The market hasn't moved much in the past month and it can be argued that the choppy consolidation is bullish. But the indexes are showing signs of cracking as important support levels might be giving way.

Today's Market Stats

For the past week we've seen the major indexes testing some important support levels and the choppy sideways consolidation can be viewed as a bullish continuation pattern. But today some of those support levels were broken and there is the potential it will lead to stronger selling. But so far we have only relatively small moves and the bulls could easily recover with another rally on Thursday/Friday.

It was another quiet day for economic reports and the market reacted more to a selloff in the overnight futures after a failed rally attempt. The morning dip was again bought but not as strongly as we saw on Tuesday (and multiple days before that) and the bounce attempt was given back this afternoon. The resulting price action leaves the market looking more bearish than bullish for at least the short term but the bulls can't be discounted yet.

This morning's economic reports that fall into the "inflation" numbers were the export and import prices, both of which rose +0.2% in March. This was down from +0.3% and +0.4% in February so there was some cooling in inflation, which could keep the Fed feeling like they have a little more wiggle room as far as feeling the need to continue rate increases.

The Fed has also been looking at the unemployment picture and the low unemployment number from last week (4.5%) is considered "full employment" and that has had many thinking the Fed has the green light to continue raising rates (higher inflation with full employment would leave them defending themselves if they don't raise rates).

But even as Janet Yellen acknowledged in recent comments (in a Q&A session at the University of Michigan on Monday), the decline in the labor participation rate is a "kind of hidden unemployment." She went on further, saying "We recognize that the unemployment rate itself might be a misleading indicator of the extent of slack in the labor market." It sounds like she's trying to give the Fed some wiggle room.

Another problem with the unemployment rate, which is not something the Fed talks about, is how the number could be wildly off the mark. As reported by Shadow Stats, the "birth-death" model that the Bureau of Labor Statistics (BLS), which relates to the number of new businesses started and failed, could be "creating" as many as 200K jobs per month. That would leave the actual number of new jobs dismally small.

The problem with the BLS model is that the actual number of businesses starting up has been falling dramatically for the past year. Some of the blame for this is the excessive number of new regulations from the Obama years but much of the blame is purely economics. So the unemployment picture is probably not nearly as rosy as we've been told.

But the Fed continues to communicate a desire to raise rates and/or trim their bloated balance sheet, which could cause higher Treasury rates if there aren't buyers to replace the Fed's demand for Treasuries (lower demand, lower prices, higher yields).

Compounding the problem for the Fed is that they're starting to worry about the stock market's euphoric response to Trump's election. There's been so much hope built into the stock market that that there's a high level of risk if the Trump team doesn't come through. And we're starting to see the air coming out of the hot-air balloon that rose following Trump's election.

All the hopes and dreams for a significant bump in the economy with a decrease in banking and business regulations and business taxes are now starting to crash on the rocks of reality known as Washington politics. Even with a Republican-controlled Congress it's becoming more apparent that Trump has an up-Hill battle on his hands. The stock market rally has been built on the premise that our economy is like a coiled spring, ready for significant growth once Trump enacts his changes.

There was an interesting article written yesterday by an analyst (Patrick Watson) writing for John Mauldin, titled Monumental Gridlock Meets Blind Euphoria, in which he discussed the problem with the euphoric response by the stock market and the reality that's now settling in. In the article he presented a chart done by Gavekal Research that I thought was interesting, shown below.

Coiled for Growth?

You can get more details from the article itself but summarizing, there are four options based on whether the economy is poised for growth and whether or not the Fed will tighten monetary policy aggressively. Considering the difficulty that the government will be able to do anything substantial in the coming year(s) and that the economy is sputtering along (low growth expectations), the higher probability is that the economy is not going to spring higher.

The case Watson made in the article is that the economy is the opposite of a coiled spring for growth. Add in the problem with a Fed that desperately wants (needs) to raise rates and/or trim their balance sheet, the most likely scenario is the 3rd one.

The 3rd scenario above says the Fed will make a mistake (I know, that's hard to believe since it's never happened before, cough) and tighten too quickly when the economy is not ready for it. The deflationary cycle that the Fed will help start means investors should buy the US$, bonds and stable growth stocks. Sell cyclicals, emerging markets and scarcity assets. If you read many of today's investment letters they're saying the complete opposite so the 3rd scenario above is a minority opinion. Oftentimes it's the minority opinion (betting against the masses) that works out the best. Food for thought anyway.

Before getting into stock market index charts I thought it would be good to review what's happening in the VIX, which has been climbing since hitting a low at 10.9 on April 5th. This low coincided with a high for the market on the same day before crashing lower that afternoon (supposedly triggered by the fact that Congress was not going to be able to get the new healthcare plan passed).

Since April 5th we've seen the market struggle to hold on but it has only chopped slightly lower; e.g., SPX hit a high of 2378 on April 5th and a low of 2337 on Tuesday before bouncing back up strongly. That's a measly -1.7% decline for SPX. In the meantime VIX has shot higher, climbing from 10.90 to today's high at 16.16, for a 48% increase. What's prompting the big move in the VIX and is it a strong warning for the stock market bulls?

Yes and no is the answer to the above question. The VIX increase could be related more to the trading in VIX futures but it's still a warning about what the commercial traders are betting on, or perhaps more importantly, what the non-commercial traders (speculators) are betting on.

The two charts below show the VIX and the VIX futures contracts and they tell a story.


Volatility index, VIX, Weekly chart

Tuesday's climb in the VIX broke a downtrend line from the November 4th high through the March 27th high (which coincided with the March 27th low for the stock market). Today it climbed higher and reached one of the "transition" levels at 16 (but did not close over 16). Over the years this level has marked a transition from complacency to creeping fear in the market.

Above 16 would be a warning sign that fear, which is a stronger emotion than greed, is starting to affect trader sentiment. The next level of resistance for the VIX, if it keeps climbing, is a downtrend line from January 2016 (the other peaks were June 27th and November 4th), currently near 19. Note the continuing bullish divergence on the VIX since March 2016.


VIX futures contracts, Weekly chart

Now we look at the VIX futures contracts to see which way the speculators are leaning. As we know, the speculators are typically wrong at major turns and right now they are massively short the VIX as compared to times past. There's a huge open interest in VIX futures but mostly long the VIX and in the meantime the speculators are in one of their largest short positions. Care to guess which way the VIX is likely to go?

A rising VIX, such as we're seeing, is going to cause massive pain for the speculators and as they cover it's going to drive the VIX higher. I think we're seeing that start to play out now and it's likely to continue. How that will translate to a move in the stock market is a big question but a rising VIX is generally not a good sign for the stock market.

The VIX futures and a climbing VIX doesn't mean the market will head immediately lower, especially since the price pattern supports the idea for another run higher, but as long as the professional traders continue to take the opposite side of the speculators in the VIX futures market I'd be very careful about the long side of the stock market.

So what does all this mean for the stock market? Are there any price patterns that tell us to get short the market and hang on for the ride? No, not yet and in fact I could argue for another rally to new highs once the current pullback completes. But that's not clear enough yet to suggest we should be buying the current dip. Unfortunately we'll need to wait for more price action before we'll have a better idea how the market could do over the next couple of months.


S&P 500, SPX, Weekly chart

Other than a couple of opposing large weekly candles since March 1st, all we have are small-range weeks as the bulls and bears fight for control. The only thing the bears have going for them at the moment is the drop back below the trend line along the highs from April-August 2016 (purple line). SPX had jumped above this trend line in February and has been dancing around it after dropping back below the line on March 21st.

Since dropping below the April-August 2016 trend line it has not been able to close back above it and that keeps it looking more bearish than bullish. But a choppy sideways/down consolidation can be argued to be a bullish continuation pattern and a bullish wave count (green) for the rally from February 2016 argues for another leg up once the pullback completes. I see nothing yet to negate that expectation and I'm watching for evidence in the pullback for possible completion (not yet) and a reason (or not) to get long for another (and likely final) rally.


S&P 500, SPX, Daily chart

Today was the first day since November 8th that SPX closed below its 50-dma. SPX broke it intraday on March 27th but then reversed sharply back up and closed above the 50-dma. It has tested it repeatedly since then and many have been calling for buying the dip to the 50-dma since it's generally a good buying opportunity in an established uptrend. Obviously if SPX is unable to recover back above its 50-dma, near 2352, it's going to set off some sell alarms.

In addition to the 50-dma there's an uptrend line from November 4 - March 27 near the same 2354 level. The 20-dma, which has been holding down rally attempts, is declining and is currently near 2357. Because of the choppy price pattern for the pullback from March 1st I have to consider several possible price paths from here (all the dashed lines on the chart) and right now all it means is that trades should be short-term oriented since there is a high risk for more reversals of reversals.

Key Levels for SPX:
- bullish above 2379
- bearish below 2322


S&P 500, SPX, 60-min chart

The bearish short-term patterns calls for an acceleration of the selling and a fast drop to the bottom of a parallel down-channel for the pullback from March 1st, currently near 2304. There's a price projection at 2300 for two equal legs down from March 1st and that coincides with price-level S/R near 2300.

A bullish possibility, other than rallying immediately from here, is for the completion of a small descending wedge for the decline from April 5th, which calls for just one more leg down to about 2327 to set up the next strong rally (bold green). For now, a rally above 2358 would be potentially bullish and a drop below 2322 would negate the bullish wave count and point lower.


Dow Industrials, INDU, Daily chart

The DOW has also broken its uptrend line from November 4 - March 27 (on Tuesday) and today it closed below its 50-dma, near 20644 (it will be near 20650 on Thursday. Also like SPX, MACD appears ready to roll over from at/below the zero line, which would create a sell signal. A drop below its March 27th low at 20412 would point to a possible move down to price-level S/R at 20K.

A rally above its April 5th high at 20888 could lead to a strong rally to the trend line along the highs from May 2011 - March 2015, which will be near 21330 by the end of the month (it will first need to get through 21K to exceed two equal legs up for a bounce off the March 27th low).

Key Levels for DOW:
- bullish above 20,888
- bearish below 20,412


Nasdaq Composite index, COMPQ, Daily chart

The Nasdaq tested its 50-dma on Tuesday and got a strong bounce back up to resistance at its 20-dma. Today it dropped back down to its 50-dma near 5830 but did not close below it. There's still a chance for the bulls to recover but they can't waste any time. The more the Nasdaq beats on support the weaker it will become. If the techs join the blue chips below their 50-dmas it's going to scare more than a few investors out of their positions.

Key Levels for COMPQ:
- bullish above 5937
- bearish below 5769


Russell-2000, RUT, Daily chart

The RUT has been the weakest index relative to its 50-dma and since dropping below it on April 3rd it has only been able to back-test it on Monday and Tuesday. Today's -1.3% decline left a strong rejection from the 50-dma, which leaves it on a sell signal. But like the Nasdaq, the bulls have a chance to save this if support at its uptrend from November 4 - March 27 holds, as it did on April 5th and 6th. At 1359, it closed on the uptrend line today so the bulls can't waste any time. Stronger support is price-level S/R near 1347.

It's possible the RUT has created a shallow H&S topping pattern since the left shoulder was formed back in December. The neckline is currently near 1332 and the downside projection from the pattern is to about 1250. That's just a pattern to consider but it provides downside risk assessment for now.

Key Levels for RUT:
- bullish above 1390
- bearish below 1347


10-year Yield, TNX, Daily chart

There's been buying bonds since March 10th and that has driven yields back down from the December-March double top (with bearish divergence). TNX is now slightly below the valley between the double top (the January 12th low at 2.309) with yesterday's and today's close below 2.3. This confirms the double top and suggests lower yields are coming.

But at the moment TNX has again found support at its broken downtrend line from June 2007 - December 2013, just as it did three times before in January and February. Multiple back-tests, as it's doing, generally don't work out well for the back-test to hold as support weakens and this is the 4th back-test.

The downtrend line is currently near 2.285 (today's low was 2.280) and as long as it holds we could see another bounce. The pattern since last December could be argued to be a bullish continuation pattern, which is why a break of support near 2.28 would suggest the 3rd scenario that Gavekal Research showed on their chart (first chart shown in tonight's wrap) would start to look stronger, especially if the dollar is also rallying with the bond market.


Transportation Index, TRAN, Daily chart

Along with today's losses for the SOX (-1.70%) and BKX (-1.1%), both of which were in sync with their relative weakness today, the TRAN was also a leader to the downside (-1.8%). All of them point to a slowing economy and that's not a good sign for the stock market (back to the Gavekal Research chart). The TRAN's decline follows several days of pushing up underneath its broken uptrend line from June-October 2016, which leaves a bearish kiss goodbye. This puts it on a sell signal that can only be negated with a rally above Tuesday's high at 9218.

As with the RUT and a few other indexes, there is a possible H&S topping pattern playing out, with the neckline from December through the March 27th low. The neckline is currently near 8730 so there's plenty of room for the bulls to pull something together. The downside objective for the pattern will be near 7925.


U.S. Dollar contract, DX, Daily chart

With Monday's strong rally in the US$ it closed above both its 20- and 50-dmas but Tuesday's selling and today's stronger selling has it back down below both MAs, now near and 100.65, resp. This leaves a failed breakout attempt and points to lower prices for the dollar. While I believe the longer-term picture for the dollar is bullish I think it first needs to complete a consolidation pattern off its March 2015 high. A drop down to the $90 area by later this year continues to look like a good possibility. But a rally above its March 2nd high at 102.27 would be more immediately bullish.


Gold Commitment of Traders chart, 2015-April 2017

On Monday I showed a couple of Commitment of Traders (COT) charts to highlight how much of a divergence we currently have between commercial and non-commercial traders in the S&P 500 futures contracts and the oil futures contracts. Both show large net-long positions by non-commercial traders (speculators) and large net-short positions by the commercial traders (professional). This simply highlights the risks in betting on the long side for both.

The same is true for gold, as can be seen with the COT chart below. Gold has been rallying since last December and today it made another new high for its leg up from December. But commercial traders have been building a larger net short position as the rally has progressed. The current spread between speculators, who are in a large net-long position, and commercial traders argue for a top soon in gold.


Gold continuous contract, GC, Daily chart

While the COT report argues caution by gold bugs, I do see at least a little more upside potential. If the rally from December is to achieve two equal legs up we're looking for a rally to 1335.10, shown on the chart. But it met its minimum objective today at 1281.39, with today's high at 1289, which is where the 2nd leg of its rally is 62% of the 1st leg.

Based on its price pattern I see a good chance for gold to reach its downtrend line from September 2011 - August 2016, near its January 2015 high at 1308. It would be more bullish above 1308 but maybe only to 1335. A drop back below its 200-dma, near 1261, would be a bearish heads up and then below its March 30th low at 1241.10 would mean the top of the bounce is in place.


Silver continuous contract, SI, Weekly chart

It could be instructive to watch silver here and see if a continuation of the rally in gold will be supported by silver. It's best to see them in sync when trading one or the other. Silver has now made it up to its downtrend line from April 2011 - July 2016, near 18.58, and now we should soon find out whether or not it will be strong resistance. At the same level is a short-term price projection for the 3-wave move up from December. It's also a test of its March 1st high at 18.51.


Oil continuous contract, CL, Daily chart

Oil pulled back today and while it could make it a little higher, to its shallow downtrend line from January-February, near 54.70, I see enough evidence now to suggest at least a deeper pullback, if not the start of the next leg down. The overall pattern of the bounce off the August 2016 low leads me to believe the bounce will lead to new lows (below the August low at 39.19). But a rally above the February 23rd high at 54.94 could lead to a shot up to 60 before the bounce pattern will be complete.


Economic reports

Thursday morning we'll get some more inflation numbers with the PPI reports. Along with the usual Thursday unemployment numbers we'll also get the preliminary Michigan Sentiment numbers, which are not expected to change much. A lower-than-expected number could upset the market if it's believed the drop in sentiment comes from a loss of hope in what the government will be able to achieve. Friday we'll get the important retail sales numbers, which will shed more light on what the retailers can expect. We'll also get the CPI data.


Conclusion

The pullback pattern from the highs on March 1st has been a choppy affair and as such it can easily be argued that we're getting a bull flag pattern. I've mentioned the potential for a choppy sideways/down pullback correction for most of April and that remains a possibility. It would chew up traders on both sides and is a big reason why I'm suggesting very cautious trading right now and make trades short-term oriented (take profits when offered). The reversals of reversals have left many traders holding the bag (with decaying options positions).

The short-term picture looks more bearish than bullish since some important support levels were broken today after repeated testing of support. That could kick in more selling as stops get hit. But the bulls could still pull another rabbit out of their hat if they hit the market with more buying immediately on Thursday.

The bulls need a rally above Monday's highs (SPX 2366) in order to negate the current sell signal but a rally above Tuesday afternoon's highs (SPX 2354) would be a bullish heads up. The bears just need to keep the bulls away from the buy buttons.

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

Keene H. Little, CMT