The market has been rallying this week on expectations the Fed will back off on the timing of a rate increase. As expected, today's FOMC announcement was for no change to the rate (still a measly 0.25%) and no guidance for when a rate increase could happen. The market continued rallying on the no-news event.

Today's Market Stats

Some high-profile earnings reports prompted a rally this week, or it could have been nothing more than short covering following a test of supports levels, and there's been an expectation the Fed will back away from a rate increase in September. Economic reports have not been supportive of the stock market's high valuation but its main focus has been, and continues to be, on what the Fed is going to do. The rally into today's FOMC announcement could result in at least a pullback while traders digest this week's gains and news.

The Fed mentioned the economy is expanding at a "moderate pace" while inflation continues to remain under its long-term target of 2%. The labor market is described as healthy, which is an improvement over June's statement in which they said the labor market had "diminished somewhat." With an unemployment rate around 5.3% (we won't count all those people who have dropped off the unemployment lines and who continue to be unemployed or underemployed), the Fed is keeping the door open for a rate hike in September but most believe the conditions are not good enough for a rate hike at that time.

The Fed did say they wanted to see "some further improvement in the labor market" and watch for evidence that inflation is starting to tick back up before raising rates. The policy statement kept the language that risks are "nearly balanced," which suggests the Fed is still more concerned about further weakening in the economy rather than rising inflation.

Most economists believe economic growth will improve in the 2nd half of the year vs. the 1st half. Since most believe that then we know the opposite is going to happen. As the economy continues to sputter along there will be an increasing number of analysts calling for a rate increase in December instead of September. I continue to believe the Fed has successfully painted itself into a corner and will not be able to raise rates for years and instead will likely institute another round of QE next year.

On Tuesday we received the report on new home sales and they were disappointing, coming in at 482K vs. 555K expected and a drop from May's 517K (which had been revised down from the originally reported 546K). Today we received the pending home sales and they also were very disappointing -- down -1.8% vs. expectations for an increase by +1.0% and a drop from May's +0.6% (which had been revised down from the originally reported +0.9%). A slowing housing market is a bad sign for the economy since so many businesses are dependent on the home market. We're getting the same slowing evidence that we saw prior to the 2007 market peak. It's certainly not supportive of the majority of economists who predict stronger economic growth for the 2nd half of this year.

These reports have been ignored by the market since last Friday (ignore that man behind the curtain) and in general the market has been ignoring multiple signs of economic slowing. But that's apparent only in the major indexes. If you look under the hood of the market you'll see a worn fan belt, fluid levels below minimum and a multitude of other problems that suggest your car is not going to take you much further. In a word, market breadth sucks.

On Monday there was an article written by Julie Verhage at Bloomberg.com site (Julie Verhage) in which the author described signs supporting the idea that the stock market could be topping. They're the same things discussed many times here but how it's starting to make mainstream financial press. That's a sword that can swing both ways -- it could scare traders away and make the market even more vulnerable to a selloff or it could be just another wall of worry for bulls to climb over.

Verhage pointed out the fact that the rally in the S&P 500 index was primarily driven by just two sectors -- retail and health care -- and that's the weakest market breadth since the high in 2000. This year's rally has been driven primarily by just six stocks -- Amazon.com Inc., Google Inc., Apple Inc., Facebook Inc., Netflix Inc. and Gilead Sciences Inc. More than half of the $664B in value added this year to the Nasdaq, according to JonesTrading brokerage firm, has come from these six stocks. For SPX, all of its nearly $200B in gains in market cap this year has come from Amazon, Google, Apple, Facebook, Gilead and Walt Disney Co. Market breadth has been weak and it's getting weaker, which is not supportive of higher prices. Prices can go higher but if it does so on continued weakness in market breadth it simply becomes even more vulnerable to a downside disconnect.

Also noted in the article was a quote from Stephan Suttmeier, a technical analyst with BofA Merrill Lynch, referencing a similarity to the condition prior to the spike down in October 2011. The uptrend line from March 2009 through the October 2011 low is what was used to show the bull market but it broke in June. Referring to the 2011 pattern, this is from Suttmeier's report (bold face is mine for emphasis):

"The 2011 build-up in new 52-week lows preceded a breakdown from a top in the S&P 500 and a peak to trough decline of 19.4 percent on a daily closing basis (21.6 percent on an intra-day basis) into October 2011. [The] difference is that over 40 stocks in the S&P 500 have hit new 52-week lows now vs. under 20 prior to the August 2011 S&P 500 breakdown, meaning that the setup might be more bearish now than in 2011."

The deterioration of new 52-week highs while new 52-week lows have been on the rise is shown on chart below. While SPX has been chopping sideways to marginally higher this year, in a pattern many are calling a bullish consolidation, the deterioration in market breadth warns us that it's very likely a topping pattern instead. Even during yesterday's and today's strong rally the new lows beat out new highs.

SPX vs. New 52-week highs and lows

Another chart comparison below shows SPX vs. the advance-decline line, which clearly shows fewer advancing stocks vs. declining stocks. A rally that has gone this long without even a 10% pullback since October 2011, showing this kind of bearish market breadth, is fair warning to those who believe the market only knows how to go higher. A breakdown, when it comes, is likely to catch more than a few investors asleep at the wheel.

SPX vs. advance-decline

The SPX weekly chart is another reminder about the choppy price range we've been in since SPX first climbed above 2040 in the beginning of November and it first reached 2100 in February. That's nine months of a choppy sideways market so if you're feeling whipped by this market and that you're not gaining any traction as an investor you can see why. Traders have had plenty of opportunities to trade both directions but even they have had a tough time because of the many whipsaws and give-backs. The pattern is still not clear and I see an equal chance from here of making new highs or finally breaking down. Some cycle work by traders I respect show now through mid-August as the next timing window for an important high in the market. Knowing this, what I've been trying to figure out is whether it will be THE top or a lower high as part of a correction to a decline that has already started.

S&P 500, SPX, Weekly chart

As depicted on the chart above, the bullish path could take SPX up to its broken uptrend line from March 2009 - October 2011, which was broken near 2105 on June 4th. There were a couple of back-tests in June, each resulting in a spike back down, and now another back-test in mid-August would see it up near 2190 (the trend line is currently near 2170). The 50-week MA has been supporting SPX on a weekly closing basis and it's currently at 2056. A weekly close below that level would be a bearish heads up, especially if it wasn't recovered by the end of the following week. The bottom of a shallow parallel up-channel since the December 2014 high is currently near 2030 and there's price-level support near 2040. A break below both of those levels would confirm a bearish move and below the February low near 1981 would confirm THE top is in place. The bearish divergence shown on the oscillators continues to be a warning sign for bulls to slow down and stay awake since there's potential danger ahead.

Here's another look at the weekly chart that shows a rolling top pattern. Typical of these topping patterns is a lot of chop as the index tops and that's certainly what we've had. Assuming SPX is in fact topping, the question is whether we'll see a choppy decline over the next few months, to mirror what we've seen so far this year, or if instead it will start to spike down. I suspect the latter but obviously we can't know. Just be aware that SPX needs to rally strong above 2200 to negate this rolling top.

SPX weekly chart with rolling top pattern

The sharp rally off Monday's low is just another reversal of a sharp reversal that we've seen multiple times in the past six months. There's no telling whether this rally will any better follow through than the multiple sharp moves before it. From a short-term perspective it's looking like the rally from Monday is completing a 5-wave move up and therefore the minimum expectation from here is for a pullback before heading higher (depicted in green). The bearish possibility is that the rally is another 2nd wave correction, like the July 7-20 rally, and that it will be followed by a very strong decline in a 3rd of a 3rd wave down. Depending on how corrective (choppy) the next pullback is we'll then get some clues as to whether we should be looking for a continuation much lower or if instead we should be looking to get long for a ride higher into mid-August. Roughly between 2045 and 2032 I've labeled the "chop zone" since that's the risk for anyone taking a position.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 2115
- bearish below 2040

The 60-min chart simply looks a little closer at the price action since late June. Those are big whippy moves and great trading opportunities if you were able to time the reversals (a challenge to say the least). Monday's low at its 200-dma was a very good setup to catch the ride back up, helped by short covering. Above 2100 keeps it bullish but back below 2090 would be potential trouble for the bulls.

S&P 500, SPX, 60-min chart

While SPX bounced off its 200-dma on Monday the DOW had broken it last week and today's rally brought the DOW back up to it. Will it hold as resistance with a back-test and bearish kiss goodbye to follow? That's certainly what the bears are hoping to see. It's more bullish above the 200-dma, near 17765, but then the bulls will have to battle the 20-dma, near 17805, and then the 50-dma, near 17908. The bulls have their work cut out for them if they try to tackle those MA's without at least a pullback to relieve the short-term overbought indicators. Too much too fast always makes the market vulnerable to a spike reversal, just as the strong selloff into Monday's low led to a spike reversal. One note on the bearish wave count -- it's uber bearish with a series of 1st and 2nd waves to the downside. I always question the count when it develops a series of 1st and 2nd waves like this but the risk is present for an extremely strong decline (call it a crash). I'm not predicting it will happen but I am saying the potential is there.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 18,140
- bearish below 17,250

The Nasdaq poked below its 20- and 50-dma's on Monday but then rallied back above them yesterday and today. It's now approaching, again, its March 2000 high at 5132. The bearish pattern following the first test of this level back in April is a 3-drives-to-a-high topping pattern (essentially a triple top) around this 5132 level and now a back-test, if followed by a bearish kiss goodbye, would likely lead to stronger selling. But a climb back above 5132 could lead to yet another new high and we'd then have to see if it's got better participation than the previous efforts at new highs.

Nasdaq Composite index, COMPQ, Daily chart

Key Levels for COMPQ:
- bullish above 5132
- bearish below 5025

Last week the RUT dropped below what fits as a H&S neckline, which is the uptrend line from May-July and is currently near 1231, a point below today's high. The RUT pulled back just enough into the close to finish just below the line. Here again we'll have to see if this is a back-test of support-turned-resistance that's followed by a bearish kiss goodbye. A selloff tomorrow would mean a short against today's high is a recommended position. It would be relatively tight stop with lots of downside potential. But it's possible we'll see just a test of Monday's low followed by a bigger bounce into the mid-August timeframe for a lower high in a cycle turn window. As long as the indexes remain inside the 6-month trading range I would stay cautious and don't get married to any positions.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 1263
- bearish below 1200

A market sentiment indicator that's not watched by many is a comparison of the performance of junk bonds (using HYG, the high-yield bond ETF) and Treasuries (using TLT, the 20+ year bond ETF). When HYG is outperforming TLT it's an indication traders are feeling more bullish about the market and want a better return from the riskier corporate bonds). But when traders start to get nervous and less bullish, if not bearish, they'll start to favor the safety of Treasuries vs. the riskier HYG. As can be seen in the daily chart below, the HYG:TLT measure had been in decline (from a high in December 2013) until the January 30th low. The daily chart doesn't show the decline from December 2013 but it formed a 5-wave move down. Since the January low we've seen a 3-wave bounce into the June 23rd high that is likely an A-B-C correction to the 2013-2015 decline. Following the rollover from June 23rd it broke its 200-dma on July 23rd, which it had used on May 29th and July 8th as support. Today's rally has it back up to its broken 200-dma and if turns out to be a back-test followed by a drop lower it would be a stronger sell signal and more evidence of traders shying away from risk. That in turn would support a bearish view of the stock market.

High Yield Corporate Bonds (HYG) vs. 20+ Year Treasury Bonds (TLT), daily chart

The TRAN had a strong rally the past two days, which obviously looks bullish, but the rally might be the completion of an a-b-c bounce off its July 8th low. It hit a price projection at 8402, with a high at 8432, and it poked above the top of a parallel down-channel based on an EW (Elliott Wave) pattern. This channel is created by drawing a line from the 1st wave (April 6th) to the 3rd wave (July 8th) and attaching a parallel line to the 2nd wave high (April 24th). The expectation is that the 4th wave should find resistance near the top of the channel, currently near 8380. If the wave count is correct then we'll see today's rally reversed and a drop back down to the bottom of the channel. If the 5th wave in the decline from February 25th achieves equality with the 1st wave we'll see the TRAN drop down to 7675 in August.

Transportation Index, TRAN, Daily chart

The choppy climb off the U.S. dollar's low back in May continues to support the idea that it's in a big sideways consolidation following the strong rally in 2014. There are several ways that consolidation could play out and the sideways triangle idea that I've been tracking is just one. It fits well as a correction pattern in its larger price pattern and I'll continue to track it until price tells me something else is playing out. There's a good chance the dollar will simply consolidate for the rest of the year before heading higher next year. This pattern suggests the Fed is on hold until next year, maybe December, when they might raise rates, in which case the dollar would strengthen against the foreign basket of currencies (the best of the lot but it's not saying much).

U.S. Dollar contract, DX, Daily chart

After gold broke below the price shelf of support near 1141, on July 17th, it then dropped down to support at 1090, which is the 50% retracement of its 2001-2011 rally. A bounce back up to the 1141 S/R line is possible but it doesn't turn at least short-term bullish until it gets back above that level. The weekly oscillators show no bullish divergence and that's another reason why gold bulls should not be too anxious to try to catch falling knives here. While the bounce could make a little higher, the longer it consolidates near 1090 support the more likely it is to break. A break below 1090 would point to a drop down to 1000, which is price-level S/R from 2008-2009. The bearish pattern for the year, which is looking for a 5-wave move down from January's high at 1307.80, targets 893 for an end to its decline, which would be a 62% retracement of its 2001-2011 rally. If that plays out I'd then be looking to be a long-term buyer of gold, but not yet (I might do a little buying at 1000). When I stop hearing about all the people buying gold (and silver) coins at new lows then I'll know it'll be my turn.

Gold continuous contract, GC, Weekly chart

Silver got a little bounce this week but as can be seen on the weekly chart below, it's not much in the larger pattern and so far it's just consolidating near support at 14.65, which was price-level S/R back in 2006-2010. I would not turn bullish silver until it gets back above shorter-term price-level S/R near 15.25, which was the shelf of support from November 2014 until it broke earlier this month. It's now resistance until proven otherwise and in the meantime the downside projection near 12 still holds. But silver bears can't get complacent here since last week's low could have been a successful test of the November 2014 low and the bullish divergence is a warning sign that support might hold here. If silver gets back above 15.25 I would also not want to be short gold since even a bounce correction could be significant.

Silver continuous contract, SI, Weekly chart

As with the dollar, my expectation for oil this year is a sideways consolidation before heading lower next year. But if oil does drop to a new low in the next few months I see the potential for a drop to about 40 and then the start of a much larger rally, maybe even back up to the $80 area early next year. Oil would become more immediately bullish above its May high at 62.58 but potentially choppy between 44 and 59.

Oil continuous contract, CL, Daily chart

We'll get the advance GDP report tomorrow morning before the bell and it could cause some market reaction if it doesn't come in near the expected 1.3%. Much more than that would be a good sign for the economy but a bad sign for Fed watchers. A stronger-than-expected GDP would prompt fears of a rate hike sooner rather than later. Other than that the market is still responding to some earnings reports but those will tend to be stock specific and not market moving now.

Economic reports and Summary

Conclusion

This week's rally has been brought to us via short covering and expectations for a helpful Fed (by staying on the sidelines with their silly talk of a rate increase). If the rally was mostly in anticipation of what the Fed would say then we don't have much more to drive the market higher. Combine that with another too far, too fast bounce and indexes up against lines of resistance, it's possible the flash-in-the-pan rally could be over and the bears will slide back in. The bullish wave pattern suggests we'll get just a pullback, perhaps retracing about 50% of this week's rally, and then another rally leg. The bearish wave pattern suggests this bounce correction is just one of many sharp bounces that we'll see in the "slope of hope" decline that has already started. If true then the next leg down could be rough on the bulls. It's a tricky spot right here and it will be the pattern of the next pullback/decline that will provide clues as to whether or not the bulls should be able to press the market up to new highs. Market breadth says they'll struggle to do that and the bears will pounce on any further signs of weakness. Trade carefully here.

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

Keene H. Little, CMT

In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying