(Written Sunday, Feb. 2nd, 2014)

January 2014 is done and in the books. The month turned out to be a roller coaster ride for investors. After a +29% rally in 2013 the S&P 500 seems to have lost its momentum with a -3.5% decline this year. January is the first monthly decline since last August for the U.S. market. There were plenty of market-moving headlines. Just this past week the market digested emerging market volatility, massive currency fluctuations, a tidal wave of earnings news, and an FOMC meeting. Equities were down almost across the board last week. The biotechs remain a standout group with a +0.3% gain last week and up +8.8% in 2014. The Dow Jones Industrial Average is off -5.3% and the small cap Russell 2000 index is down -2.8% for the year. According to Bank of America, investors are pulling money out of the market with equity funds enduring their biggest outflows in more than two years.

Continuing to pressure the markets are fast-growing concerns over emerging market countries. There is a fear that the weakness is spreading to larger economies like Russia, which just saw the ruble fall to a five-year low against the dollar. The Central Bank of Turkey was making headlines when they held a midnight meeting last week and pulled out their monetary defibrillator in an effort to stop the Turkish Lira's nosedive lower. The world was shocked to see the Turkish Central Bank raise interest rates 445-basis points to 12.0%. Their daring move worked and managed to prop up the lira but the gains lasted less than 24 hours.

The market was also reacting to earnings news. It was the busiest week of Q4 earnings results. There were some earnings winners with Chipotle (CMG), Facebook (FB), and Caterpillar (CAT) all delivering strong results and a post-earning report rally. Yet the good news was overshadowed by earnings misses and profit warnings from the likes of Wal-mart (WMT), Chevron (CVX), and Amazon.com (AMZN). Big companies like Apple (AAPL) and Boeing (BA) reported better than expected results but saw their stock price plunge as investors reacted to cautious guidance.

Overseas Data

It was a busy week for economic data. The U.S. Q4 GDP estimate came in slightly ahead of expectations at +3.2% growth. That is down from the Q3's pace of +4.1%. Durable goods data saw orders fall -4.3% in December after a downwardly revised November reading of +2.6%. Economists were expecting December's durable goods to rise +1.8%. In positive news the U.S. flash PMI data hit its highest level since September at 56.6 in January. Numbers above 50.0 indicate growth.

The latest data on personal income showed flat growth in December after a +0.2% the prior month. Overall personal income is actually down -0.8% from December 2012. Real disposable income has plunged -2.7% from December 2012. That is the biggest decline in 40 years and does not bode well for the consumer or the economy. Consumer spending is estimated to account for almost 70% of the U.S. economy. If incomes are falling it's going to be tougher to raise the consumer spending levels.

The latest data on consumer sentiment was down with the University of Michigan consumer sentiment survey falling from 82.5 in December to 81.2 in January. It's not surprise to see sentiment in falling in January as consumers open up their credit card bills reflecting their spending from December. Both the present conditions and expectations components retreated in the latest survey. A weak stock market probably didn't help matters.

The latest real estate data was mostly bearish. The Case-Shiller 20-city home price index said that last November saw home prices rise +13.6% versus November 2012. This trend of rising prices may start to struggle as sales fall. The pace of new home sales declined -7.1% in December, which was significantly worse than the -1.9% estimate analysts were expecting. Pending home sales data from December put the pace at -8.7% month over month. Analysts were expecting a gain of +0.3%, which makes that the biggest miss in over three years.

I would be remiss in covering economic headlines if I didn't mention the FOMC meeting last week. It was Ben Bernanke's last meeting as Fed chairman. The Federal Reserve announced they would taper their QE program by another $10 billion a month. You could argue that is a sign of confidence by the Fed that the U.S. economy is strong enough to grow without additional stimulus.

Overseas Data

Economic data overseas was all over the map with mix of positive and negative data points. It wasn't just the U.S. that saw stocks struggle in January. European stock market's delivered their worst January performance since 2010. Meanwhile the Eurozone consumer confidence reading slowly improved with an uptick from -14.0 to -12.0. Germany said its Ifo Business Climate index inched higher from 109.5 to 110.6. Yet Germany raised some eyebrows when they reported that retail sales plunged -2.4% year over year and -2.5% month over month. Economists were expecting retail sales to grow so the sudden decline is worrisome. Another worry was the +0.7% rise in the Eurozone's CPI. This was lower than expected. A falling inflation number will stoke fears of deflation.

Greece will be back in the headlines this year. The latest story was word of "secret meetings" between high-level Eurozone and IMF officials last week as continue to play their game of hot potato with Greece. I recently mentioned how most of the new money Greece receives as part of their bailout package is immediately returned to the EU, IMF, and ECB to pay the interest on their previous bailout loans. It's like Greece is using a cash advance on their Mastercard to pay the interest on their Visa card debt. The debt balances are not falling and Greece is just racking up more debt every month. When Greece first asked for a bailout a few years ago the rescue was "only" $50 billion. Now their bailout bill has hit $325 billion. There is no possible way for Greece, a country of 10.8 million people with a nominal GDP of $243 billion, of every paying back this debt. The country has another big $8 billion payment due in July this year. You can bet this situation will heat up again this summer.

Economic data in the Asia region was definitely mixed. Two weeks ago the U.S. market plunged as markets reacted to a troubling HSBC Market PMI report that showed China's PMI at a six-month low of 49.6. Numbers under 50.0 indicate economic contraction. The official Chinese government PMI number was recently released and it too hit a six-month low but it remains above 50.0 with a January reading of 50.5. Of course most market pundits take the official numbers with a grain of salt since there have been constant accusations that the Chinese government will manipulate the numbers to look better than reality. Another new concern from HSBC suggested that the Chinese economy was losing jobs at the fastest rate since March 2009.

Meanwhile the situation in Japan was a lot more optimistic. Manufacturing PMI improved from 55.2 to 56.6, with numbers above 50.0 suggesting growth. Industrial production improved from -0.1% to +1.1% last month. Japan's unemployment rate fell from 4.0% to 3.7%. There was some concern about a decline in retail sales from +4.1% to +2.6%. Yet the inflation picture is improving. Japan's national CPI rose to +1.6%. That's the fastest pace in five years. The Japanese government's goal is a +2.0% inflation rate. Unfortunately none of this helped the Japanese stock market. The NIKKEI fell to two month lows thanks in part to a rising Japanese yen.

Major Indices:

The S&P 500 index spent last week churning sideways in the 1770-1800 range. This looks like a test of technical support near its rising 100-dma and one of its long-term trend lines of higher lows (see the daily chart). Last week's -0.4% decline has pushed the index's yearly performance to -3.5%. If you step back and look at the bigger picture then the January decline is very mild. The question will be where does it go from here?

The 1800 level is short-term overhead resistance. The broken 50-dma is also overhead resistance (currently near 1812). Obviously the recent highs near 1850 are overhead resistance. More importantly is the short-term support near 1770 and its 100-dma. I am concerned that a breakdown below 1770 could herald a much steeper decline. The 1750 level could be potential support but I would not be surprised to see a drop toward the 200-dma in the 1700-1710 area. A -10% correction would be 1665.

chart of the S&P 500 index:

Weekly chart of the S&P 500 index:

The NASDAQ composite fell about -0.6% last week. Its year to date loss is only -1.7% and it has been the strongest of the major U.S. indices this year. The last week has seen the NASDAQ flirting with a breakdown below support in the 4050-4100 area (and its simple 50-dma). If the NASDAQ breaks down below 4050 I would expect a much deeper correction. It's possible the 4000 level or the 100-dma could offer some support but I suspect a breakdown could signal a drop toward the 3850-3750 area. A typical -10% correction would mean a drop toward 3818.

chart of the NASDAQ Composite index:

Weekly chart of the NASDAQ Composite index:

The small cap Russell 2000 index was at new all-time highs just two weeks ago. This past week the $RUT delivered a -1.1% decline. It's year to date loss is -2.8% but it's already down -4.3% from its recent high.

The breakdown below 1140 and its 50-dma was technically bearish. However, you can see on the weekly chart that the long-term trend of higher lows is still intact for now. I am worried that a drop below 1120 or the 100-dma near 1115 could signal the next leg lower. If that happens then the $RUT could be headed for its 200-dma near 1060. A -10% correction would mean a drop toward 1063.

chart of the Russell 2000 index

Weekly chart of the Russell 2000 index



Economic Data & Event Calendar

It's a new month and that means another busy week of economic data. The biggest report to watch will be Friday's nonfarm payrolls (jobs) report. Last month's report was a disaster of only +74,000 jobs. Right now estimates are for +175,000 new jobs but whisper numbers are falling into the 125K to 150K zone. That means anything above 150K might be considered good news. The problem is that January's number could be volatile as the retail industry sheds their temporary holiday workers.

The ECB President's press conference on Thursday could be interesting if he says anything noteworthy about the emerging market currency worries currently plaguing the global market.

Economic and Event Calendar

- Monday, February 3 -
ISM Index (for January)
Construction Spending
Auto & truck sales
Eurozone manufacturing PMI

- Tuesday, February 4 -
Factory orders

- Wednesday, February 5 -
ADP Employment change report
ISM services data
Eurozone services PMI

- Thursday, February 6 -
Weekly Initial Jobless Claims
European Central Bank interest rate decision
ECB President Mario Draghi press conference

- Friday, February 7 -
Nonfarm payrolls (jobs) report for January
Unemployment rate

Additional Events to be aware of:

Feb. 7th - U.S. debt ceiling is reached
Mar. 19th - FOMC policy update and economic projections
Mar. 19th - new Fed Chairman Yellen's first press conference




Looking Ahead:

Now that the month of January is over we can hopefully stop hearing about the January Barometer (indicator). Just in case you forgot here's a quick summary. Looking back over the last 76 years of market history, if the S&P 500 index ended the month of January with gains then 89.7% of the time the S&P also ended the full year with gains. If the month of January ended negative, then 60.7% of the time the market ended the year with a loss. Now there are plenty of investors who do not believe in this sort of "indicator" but it could make traders more nervous and potentially quicker to take profits. We already know that mid-term election years have an historical pattern of being more volatile.

I have mentioned multiple times how long we are overdue for a market correction. Officially a correction is a -10% pullback. The S&P 500 index has gone more than 835 days without a normal correction of -10%. Part of the challenge is that bull markets tend to have an expiration date. On average a bull market tends to die around its five-year anniversary and March 2014 would be the fifth anniversary of the current bull market.

BESPOKE Investment Group has done some research on this and mapped out the length of the current market rally without a -10% correction. At 835+ days there have only been "four rallies in the history of the S&P 500 that have had a longer streak than the current one." There is no guarantee that the market will see a correction but odds are getting slim that this rally can continue for much longer without some kind of pullback. You can view their observations on this topic here.

chart of the S&P 500's current winning streak

(Image from Bespoke Investment Group)

One of the biggest concerns I have is earnings guidance. I have been warning readers for weeks that it will not be earnings results that matter but earnings guidance that could set the tone for early 2014. I also cautioned investors that the second half of January could be down. Thus far the Q4 earnings results have been relatively good. Almost 70% of the S&P 500 companies who have reported earnings have beat Wall Street's estimates. Yet corporate guidance has been terrible. Almost 60% of companies have lowered their forward estimates for 2014. We still have a lot of earnings results yet to digest and the results will only get worse as we move deeper into the season. If corporate America is lowering their expectations for 2014 how is that going to buoy investor sentiment?

A recent article from Barron's had a great quote from Citigroup's Tobias Levkovish who basically warned that there is "no reason to start buying stocks yet." According to Tobias, "few would have guessed that Argentine currency devaluation would be the trigger for a momentum change. Unfortunately, there is no clear signal to step up quite yet and buy aggressively. ... As noted in the past, we expect a more volatile, choppy tape and believe that investors will have to get used to this new era of bumpiness after the far smoother ascent in 2013."

At the moment I would have to agree with Mr. Levkovish. There is no rush to buy stocks just yet. As you can see from the weekly charts above the market's long-term up trend is still place but the trend is in danger of breaking down. A -10% correction may be healthy for the market. As LEAPS traders we will want to be patient when it comes to initiating new bullish positions.

James