For the past week we've seen the major indexes chop their way marginally higher while running out of upside momentum. This follows a strong 3-week rally and it's looking like the bears might get a turn to play.

Today's Market Stats

The market has been refusing to sell off, especially after being lifted up from last week's low, but the rally has not been inspiring. The choppy push to minor new highs each day (again for the DOW today) has been met with bearish divergence and this has it looking like an ending pattern. Today's small break down looks like the first sign of the bears starting to get stronger.

The DOW was relatively stronger today as it was the only major index to make a new high, both this morning and again this afternoon, but it was not immune to an afternoon selloff that drove all indexes into the red. The RUT has been relatively weak the past several days and that was no different today as it led to the downside. Its relative weakness has been one of several warning signs for the bulls

There were no economic reports of significance this morning and it will be relatively quiet the rest of the week. The market has been more focused on earnings this week and while it hasn't been terrible, we're certainly not seeing barn-burning hot performance either. Many companies are still going into (cheap) debt in order to fund dividends and stock buybacks in an effort to show good earnings in a declining-revenue environment. This is especially true in the energy sector and all the debt they've accumulated is going to bite back soon. Without increasing revenue the clock is ticking...

Last week we saw a market save off following Wednesday's low, which led to a positive week for opex. As we know, opex weeks tend to be bullish but it was looking a little worrisome for bulls as of last Wednesday's close. But "someone" rescued the market, starting with buying in the futures market in the after-hours session, and another opex was saved. This week we've seen the market struggle to continue adding gains and as mentioned above, the buying surge last Thursday and Friday essentially stopped and this week the market has been more or less simply trying to hold up.

In case you think the bullish opex week is not true, a study done by Phoenix Capital Research shows it to be true. Wall Street banks, with help from Uncle Fed's money, tend to keep opex bullish so that their millions of dollars in sold puts expire into their accounts. The Fed, a private consortium of banks, taking care of itself. Who woulda thunk? The study by Phoenix shows the Fed's balance sheet over the past year expands on average about $10B during opex week and shrinks during non-opex week. Flood the banks with money during opex and shrink it back down during non-opex weeks -- we've seen this result consistently in the market. As Phoenix reported, "...this is during the period in which the Fed is NOT engaged in a QE program."

While the Fed is not pumping more money into the system, it has kep up its repurchase program and through selective timing it's been able to help the Wall Street banks during opex weeks. But while the Fed is not going further into debt, corporations have not yet slowed down adding debt to their balance sheets and it's starting to have a more negative impact now. The Wall Street Journal has reported that credit-rating agencies have been downgrading more U.S. companies than any other time since 2007-2009. Corporate debt levels have been climbing steadily higher compared to their cash flows and much of the debt has been used to buy back stock and continue dividends rather than invest it in new capital equipment/improvements. Analysts now expect profits at large companies to decline for a second straight quarter, which would be the first time since 2009. Just as ominous, trailing 12-month default rates on corporate bonds is on the rise, nearly doubling from 1.4% in July 2014.

Many of the credit downgrades and defaults are from the energy field but about two thirds of the downgrades are non-energy related. There's real concern about this "contagion" spreading out into stocks and other assets, especially since most participants in the stock market don't see it coming. As I'll mention with the first chart below, a credit crisis is looming and we're talking about individuals (think about the massive growth in student loans), corporations and governments that are far too much in debt. A collapse of the credit market will create a situation much worse than what we saw leading to the 2007-2009 stock market decline.

All of this is of course background stuff and it's anyone's guess when it will matter to the stock market, which most of us trade (instead of bonds, commodities and currencies). The best we have for predicting what will happen are the charts so with that, let's jump into them.

I want to start off tonight's chart review with a look at the market from 30,000 feet. Traders should feel as hypoxic at the market's current altitude as you'd feel at 30,000 feet without supplemental oxygen. The rally for SPX from 2009 managed to make it all the way back up to its broken uptrend line from 1990-2002, as can be seen on its monthly chart below. This follows the strong break of the trend line in 2008. But even with the significant new price high it's still showing bearish divergence compared to the 2000 and 2007 highs. From a macro view, one could easily time the market by simply staying long above the 12-month MA and flat/short below the MA. With this method you'd now be flat/short the market until we see a monthly close above the MA, currently near 2047.

S&P 500, SPX, Monthly chart with 12-month MA

Note the labels above each of the highs on the chart above for what they are -- a tech bubble into the 200 high, a housing bubble into the 2007 high and a Fed-inspired credit bubble into the 2015 high (cheap money has been misappropriated, including into riskier asset classes). As anyone who has studied markets knows, the popping of a credit bubble is always the worst one since it's highly deflationary, um I mean "disinflationary." It should be noted that since the 2009 low previous breaks of the 12-mma were met with the Fed starting another QE program. Will they save the market again? The trouble with that thought is that the market is beginning to understand the Fed is much less powerful than was thought back in 2010-2012.

Just as important a reason, if not more important, for why the Fed is hamstrung in its ability to start another QE program is as much political as anything else. Presidential primaries have started and one of the big sticking points for politicians is income/wealth inequality. Most politicians today talk about how they're going to correct it (Democrats, especially ultra-liberal Bernie Sanders, talk about higher taxes and income/wealth distribution, as has been supported by Obama) but the bottom line is that it's a real sore point with most Americans. And how do you think much of this disparity occurred? Cheap plentiful money going into riskier assets that are owned by the super rich, who have become super richer.

In this environment, can the Fed get away with another QE program? For the next year it's going to be very difficult for the Fed to make it easier for the rich to get richer without Congress and Presidential candidates feeling the intense heat from American voters. The Fed might not be political (cough) but you can bet they bend to the political winds. If the Fed is on the sidelines, other than continuing to keep liquidity in the system through its repurchase program, the stock market is going to have to figure out another reason why it should be as high as it is. With declining corporate revenues, and the resulting declining in P/E ratios (if not now then very soon), it's getting harder to justify the high stock prices. We now wait to see if the charts reflect some of these concerns.

SPX has made it up to what is likely to be tough resistance at price-level S/R at 2040-2045. SPX had cycled around this level from November 2014 through the end of January 2015 and then rallied above the level in February 2015. From there it held above this level, testing it in March and July as it chopped sideways for most of the year. This support level was then snapped with the strong decline in August, which trapped a lot of traders you were holding or bought into the rally since February. Many of these traders kicked themselves for not stopping out when that support level was broken and have vowed to get out once they can do so with minimal loss. This is what makes support turn into resistance -- traders do a lot of "thank you God" selling when the market comes back to the scene of the crime as they promise to never let that happen again (until next time).

SPX hit a high at 2039 yesterday, only a point below resistance, and with the market overbought through the daily timeframe, there's a good chance we'll see at least a pullback to regroup before heading higher (if it's to head higher). This week's new high and now a red candle could result in a bearish engulfing candlestick (key outside down week) if today's selling continues. The bearish setup here is that an a-b-c bounce correction off the August low will now lead to another leg down below the August low. Two equal legs down from July points to 1773 and then a little lower, near 1738, is its February 2014 low and the uptrend line from March 2009 - October 2011 (arithmetic price scale). It's obviously early, but I think that's where it will head next. The bulls need to see a rally above 2045 to turn this more bullish, but then it will run into potential trouble at its 50-week MA near 2060 (as well as its 200-dma at the same level).

S&P 500, SPX, Weekly chart

In addition to price-level S/R at 2040-2045 there is a downtrend line from July-August near 2040. With short-term bearish divergences over the past week as SPX pushes up against resistance I think the higher-odds play is the short side for at least a pullback before heading higher. As explained above, I think a short play here has the potential to make a lot of money with another strong drop into November/December but at the very least we should get at least a short-term pullback to play. If the pullback/decline starts down impulsively we'd then know to hold on for a bigger ride. But if it pulls back in a choppy corrective way then we'd know to play the short side for just a pullback and then get ready to buy it for another rally leg. At the moment I see little upside potential and big downside potential, hence a high reward vs. low risk potential with a short play.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 2045
- bearish below 1990

The 60-min chart below shows yesterday's minor break of the uptrend line from September 29th and then a bounce back above it with this morning's quick high. A drop below price-level S/R near 2020 adds another reason why the top is likely in place. It's only a minor break so far (2019 close) and it could easily recover. A rally above 2038 would obviously point higher, in which case the 200-dma, near 2060, would be an upside target. But if the market breaks down further on Thursday I'd look for a decline to about 1990, a corrective bounce back up, maybe back up to 2020, and then a stronger decline into the end of the month.

S&P 500, SPX, 60-min chart

The DOW was the stronger index today and it was able to push slightly higher in the morning and then again in the afternoon while the other indexes struggled with lower highs. If the bulls can keep the rally going we could see the DOW push up to its 200-dma, currently near 17576, about another 400 points above today's close. But there are two things that I see as trouble for further gains: one, the DOW has now bumped up against its trend line along the highs from 2000-2007, which it broke back below in August, for what could be a bearish back-test. A return to the scene of the crime should result in a strong rejection of price; and two, the way it's been chopping marginally higher since October 16th has it looking more like an ending pattern, with bearish divergence, rather than something more bullish. Earlier today I had pointed out why a drop below 17200 this afternoon would create a sell signal, which it did into the close. Notice that today's candlestick is a bearish engulfing one at resistance, which is a result of the new high and lower close, which creates a key outside down day (a reversal pattern).

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 17,300
- bearish below 16,887

The recent choppy move higher, easily seen on the SPX 60-min chart further above, looks like a distribution pattern as Big Money hands off inventory to the retail crowd. Once the selling starts to overwhelm the buying I think we'll see a sudden break to the downside. As shown on the daily chart above, the expectation is for another leg down below the August low following the completion of the a-b-c bounce off the August low. Not shown on the chart is the projection for another leg down that equals the May-August decline, which is at 14334 (almost 3000 points below today's high at 17315) if it starts down from here. That is close to the 50% retracement of the October 2011 - May 2015 rally, at 14378.

NDX made it up to the price projection at 4463, where the 2nd leg of its bounce off the August low is 62% of the 1st leg up and appears to be rolling over. But it still has a chance to stay bullish if it drops down to its 200-dma, near 4393, and uses it to launch another rally leg. Note that the Nasdaq is not as strong -- it rallied up to the same 62% projection but that was at its 200-dma, which it has been unable to break. The relative weakness in the COMPQ is a bearish warning sign for now.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 4403
- bearish below 4329

The RUT tried hard to break through resistance at its downtrend line from June and its 50-dma, both now crossing price-level S/R near 1152. Today's close near 1145 follows the second attempt to rally above these lines of resistance this month. A rally above yesterday's high near 1170 would be the third attempt, which would likely work and that would open up the next upside target near 1190 for a back-test of its broken uptrend line from October 2011 - October 2014 (arithmetic price scale). But a drop below its October 15th low near 1135 would suggest the next decline has started, one which could see the RUT down near 1000, if not lower, in November.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 1170
- bearish below 1135

Bonds have not been helping us figure out the direction of the stock market since they've been doing the sideways things for a couple of months. As can be seen on the TLT (20+ year Treasury bond ETF) daily chart below, it has been trapped inside a sideways triangle consolidation pattern since the June low and August high. I think it's building a bullish breakout pattern, which would not be confirmed until it breaks above the October 2nd high at 126.21, but I also recognize the potential to stay stuck inside a relatively tight trading range for at least another month. Notice too how TLT has been trading closely to its 20-, 50- and 200-dma's that are starting to group closely together. There's pressure building for a big move.

20+ Year Treasury ETF, TLT, Daily chart

I have occasionally shown a comparison between the stock market and HYG, the junk bond index (well, it's actually called the High Yield Corporate Bond fund). I've pointed out in the past the huge and widening gap between the stock market and HYG, which vividly shows how the risk-off trade is happening in the bond market (selling in HYG) while the stock market has continued higher, or held up this year. It's just another warning sign, one of many, for those who hold stock as the market holds up with steadily decreasing participation of stocks.

Below is another comparison with HYG but this time with LQD, which is an ETF composed of investment grade corporate bonds. The two ETF's have run mostly in synch for the past several years but started to diverge following the mid-year lows in 2013. HYG's bounce topped out in June 2014 while LQD went on to new highs in January 2015. In other words investment grade bonds were doing much better than junk bonds, indicating bond players were also taking risk off the table. The spread has continued to widen since January, which is just another sign that underneath the hood of the market, big players have been slowly decreasing their risk exposure while many TV pundits will tell you that this is a great time to buy risk (the stock market), with the belief the bull market has much higher to go. They could be right but that's not how I see it.

Investment grade bond fund (LQD) vs. Junk bond fund (HYG), Weekly chart

The U.S. dollar bounced off support last week, which is the top of a parallel up-channel from 2008-2011, currently near 93.85, and closed at its 50-week MA. I'm looking for another leg up into early November to complete a 3-wave move up from August and upside targets for the rally, assuming we'll get it, is first to its downtrend line from March-August, near 97 by the first of November, and then maybe up to 97.66 for two equal legs up from August. Once that's complete I'll then be looking for another leg down to the bottom of its descending wedge from March, perhaps finishing its pullback by the end of the year. That would then set up the next rally leg in 2016.

U.S. Dollar contract, DX, Weekly chart

Gold almost made a break for it last week but got slapped back down by gold bears. It had broken above its downtrend line from October 2012 - January 2015 and its 50-week MA, both near 1181, with a high at 1191.70 last Thursday. That high was only a few points shy of a projection at 1195.20 for two equal legs up from July. Last week's close was below resistance near 1181 and so far this week's red candle is pointing to a reversal into a decline that should take gold to new lows below the July low at 1072.30. A rally above 1195 would be more bullish.

Gold continuous contract, GC, Weekly chart

Oil has dropped back down to its broken downtrend line from September 1st for what could be another back-test. It had broken above the line on October 6th and then dropped back down to it for a back-test last Thursday. It bounced and is now back down for what could be another back-test. At the same time it is also back down to its 50-dma, currently near 44.91 (today's low was 44.86). A drop below its October 2nd low at 43.97 would obviously be a little more bearish, if only for a larger pullback, but for now it remains bullish into November with an expected rally up to 55-56 area before rolling back over.

Oil continuous contract, CL, Daily chart

Tomorrow will be a little busier for economic reports than it was this morning. Other than unemployment claims, we'll get some housing data (existing home sales, which is expected to be flat for September) and Leading Economic Indicators, which is expected to show slowing in September.

Economic reports and Summary

Conclusion

We had a good setup coming into this week for a completion of the 3-wave bounce off the August lows and with indexes up against significant resistance levels, and/or hitting price targets for the bounce, I liked the opportunity to play the short side. With the choppy climb marginally higher over the past week it's been frustrating trying to get an entry but I think today's rollover is a good sign for the bears. Short-term support and key levels were broken and while we could always see another surprise attack by the bulls, I think the odds are in favor of the bears here. Short with a stop just above today's highs should work and if not then watch for a continuation of minor new highs with bearish divergence as a reason to continue to look for a shorting opportunity. But if SPX can rally above 2045 I'd back away from the short side and watch to see if it can make it up to 2060 before considering another shorting opportunity.

The ECB will decide on Thursday whether or not to add to their 60 billion euro ($68B) monthly QE efforts. They haven't accomplished much for their economy (or stock market for that matter) but that might not stop them from trying more of the same failed monetary policies (what's that saying about insanity?). The recent decline of inflation into "disinflationary" territory (-0.1% was the last reading) could prompt further action but at the moment the consensus is that they'll stick with what they're doing. At any rate, it could prompt a bigger move in the stock markets.

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