Last week's week decline emboldened the bears but the recovery off the lows now has the bulls believing they can push the indexes to new highs. Today's political and Fed (one and the same?) news created some volatility but the bulls held the upper hand.

Today's Market Stats

Today finished with a small doji candlestick, which could be the mark of a top for the bounce off last week's lows or just an indecision day on its way to higher highs. The political news and then Fed news this afternoon caused a little bit of volatility but the VIX dropped back down a little more and the stock indexes added a couple more points to their rally from last week. The big question is whether the rally is just a bounce correction or the start of the next leg up to new highs.

The political drama surrounding the Trump administration probably is not causing much stir in the market anymore since most people think it's just a bunch of noise (they're right). But the disbanding of the President's business advisory councils, which I'm sure had nothing to do with the recent departure of key CEO's from the council (wink), has many wondering what that might mean for businesses. Keep in mind that much of the "Trump rally" was an expectation that there would be some important changes to help businesses. Much of what Trump wanted to accomplish has been blocked by people with different agendas.

The other news today was from the Fed and their FOMC minutes from their last meeting. They're turning a little more dovish as they recognize the fact that the low inflation rate might be more than something "transitory." As noted in the minutes, the Fed "saw some likelihood that inflation might remain below 2 percent for longer than they currently expected." The Treasury market took notice and rallied, which dropped the 10-year yield to 2.23% (-1.8%).

The Fed's economists, all essentially schooled in the same beliefs (can you say "group think"?), believe in the Phillips Curve thesis, which is a simple mathematical inverse relationship between unemployment and inflation rates. The theory is that the lower the unemployment rate the higher the demand for good workers and therefore the greater the demand for higher wages, i.e., inflation. The problem is the unemployment rate does not reflect the state of employment as more workers have been forced to find lower-paying jobs just to get employed.

The Fed seems unable to assimilate the information from this changed economy and how to plug it into their black & white formula. The Fed is truly befuddled by the lack of inflation in this "low" unemployment environment. It's a good example of what I call "intellectually intelligent, common sense stupid."

I saw the same thing happening with the Fed in the lead-up to the bursting of the housing bubble in 2006-2007 with the sub-prime debacle, which of course led to the collapse in the financial industry (which was bailed out by the government). Bernanke and the rest of the Fed heads were incapable of seeing it coming and the Fed is just as incapable of figuring out our new (weaker) economy. And yet the market still pays rapt attention to the Fed. I don't get it.

The other news from the FOMC minutes, as well as recent statements from some of the Fed heads, is an expectation for a reduction in the Fed's balance sheet. Expectations are for a Fed announcement following the September meeting. The market has been prepared for this and so far there's been no reaction and certainly to "taper tantrum."

Housing Starts and Permits were reported this morning and they came in a little weaker than expected (down -4.8% from June). This caused some concern today, also reflected in lower Treasury yields, since a slowing housing market can be a real drag on the economy. It's also a reflection of the fact that so many consumers are tapped out from carrying too much debt, although the blame for the slowing market was blamed on supply rather than demand. The slowing retail sector is another sign the consumer could be in trouble.

As for the "what, me worry?" market, the strong bounce off last week's lows shows we still have active dip buyers who believe the market has higher highs ahead. "Damn the torpedoes, full speed ahead." From a pattern perspective I can see a good possibility for a continuation of the rally but maybe after a little more of a pullback from today's highs. As always, we'll let the charts lead the way.


S&P 500, SPX, Weekly chart

It's possible the August 8th high was the final high for this rally but there's been no confirming evidence yet that the rally is finished. There are some market breadth indicators that are weakening but we don't have the usual strong negative divergences that we've typically seen at previous market highs. So we still need to respect the upside potential while watching for evidence of a top, especially since we've entered the typically weak period of the year (August-September).

The weekly chart of SPX, which I consider a good market proxy at the moment, shows how it has chopped its way higher since the end of March (where I've labeled the low the 4th wave of the rally from January 2016). The 5th, and final, wave for the rally has been in progress since March and it's showing the expected weakness as compared to the 3rd wave (which finished at the March 1st high), as seen on the MACD and RSI indicators.

For the longer-term rally, from March 2009, the 5th wave is the leg up from January 2016 (as I'm counting the pattern) and it would equal the 1st wave at 2516, which I've noted on the chart. That projection crosses the top of a rising wedge for the rally from January 2016 and the mid-line of the parallel up-channel from 2010-2011 at the end of this month. From a weekly perspective this is a good upside target for both price and time.

The first sign of trouble for the bulls would be a break below the rising wedge (uptrend line from February-November 2016), currently near 2420. Confirmation of a top being in place would be a drop below the June 29th low near 2406.


S&P 500, SPX, Daily chart

As mentioned above, the 5th wave of the rally from January 2016 is the rally from March and I've drawn a parallel up-channel for the rally on the daily chart. The top of the channel will be near 2536 by the end of the month, so we have a 2516-2536 upside target zone to watch for if the rally keeps going. Currently SPX is struggling to get back above its broken 20-dma, near 2470, which it back-tested today. A drop back down would leave a bearish kiss goodbye and a drop below last week's low near 2437 would be a strong indication that the top is already in place. But until proven otherwise it's looking like we should keep looking higher for at least this week and possibly into the end of the month.

Key Levels for SPX:
- bullish above 2480
- bearish below 2437


Dow Industrials, INDU, Daily chart

The Dow's pullback into last week's low stopped just short of its 20-dma, showing some strength by not actually hitting it. Assuming we'll see the Dow make it up to another all-time high, the leg up from last Friday's low has two price projections to watch for. The first is based on two equal moves up from April 19th with the midpoint being the June correction, which points to 22352. That projection crosses a trend line across the April 26 - August 8 highs a week from today.

A higher projection, at 22459, is based on a price projection inside a rising wedge pattern. In this case it's where the 5th wave of the wedge would equal 62% of the 3rd wave (green labels). It's not clear what the wave count is so I'm looking at different ideas and price projections. The higher projection crosses the top of the rising wedge on September 1st, which is a good possibility if there will be an effort to push the market as high as possible for August and before it will have to deal with Congress's inability to get an agreement on a budget in September.

The first obvious sign of trouble for the bulls would be a decline below last Friday's low near 21843. In that case I would say the August 8th high has a good chance of standing for a while (possibly a long while).

Key Levels for DOW:
- bullish above 21,180
- bearish below 21,830


Dow Industrials, INDU, 60-min chart

The Dow's rally from June 29th has formed a parallel up-channel with two upper lines for the top of the channel. One parallel line is attached to the July 3rd high and the other is to the July 14th high. You can see how price chopped its way slowly higher between these two top channel lines between August 1-8 and then back down to the bottom of the channel by last Friday.

A return to the top of the channel could see the Dow hit 22400 by this time next week, which would place it inside the 22352-22459 target zone shown on the daily chart above. The other thing I'm watching is the mid-line of the channel, currently near 22130, since this is often resistance to the last leg of the rally inside a channel like this. Maybe just a retest of the 22179 high by Friday?


Nasdaq-100, NDX, Daily chart

NDX has a very similar pattern as the blue chips except for the lack of a new high on August 8th. Its pattern off the July 27th high looks like an a-b-c pullback correction, which keeps things pointing higher. Unless NDX drops below last Thursday's low near 5783, which would also be a break of its uptrend line from June 2016 - July 2017, a pullback from here should be a good buying opportunity for a run higher. Upside potential is to the trend line along the highs from November 2014 - July 2015, which will be near 6085 by the end of the month.

Key Levels for NDX:
- bullish above 5973
- bearish below 5783


Russell-2000, RUT, Daily chart

The RUT continues to be the weak sister and while it got a strong bounce on Monday, it looked to be primarily short covering. There was no follow through on Tuesday and while the other indexes traded sideways the RUT started to pull back again. This morning's bounce attempt failed to even test Monday's high while the others went on to make new highs above Monday's.

There remains the possibility for at least a larger bounce if the rest of the indexes press higher, in which case watch for a back-test of the broken support line along the lows since June 22nd, near 1405. Two equal legs up from last Friday points to 1410 so we have a 1405-1410 target zone for a higher bounce, if we get it. The bulls would be in trouble if the RUT drops below last Friday's low near 1368.

Key Levels for RUT:
- bullish above 1426
- bearish below 1368


10-year Yield, TNX, Weekly chart

I've been thinking for a long while that we haven't see the end of the bond's bull market (low for yields) but the weekly pattern is making me wonder. I see the potential for at least a much larger bounce off the July 2016 low with another rally leg following the pullback from December 2016. The pattern of the pullback is forming a bullish descending wedge and we could see a little further pullback to just below 2% before launching another rally leg. It might also continue to hold price-level support at 2.117%

A break above the downtrend line from 1988-2007, which stopped the rally into the March 2017 high, would be a bullish move. The next upside target after that would be the downtrend line from 1994-2007, which will be near 2.92% by the end of the year. If TNX makes it much below 1.95% I'd then start to think more bearishly sooner rather than later.


High Yield Corporate bond fund, HYG, Daily chart

While on the subject of bonds, HYG is a junk bond and worthwhile to watch for clues about the stock market. The same bullish sentiment that drives the stock market higher also drives junk bond prices higher. The search for higher yields drives many bond bulls into the junk bonds as long as they believe the risks are on the low side. When they think junk bonds are getting too risky they step away and look for the relative safety of AAA bonds and Treasuries.

For this reason HYG is often a good leading indicator for how well the stock market will do. As long as corporate performance continues to look good we'll see investors continue to buy HYG. When they start to get spooked and sell HYG we'll often see the stock market not far behind. The daily chart of HYG below shows a reason to start being concerned.

After the low on July 6th I thought we'd get one more minor new high to complete the 5th wave of the rising wedge for the rally off the November 2016 low. The July 26th high (ahead of the stock market) fit well as the completion of its rally and from there it dropped below the bottom of the wedge on August 9th. Yesterday's and today's highs were back-tests of the bottom of the wedge (uptrend line from March-July) and now we wait to see if it will be followed by a bearish kiss goodbye. This is a bearish setup for HYG and if it follows through to the downside it will be a warning sign for the stock market.


Transportation Index, TRAN, Weekly chart

The transports started diverge after the July 14th high for the TRAN since the Dow went on to make new highs into the August 8th high. It will be interesting to see if the divergence continues if and when the Dow makes more new highs. If the Dow is unable to push higher from here and instead drops below last week's low we'll then be able to look back and say the TRAN was warning us the Dow would soon follow in a reversal back down. But at the moment it's not clear if the TRAN is going to try again for a new high.

The pullback into the August lows was supported by the uptrend line from June 2016 - May 2017, currently near 9225 (arithmetic price scale). Short term I see upside potential for its current bounce to about 9470 but not above price-level resistance near 9490. A rally above 9490 would tell me there's a good chance new highs are coming, which would be a bullish sign for the broader stock market. Conversely, a drop back below its August 11th low at 9117 would be a bearish sign.


U.S. Dollar contract, DX, Daily chart

Off its August 2nd low I expected to see the US$ bounce up to the bottom of a previously broken down-channel for the initial decline off the January high and the top of a steeper down-channel for price action since May. So far the bottom of the shallower down-channel is holding as resistance, including for today's high shortly before the FOMC minutes were released. Dovish comments by the Fed is bearish for the dollar.

A little 3-wave bounce off the August 2nd low looks like it might now be followed by a drop lower towards a downside target near 90. But if the dollar can get above this morning's high at 94.05 we'll likely see at least a larger choppy bounce/consolidation before heading lower.


Gold continuous contract, GC, Daily chart

Gold is looking like it could break finally break free of its downtrend line form September 2011 - July 2016, which had stopped the rally into the June 6th high. It broke the downtrend line last week but was stopped at the previous highs in April and June near 1298. A drop back below the downtrend line was bearish but today's recovery back above the line is bullish. Gold bulls need some bullish follow through to open the door to higher highs for the current rally. A drop back below today's low at 1273 would be trouble for the bulls while a rally above 1293 would be a bullish sign.


Silver continuous contract, SI, Daily chart

I like to watch silver to see if it's confirming a move by gold and so far I'm not seeing bullish confirmation. Silver has been struggling to get back above both its 200-dma and its broken uptrend line from December 2015 - December 2016, currently at 17.09 and 17.17, resp. It has not yet had to deal with its downtrend line from July 2016 - April 2017, near 17.60. If silver rolls back over from here I would not bet long on gold either.


Oil continuous contract, CL, Daily chart

Oil's rally into the August 1st high was a back-test of its broken uptrend line from April-August-November 2016 and the selloff from there is a bearish kiss goodbye. That puts it on a sell signal that can only be negated with a rally above the high at 50.43. If the current decline continues we'll likely see oil test its uptrend line from February 2016 - June 2017, currently near 44, bounce and then continue lower.


Economic reports

Thursday's economic reports include the usual unemployment data and the Philly Fed, Industrial Production and Capacity Utilization before the opening bell. The Philly Fed is expected to show some slowing but nothing major.


Conclusion

The stock market's bounce off last week's lows looks bullish but we might see a little more of a pullback before the indexes continue higher. If the market does continue higher into the end of the month there is the potential for the Dow to reach at least 22400 and SPX to make it a little higher than 2500, which would ring the bell for many analysts. Betting higher than that could be a lot riskier and those highs will only be if we see new highs above the recent highs for the indexes. The RUT is one of the few indexes that look doubtful for new highs but never say never.

Next Monday we'll have a unique event with a total solar eclipse across the U.S. and only the U.S. Many believe these events have a strange effect on people and that effect often shows up in stock market reactions. With opex ending on Friday and normal post-opex price action next Monday, this one could be different than the others. If we are heading higher into next Monday I would not be at all surprised to see some kind of volatile event and maybe even a blow-off top or strong reversal. Many poo-poo this kind of thing but I've seen too many "coincidences" with astrological events to ignore the possibility (even if I don't understand them). Just be aware that it might be one more factor in the market's moves next Monday.

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

Keene H. Little, CMT