MAILBAG QUESTION:

"Based on expectations about Europe their recession and weak spots plus the slowdown in China I cant figure out why the market is not down a 1000 points already. Global recession seems like its coming. How do you see the outlook and that stocks are holding up as well as they are?"

MY RESPONSE:

Well, there's a lot to your question and it kind of goes to the heart of what technical analysis is (and what I do) versus fundamental analysis. I define technical analysis as a set of principles and analytical tools used to make predictions about the market that predominately involves (just) the use and study of price and volume information. The Theory of Contrary Opinion would suggest that bullish or bearish extremes in trader sentiment or outlook for stocks is a third element that we could apply within technical analysis. But think about it; relying on charts and studies of price history doesn't seem like much to go on. Or is it?

Fundamental analysis is what most if not many of you do on an ongoing basis. We guess at earnings trends versus cost of delivery of goods and services as of PRIMARY importance. If manufacturing or commodity export sales slow down because our European and Asian customers cut back their orders that will impact companies' profits. If profits go down, stocks go down. Simple, yes?

The fly in the ointment is that the Market itself, in terms of what stock prices actually do versus what we think they should do, has so often been a superb predictor of how the economy is going to do ahead; e.g., in looking out the next 6 months to a year. It can seem backward to think that analysis of stock and index price trends can be insightful for a more pivotal analysis of future economic conditions than what pundits analyze currently regarding the potential for a global slowdown, what the Fed will or won't do, etc.

What I'm getting at here is that the market holding up as well as it is could be BECAUSE the U.S. economy may do better than is priced into stocks at the moment. For example, the fact that the Nasdaq indices don't seem to want to come down, is saying that earnings are going to hold up. Of course, holding steady is different than what it takes to tack on a next up leg!

LOOKING AT THE CHARTS FOR CLUES:

Looking at the major stock indexes, we haven't seen much in the way of decisive upside breakouts above highs made earlier this year. The big cap S&P 100 (OEX) index has gone on to new weekly closing highs above 640 and the S&P 500 (SPX) did manage one weekly close that was 10 points higher than late-March but prior intraday highs still haven't been exceeded in SPX. Mostly, new 12-month highs haven't occurred. If the market stalls at a key prior peak and can't get above those highs, we call it a possible double top, and a possible predictor of a pullback ahead.

Making JUST an analysis of the chart patterns, I'm impressed that the market has held up as well as it has. Of course, you hear a lot of talk of the still-low summer volume levels. Volume is a secondary indicator to price. Price is king and if prices aren't coming down it may be because there's further upside potential; this, versus the price churn of 'building a top'.

Tops are tricky to gauge in terms of WHEN prices will come down. Sometimes prices 'hang' for days and weeks before there's a crack and suddenly it seems like market participants are ONLY seeing news and reports as bearish. Breakdowns below key prior support points suggest that a full-blown correction is underway. I tend to assume the current trend is bullish until/unless I see key support levels breaking down.

CHARTS: FROM THE MOST BULLISH TO NOT SO MUCH

What impresses me technically in my first chart, that of the daily Nasdaq 100 (NDX), is the high level consolidation that's occurred. NDX broke out above the top end of its broad June to August uptrend channel. If we continue to show the previously penetrated upper trendline, the consolidation has been quite consistently above this line, suggesting NDX support is still holding up near the repeated line of highs.

The major next question is will there be a decisive upside penetration of 2800, especially given the 'overbought' situation suggested by the elevated reading for the RSI. Giving the benefit of the doubt to the chart pattern, 2850 could be a next objective. A close below 2750 that wasn't reversed (back to the upside) the next day, instead suggests at least an interim top.

MOST BULLISH CHART:

The most bullish-looking Nasdaq chart, is that of the longer-term weekly NDX shown next. One consistent aspect of this chart is the repeated moves up to the high (resistance) end of NDX's broad uptrend channel. If this pattern continues I'd anticipate a longer range target up to the 3000 area for the Nas 100. On a weekly chart basis, NDX is nearing but is not yet AT an overbought extreme basis the 8-week Relative Strength Index.

NOT SO BULLISH INDEX CHART - THE DOW 30 (INDU) LAGS:

The Dow 30 Industrials (INDU) is currently lagging that of the hotter tech sector as the economic trends only favor some of the 30 stocks; mostly only about a third or so of the 30 stocks in the Dow. INDU has also failed to pierce prior yearly highs but is closer to testing its up trendline and anticipated technical support.

A decisive downside penetration of the Dow's up trendline, currently intersecting at 13035, would suggest a pullback to perhaps 12800 or lower. Back to 12800 wouldn't be a major correction. More major to the bulls would be a move back to the 12500-12400 zone. Shifting focus to the WEEKLY Dow seen below INDU's daily chart, trendline support is suggested around 12550 currently.

TAKING THE LONGER VIEW - STILL A STRONG DOW TREND:

If we look at the same longer-term weekly chart picture for INDU, we see also that the Dow has also been in a very strong long-range uptrend as with the tech-heavy Nasdaq and dating from the same lows in early-2009. The Average needs to penetrate 13250 to suggest it will have another up leg. The 'triple top' pattern we see in 2012 is a potential bearish chart formation no doubt. Not as bearish as you might think because, unlike double top patterns, triple tops aren't all that common.

More often multiple highs like seen with the Dow weekly chart below forms a line of resistance that as often as not get pierced later on. The Dow doesn't look especially bullish but the pattern isn't the more bearish one seen in the rounding top highlighted back in February to July of last year (2011). The other way to look at that chart pattern was as a Head & Shoulder's Top, and a good-sized (and very tradable) decline followed the formation of the 3rd top of the H&S pattern.

If INDU does have a significant correction, potential trendline support comes in around 12550 currently as I mention above.


GOOD TRADING SUCCESS!