The S&P 500's rally off its August lows ended after a three-day bounce. The markets stalled at technical resistance. Investors have just experienced one of the worst four week periods for the S&P 500 since 1950. Currently the S&P500 index is down -10.6% year to date. The DJIA is off -6.5%, the NASDAQ Composite is down -11.7%, and the small cap Russell 2000 index is down -16.8% year to date. The volatility and weakness in stocks fueled another rally in safe-haven securities like U.S. bonds and gold. Bond yields fall as bonds rally and the yield on the U.S. ten-year note fell to a record low of 2.0% on Thursday. Meanwhile gold has surged to new all-time highs. The precious metal hit $1,881 an ounce intraday.

Most of the headlines last week were negative but I'll share a couple of positive headlines first. One surprise was the Q2 GDP numbers out of Japan. Analysts were expecting -2.5% growth in Japan in the aftermath of the earthquake and tsunami. Yet Japan said Q2 GDP came in at -1.3% instead. Meanwhile here at home in the U.S. the rate for mortgages has fallen to 50-year lows. Freddie Mac said the average 30-year fixed mortgage rate fell to 4.15% and the 15-year rates are down to 3.51%. These are pretty incredible numbers. Too bad most consumers can't qualify for them and to many homeowners are underwater to refinance.

Now it's time for the bad news and there was a lot of it. It's probably not surprising that the markets rolled over so soon. One of the biggest events last week was supposed to be the meeting between two of Europe's most powerful people, Germany's Merkel and France's Sarkozy. Yet the meeting was a bust. There was no suggestion to raise the size of the 750 billion-euro European Financial Stability Facility (EFSF). Many analysts were speculating the two leaders might propose a new Eurobond. Instead the meeting concluded with these two suggesting a new financial transaction tax, which helped sink the financial stocks again.

Another black cloud for the markets last week was the rush of analysts cutting their growth forecasts. Morgan Stanley issued a rather dour outlook for the rest of 2011 and 2012. The firm suggested the U.S. and Europe were "dangerously close" to a new recession. MS wasn't alone. J.P. Morgan, Goldman Sachs, and Citigroup economists all reduced their GDP growth estimates. Of course we shouldn't be too surprised. The last few months have seen a parade of slowing or lackluster economic reports. This past week the economic data seemed to accelerate lower.

The New York Empire State manufacturing index was supposed to come in at -0.4 but instead fell to -7.7. Readings under zero indicate economic contraction. One of the biggest surprises was the Philly Fed survey. There was some disagreement over what the Philly Fed was supposed to come in at. A few were expecting a rise from 3.2 to 5.2. Others were expecting a drop from 3.2 down to 1.0. Yet the Philly Fed disappointed with a huge plunge to -30.7. Again, readings under zero indicate economic contraction.

The residential real estate sector remains a huge drag on the U.S. economy and last week's report on existing home sales for July was another disappointment. Economists were expecting sales to come in at an annual pace of 4.87 million. July's report showed a drop to 4.67 million. Meanwhile purchase applications fell to a new one-year low. Another concern for economists was rising inflation pressures evident in both the CPI and PPI reports last week. One report that was not surprising is July's Risk of Recession numbers, which rose for the third month in a row and came in at 31% versus 26% in June. Granted this is a lagging report and some analysts believe the U.S. is already back in recession territory. Lest you forget the prior week saw consumer sentiment for August drop to a new 30-year low. Given all the headlines it certainly seems like all the dominos are stacking up for another recession.

Last week I suggested readers watch the Fibonacci retracement levels of the sell-off for overhead resistance. The 38.2% Fib retracement did prove to be resistance but the market was not using the intraday low on August 9th. The Fib tool worked best if you used the August 8th closing low. Looking at the S&P 500 index's daily chart you can see how the market came to a dead stop at the 38.2% Fib level near 1205. Now it appears the S&P 500 will retest the prior week's support near 1120. If that level fails then it will probably be a quick drop toward support near 1100.

A bounce from 1120 or 1100 could qualify as a potential bullish double bottom pattern. However, if 1100 fails then we're looking at a new bear market for the S&P500 and most likely a drop toward the 1050 area. Coincidentally the S&P500 was trading in the 1050-1040 zone last August when Ben Bernanke announced QE2 at the Jackson Hole conference. (FYI: it will actually take a drop under 1090 to mark a new bear market for the S&P500 index)

Daily chart of the S&P 500 index:

Weekly chart of the S&P 500 index:

The action in the NASDAQ Composite looks very ugly. Using the August 8th close, the bounce stalled at the 38.2% Fib retracement of the sell-off. Unfortunately, last week's weakness has left the NASDAQ at a new closing low, which is very bearish for this coming week. There might be some support near 2325 but if the NASDAQ trades under the August 9th intraday low of 2331 I would expect a drop toward the 2300 level. Coincidentally the bearish target from the head-and-shoulders pattern form over the last several months is forecasting a drop to the 2327 level but that doesn't mean the market will find support there. If the market happens to bounce we can look for resistance near 2500.

Weekly chart of the NASDAQ Composite index:

Daily chart of the NASDAQ-100 index:

The small cap Russell 2000 index also failed at the 38.2% Fibonacci retracement of the sell-off but it was using the intraday lows near 640. This index ended the week at what could be support near the prior week's closing lows but I wouldn't bet on it staying support. Odds are really good that a breakdown under support at 640 will portend a drop to the next level of support at 620 and then the 600-580 zone if the 620 level fails. On a bounce the $RUT is facing resistance at 700, 720, and 740 levels.

Daily chart of the Russell 2000

Weekly chart of the Russell 2000

We're still watching the transportation stocks for clues to the market's health. Unfortunately the Dow Jones Transportation index was hit very hard. From Monday's close of 4684 the $TRAN fell almost -10% in four days. The index has broken below the prior week's lows suggesting this isn't a bottom yet. Looking at the weekly chart the next level of support appears to be the 4070 area and the 4000 mark. That's another -3.5% to -5% decline. If we're headed for a recession then investors will want to stay wary of the transports.

Weekly chart of the Transportation index:

Another chart I want to look at is the GLD gold ETF. Gold is soaring. We're talking hundreds of dollars (gold futures prices) in just the last several weeks. With moves this volatile we should not consider it a "safe haven" trade but I will say the price of gold has been very resilient. I was expecting a bigger bout of profit taking when the exchanges raised the margin requirements on gold. There was a pull back on the news but it was very brief. Now there is new speculation they will raise margins again soon.

There has been plenty of discussion on whether or not gold is in a bubble. I like legendary trader Dennis Gartman's answer. He said gold is certainly feeling bubble-like but it's not there yet. He suspect gold will eventually hit the euphoric bubble stage where we could see gold futures rally $50, $100, even $200 in one day. Looking at the weekly chart of the GLD it looks like gold is already in a bubble but if you consider Gartman's comments then there is a lot more to come.

There are plenty of analysts who are predicting gold will hit the $2,000 an ounce level. At the current pace gold will probably hit $2,000 in the next week or two. Some are predicting $2,500 an ounce. Yet there are some gold bugs suggesting gold could hit $5,000 an ounce over the next five years.

I don't want to come across too bullish on gold but it's a very interesting story. Some are calling it the "other" reserve currency. There is the belief that central banks around the globe are buying gold and still have a lot more buying to do. If you don't like the euro or the dollar or the Swiss franc then buy gold.

Currently gold looks way, way, way too overbought. I'd have a really hard time pulling the trigger here on the GLD. I have no doubt there is a crowd of traders praying for a pull back so they can buy it. Aggressive traders may want to consider buying the next dip. Unfortunately I can't tell you whether the dip is going to be a $5.00 pullback, $10, or $25 drop in the GLD. If the GLD were to reverse today then a dip to the 170-165 area might be an entry point but the simple 10-dma is the first level of technical support and that's nearing $173.

Investors have to remember that the problem with bubbles is that they pop. Once this bubble pops the sell-off could be astonishingly quick.

Weekly chart of the Gold ETF (GLD)

The economic calendar is a bit lighter this week. We'll see new home sales and the durable goods orders for July. The biggest economic report will be Friday's second estimate on the Q2 GDP for the U.S. Right now estimates for Q2 GDP are in the +1.1% area but a few economists are expecting a revision lower toward +0.0% growth. No one expects a drop into negative territory but if it were to happen it could rock the stock market. Aside from the GDP number the biggest event will be the Federal Reserve chairman Bernanke's comments at a conference in Jackson Hole, Wyoming. A year ago Bernanke announced the Fed's QE2 program at this conference. Now the entire QE2 stock market rally (from when the program actually began) has been erased.

There is a huge amount of speculation over what the Fed might say on Friday at this conference. No one is expecting QE3. Inflation data has been a little too high and there isn't enough political capital in Washington to get QE3 done right now. Yet investors are expecting Bernanke to say something to support the stumbling economy. If he does not then we could certainly see another leg lower as we head into September. Meanwhile, outside of the economic realm, the market will digest some earnings news from the retail sector this week.

- Tuesday, August 23 -
New Home Sales for July

- Wednesday, August 24 -
Durable Goods Orders for July

- Thursday, August 25 -
Weekly Initial Jobless Claims

- Friday, August 26 -
Second estimate for U.S. Q2 GDP
Ben Bernanke's comments from Jackson Hole

It will certainly be interesting to see how Bernanke's comments impact the U.S. bond market. The rally in bonds continues and that's driving bond yields lower and lower. This past week the 10-year note saw its yield hit 2.0% for the first time ever. There is a mad rush for yield and money managers still consider the U.S. bond market to be one of the safest investments in spite of the credit downgrade by S&P two weeks ago. Some of the short-term U.S. notes have been flirting with a yield of 0.0%. The problem now is that yields are getting so low it's going to be nearly impossible to outpace inflation. That might be part of the Fed's plan. If bond yields get too low then money managers will be forced to put that money to work somewhere else. The most obvious target will be stocks.

I cautioned readers a week ago that we could see the market retest its lows. I'll confess the pull back was a bit sooner than expected. If we do see the S&P 500 break below the 1100 level it's going to make for a very ugly September, which is traditionally the worst month of the year for stocks.

What concerns me is Europe. Every single week the global markets get jerked around by headlines out of Europe. One sentence I heard a lot this past week was "this is not 2008" with the person being interviewed discussing how the U.S. economy and banking system is significantly healthier than we were back in 2008. They are correct. Unfortunately it seems Europe is having their 2008 moment with European banks unwilling to trust their neighbors. The last couple of European bank "stress tests" have been widely panned as worthless and unrealistic. This past week there was a headline that an "unnamed bank" needed to borrow $500 million from the ECB's emergency funds. That sounds eerily familiar to what the U.S. was experiencing during the Lehman Brothers meltdown days.

We find ourselves in a very uncertain market. The U.S. is teetering on the brink of recession. After watching the debt ceiling fiasco there is very little confidence in our political system. Europe is trying to avoid its own financial crisis. The only positive seems to be how China appears to have successfully engineered a soft landing for their economy.

Stock market bulls will argue that the U.S. market is cheap on a P/E basis. The problem is that stocks can always get cheaper, and the usually do in a bear market. Technically the major U.S. indices are not in a bear market but a plenty of the sector indices are (healthcare, insurance, homebuilders, cyclicals, airlines, defense, oil, oil services, biotech, banks, networking, Internet, and semiconductors). The challenge with bear markets is that the bounces tend to be fast and sharp only to roll over forming a new lower high.

This week I am neutral on the market. I would be tempted to buy another bounce if we saw the S&P 500 rebound from the 1100 level again. Otherwise, we're probably better off to wait and see what Fed chairman Bernanke has to say on Friday before we consider new long-term LEAPS positions.

- James