. Spain's IBEX 25 lost 0.44 percent, and Italy's FTSE MIB, 0.91 percent. In Turkey, protests triggered a sell-off. The iShares MSCI Turkey Investment Market Index (TUR) lost 9.95 percent. Although most sources attributed the selloff to the protests, others note that Turkey was rendered more vulnerable to a sell-off because of its recent outperformance to the upside.

Those global developments comprised the background when U.S. economic reports began appearing and the U.S. open approached. Today's U.S. economic reports started with the Markit Final Manufacturing PMI, appearing shortly before the market open. Expected to be flat at 52.00, this number inched slightly higher, to 52.3. Although this Markit report doesn't usually prove as market moving as the ISM Manufacturing that was to be released an hour later, its release did appear to take some of the shine off the U.S. futures pre-market rally.

Markit's summary noted that the rise in employment was the weakest seen since last November. While that might have cheered those Jim Brown calls the "QE junkies," another observation would have quelled hopes for an extension of quantitative easing: Markit also observed a quickening in the rate of input price inflation. Markit also noted modest increases in new orders and output. Markit termed the rate of output growth the lowest since October.

Economic releases after the open included the important May ISM Manufacturing. Experts had predicted a slight easing to 50.5 (percent) from the prior 50.7. Instead, the headline number dropped to 49.0. That drop puts manufacturing into contraction territory. This is the first contraction since last November, the Institute for Supply Management says, and only the second contraction since July 2009.

Categories contributing to the contraction included new orders, production and inventories. Although employment slipped lower, its 50.1 measurement remained above the contraction/expansion benchmark of 50.0. Moreover, the ISM data shows that the trend of expansion in employment is now 44 months long while many of the contracting components showed a trend of a single month. The news delivered by this report was bad, but it is not yet a trend.

Deliveries of supplies were also faster. Ten industries reported growth, and six, contraction. Those six included transportation equipment, miscellaneous manufacturing, chemical products, plastics and rubber products, computer and electronic products, and primary metals. ISM Manufacturing Prices did not echo Markit's conclusion of rising prices. Manufacturing Prices reported at 49.5, slightly below the expected 49.6.

April's Construction Spending also appeared shortly after the open. Construction spending also disappointed, but there's a catch. Although the increase in construction spending measured only 0.4 percent growth, far lower than the anticipated 1.1 percent, the prior drop in construction spending was revised. That drop had first been reported as a drop of 1.7 percent but was revised to show a more modest drop of 0.8 percent.

Moody's weekly Survey of Business Confidence reported a rise to 29.6 from the prior 29.1. Moody's cautioned that there had been a low response rate, perhaps due to the Memorial holiday, but concluded that reporting "businesses were feeling more upbeat." Sales and pricing were robust, and credit "as ample as it has been since before the recession." As Moody's has been reporting for several weeks, however, hiring and demand for office space stayed soft.

May's Vehicle Sales demonstrated mixed results. Chrysler Group and Ford Motor Co. (F) reported that sales in May topped year-ago sales by 11 and 14 percent, respectively. Ford saw a resurgence in sales of F-series pickups, reporting that sales were the strongest seen since 2005. Nissan said U.S. sales were 25 percent higher than the year-ago comparison.

General Motors Co. (GM) and Toyota Motor Co. (TM) reported increases from the year-ago levels of 3 and 2.5 percent, respectively. However, Volkswagen AG's U.S. VW sales fell 2 percent from the year-ago level.

Total vehicle sales climbed to 15.3 million. Year-ago sales had been 14.4 million, marking a 6.25 percent increase from year-ago levels if I've done my calculation correctly. Overall, sales were predicted to rise 7 percent over the year-ago level, although Ford officials claimed it would be closer to 9 percent. Month over month, sales increased 2.68 percent. Analysts point to greater discounts and new marketing techniques as increasing sales, saying that manufacturers are working harder to increase sales. Easier credit conditions have also contributed.

In other car-related news, Standard & Poor's announced that GM will be added back to the S&P 500 Index, replacing H.J. Heinz company after HNZ's acquisition is completed. GM has not been a component of the SPX since its bankruptcy in June 2009. During after-hours trading, GM jumped to 35.65, up 1.23 or 3.57 percent above the close.

General investment-related news came from Goldman Sachs this morning. Due to better-than-expected increases in dividends in the first quarter of 2013, the firm revised higher its forecasts for S&P 500 dividends for 2013 and 2014. The firm now pegs its dividend forecasts at $35.00 for 2018 and $38.00 for 2014. This represents 11 percent growth this year and 10 percent next year.

Story stocks included Merck & Co., Inc. (MRK, 48.45, up 1.75 or 3.75 percent). The stock's price reportedly was benefitting from news relating to one of its drug trials. The company tests a drug intended to put a patient's immune system to work identifying and then destroying tumor cells. Tests of patients with advanced melanoma showed tumors shrinking in 38 percent of the patients.

Bristol-Myers Squibb Inc. also benefitted from encouraging result on a drug for cancer patients. Like MRK's medication, the drug targets tumor cells and mobilizes the immune system to destroy them.

Also, due to a review of the available data by Duke University, FDA advisors have signaled that they will reexamine restrictions on GlaxoSmithKline's (GSK, 51.97, up 0.20 or 0.39 percent) Avandia. Due to the perception of increased heart attack risks, stringent restrictions were applied in 2010.

Intel (INTC, 25.24, up 0.96 or 3.95 percent) benefitted from the news that Samsung had chosen its chip to power its new Galaxy Tablet.

Pandora Media, Inc. (P, 15.22, down 1.80 or 10.58 percent) plunged 10.58 percent. Rumors surfaced yesterday that Apple (AAPL, 450.72, up 0.99 or 0.22 percent) had inked a deal to stream Warner Music's songs, adding to the Universal Music's song deal the company has already signed. With AAPL CEO Tim Cook's keynote address before the Worldwide Developers Conference on June 10 quickly approaching, market watchers speculated that the AAPL service could be announced as early as next week.

AAPL has its own problems. The trial into alleged price fixing of ebooks began today. The government showed screenshots from slides purporting to show efforts at price fixing.

Also, Fidelity Investments' Contrafund, the largest active shareholder in the stock, has been trimming its position in AAPL. In April, the fund trimmed that stake by a further 9 percent.

Two companies--Williams Sonoma (WSM, 53.63, down 0.33 or 0.61 percent) and Hyatt Hotel Corp. (H, 40.79, down 0.33 or 0.80 percent)--had mini flash crashes today, Ronald D. Orol of Capitol Report noted. Hyatt's price first jumped to $53.00 a share from $40.96 a share, all in 100 milliseconds, and then down to $41.18 within a second. WSM dropped to $51.27 a share from $53.50 a share in less than a second. Reportedly, the NYSE cancelled shares executed at or below $51.96 during that second. These mini flash crashes were due to poorly executed trades, the article concluded.

F5 Networks, Inc. (FFIV, 79.16, down 4.05 or 4.87 percent) had a rough day not caused by erroneous trades. It had dropped a further $0.48 in after-hours trading. Morgan Stanley downgraded the company to a neutral rating from the prior overweight rating.

In late-breaking news today, federal regulators have apparently identified non-bank companies that could present systemic risks to the economic because they're so large or interconnected. Such companies might require more oversight, liquidity and capital to reduce the systemic risk. Such companies would have thirty days to challenge the decision. The names of those so-designated companies have not been publicly disclosed, but are expected to be disclosed after final review and decisions are made. The list is expected to include AIG, GE Financial and Prudential Financial (PRU) along with other companies.

Let's look at daily charts. We'll find that many indices have set tentative new downside targets, but that's it possible that upside resistance will be tested before those targets are approached. If so, those resistance tests will give us much needed information and perhaps calm some of the queasiness caused by today's action.

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 week, the SPX retreated back inside its nested Keltner channels after its momentum run outside them beginning in early May. The pullback action demonstrated resistance on daily closes at the grouped overhead channel lines and even the turning-lower red 9-ema. This action sets a tentative new downside target, from about 1590-1615. A sustained break below about 1590 would mark a difference in the way the SPX has behaved for many months. If this potential target is tested and does not hold as support on consistent daily closes, the next tentative downside target is set, with that target from about 1550-1570.

Today's daily candle left behind a lower candle shadow or wick, indicative of buying at the day's lows. Although the SPX still maintains--so far--a downside target, the buying must be acknowledged. Bulls have not been scared away. If the SPX should rise again over the next few days, bulls should be especially protective of profits in the 1640-1660 range, where it's possible that a rally attempt could be stalled on daily closes. On a breakout above that resistance, potential resistance extends all the way up to the 1687.18 previous high, of course.

In normal market conditions, I wouldn't be surprised to see either an immediate downturn or a relief rally before the downside target is more closely approached. However, I would not expect consistent daily closes above the 1640-1670 range before the 1590-1615 zone is tested.

However, as today's mini-flash crashes in two stocks proves, we don't have the same herd governing our markets' behaviors now. We are instead seeing prices driven hither and dither by high-frequency trading and by the impact of various Fed statements on low-volume days. Anything can happen.

If closes are produced above that 1640-1670 range, next resistance extends all the way to the recent 1687.18 high. It's not until the SPX sustains closes above that zone that the all-clear has been sounded for more gains.

Annotated Daily Chart of the Dow:

Similarly, the Dow has set a tentative downside target at about 14890-15050. A failure to sustain daily closes at or above the bottom of that range would mark a difference in the Dow's pattern over this calendar year. That action would also set a potential downside target near 14380-14560.

In normal market conditions, I would expect the Dow to approach its nearest downside target before it sustained daily closes above 15250-15340, although perhaps not before a retest of that potential upside resistance. Indeed, that retest began today when buying steadied the Dow and sent it up to test the bottom of that next resistance zone. Sustained closes above that 14890-15050 resistance would alert traders that the normal conditions were not in play and that there was more potential upside. Even so, the potential for that upside should be viewed guardedly until the Dow could produce daily closes above its 15542.40 recent high.

Annotated Daily Chart of the NDX:

The NDX produced a small-bodied candle with a long lower candle shadow or wick. The NDX, unlike the other two mentioned indices, dropped all the way to closely approach its downside target, and support there has so far held. That target downside target was from about 2910-2950, and the NDX hit a low of 2950.87 before buyers stepped in.

Bulls can be cheered that support held just where expected, but let's look at what needs to happen first before bulls cheer too heartily. First, although the candle indicates that a resistance test could occur before another support test, that's not a given. The NDX's afternoon melt up stopped short of the flattened red 9-ema near 2995, for example, much less below 3000's round-number level. A pop higher tomorrow morning could hit that resistance and be pushed lower again.

On any support tests, a failure to sustain daily closes at or above that 2910-2950 target zone would set a new potential downside target from about 2800-2830, although the April peak high cannot be ignored as potential support on any downdraft.

Going into today's trading, I suspected that the downside target being hit before the NDX could maintain closes above 2990-3020, although perhaps not before a retest of that resistance. I'm not so certain what to expect now that the NDX tested that downside target and bounced. A further resistance test is suggested but its outcome or duration are not guaranteed. It's the outcome of that test that will give us our next bit of information about the markets. We should be open to all possibilities.

Sustained daily closes above that 2990-3020 resistance would alert traders that a rollover was less likely, although such closes would not promise further gains. The trader would have to see sustained closes above the recent 3053.51 high before believing too strongly in further breakout potential.

Annotated Daily Chart of the RUT:

The RUT has set a new tentative downside target from about 950-965. On any support tests, failure to sustain daily closes at or above that target zone sets a new downside target from about 915-925.

The RUT's daily candle also left a long lower candle shadow or wick, demonstrating buying at today's low. The RUT did not convincingly clear the grouped resistance just overhead, although its end-of-day push drove it slightly above the red 9-ema at the lower end of the potential resistance zone. For now, the downside target remains a possibility. Under normal market conditions, I would expect that nearest downside target to be tested before the RUT could sustain closes above the top end of that 985-1000 potential resistance zone. We have to wait out the test to be sure. Today's candle left that long lower wick, suggesting further resistance tests. Sustained daily closes above that resistance zone would lessen the chance of the RUT rolling over to hit that lower potential target. However, it would take sustained closes above the RUT's recent 1008.23 high before the all-clear for bullish hopes would be issued.

Annotated Daily Chart of the Dow Jones Transports:

As so often happens, the Dow Jones Transports have led the way. In this case, the $DJT today tested the same configuration that marks the potential downside targets for the other mentioned indices. So far, only the NDX and $DJT have hit those downside targets, but they warn that other indices could, too. The RUT's behavior proves puzzling since it would normally be leading the markets to the downside, too, along with the $DJT.

Watching the $DJT doesn't always give us precise market-timing information, but it can let us know what is possible and what is less likely.

Tomorrow's Economic and Earnings Releases

This week's important economic events are carried forward from Jim Brown's weekend Wrap.

What about Tomorrow?

Annotated 30-Minute Chart of the SPX:

Before this morning's swoon pushed Keltner lines lower, the SPX began the day with a potential downside target on this chart near 1622. At today's 1622.72 low, the SPX nearly reached that first target, by then pushed much lower by the price action.

The afternoon bounce converted the red 9-ema into support again on 30-minute closes. As long as that continues, the short-term pattern established in this afternoon's bounce maintains its same tenor.

However, traders should note that the afternoon bounce reversed less than 50 percent of the swoon from Thursday's peak high into this morning's low, much less 50 percent of the decline from last Tuesday's high into this morning's low. It's far from a foregone conclusion that the SPX will continue on its merry way, particularly since we can assume that some of this afternoon's bounce was produced by short-term traders trying to game the 21st-Tuesday-in-a-row presumed (their presumption, not mine) gains tomorrow and particularly since it stopped short as it tested the 1640 level. The 1640-1648 zone now becomes important potential resistance on 30-minute closes.

Potential support and resistance zones are marked. As long as daily closes remain above a rising red 9-ema, the tenor has not changed. If the SPX should pull back tomorrow morning and maintain closes beneath about 1629, that 1600-1615 support zone becomes a potential short-term downside target.

Annotated 30-Minute Chart of the Dow:

Helped by Merck and Intel, the Dow never closely approached its potential downside target on this chart today. By today's close, it, too, had formed a pattern of 30-minute closes above a rising red 9-ema. However, like the SPX, the Dow failed to push above presumed strong resistance zone on 30-minute closes from 15230-15290, although it did push into the bottom of that zone.

Therefore, we can see that there's a valid short-term rally in place, but we can't presume that it's any more than a relief rally. Tomorrow, bulls would like to see consistent 30-minute closes above a rising red 9-ema and then sustained closes above the being-tested next resistance zone. Further potential upside targets are marked in case the Dow can achieve that goal as momentum traders vie for a 21st positive Tuesday in a row.

Sustained 30-minute closes beneath today's low target the short-term downside potential support near 14975.

Annotated 30-Minute Chart of the NDX:

The NDX also did not reach its potential downside target on this 30-minute chart today before buying kicked in. Like the other indices, its bounce formulated a pattern of 30-minute closes on a rising red 9-ema. The last 30-minute candle was so strong that it outstripped that support and ran through the next resistance level, too. It needs a pullback to confirm that support, but momentum may carry it further before such a support test occurs. The next potential upside target is marked, as well as potential downside targets if the NDX falls through support tomorrow morning.

Annotated 30-Minute Chart of the Russell 2000:

The RUT followed the NDX's pattern, momentum surging it up and through what had been the next potential resistance level in the last few minutes of trading. Like the NDX, the RUT needs a short-term retest of at least the 987 level if not the rising red 9-ema on the 30-minute chart. Whether that retest will occur is impossible to predict at this point. The next potential upside targets are marked, as are potential downside targets in case the RUT heads lower tomorrow morning and breaks through the 987-ish support on sustained 30-minute closes.

What do I think? I'm almost too dizzy to think, along with a lot of other market participants. What I think that I think is that we saw some front-running of another possible Tuesday rally this afternoon. We saw prices whipped around on low volume as participants attempted to decipher what today's ISM disappointment meant in the long run and what Fed speakers really meant. We saw both effects aided by buying when indices held support through the middle of the day. Long lower candle shadows or wicks on the daily charts suggest that there could be further resistance tests tomorrow, but that's not a given, and they certainly don't promise that resistance will be surmounted. Most of these indices moved up toward (and the RUT, slightly through) retests of their daily (red) 9-ema's). That's something we expect to see happen on downturns just as we expect to see pullbacks to retest the 9-ema's support when the indices are rallying. Nothing dire has happened, but neither have we yet seen how these resistance retests will progress. The potential downside targets are not yet erased and won't be until the indices sustain daily closes above the levels discussed earlier.

As mentioned earlier, both the VIX and the RVX, the Russell 2000's volatility index, spiked up this morning to test resistance at descending trend lines drawn off the last two spike highs. Both found resistance there, just as equity bulls wanted to see happen. A further downturn from today's values represents the same old garden-variety type of retest we've had the last two times the volatility indices have spiked higher. An upside breakout that closes above today's highs on both indices represents more danger of a more significant pullback in the equity indices, something outsized from what we've typically seen this calendar year. That's a possibility, but so far it remains only one possibility among several.

Perhaps tomorrow the Tuesday effect will repeat, but some Tuesday, the Dow is going to drop. I'm not paying any attention to the Tuesday effect but rather looking at charts and trying to keep my risks managed in these whippy market conditions. I hope you're managing them, too.