A market without verbal intervention from the Central Banks is like a day without sunshine. At least that's the way bulls feel and they were left aimless today without any more jawboning about how much help the markets are going to get.
As compared to the previous few days, the overnight futures leading to this morning's open had sold off some and we started the day with a gap down. It seems there were no further promises of easy money from the central banks to help boost the market further and consequently we started the day trading in the hole. But there was a quick recovery/rescue followed by more of the same sideways consolidation. Today was more or less an indecision day as both sides battled for control and volume was only marginally better than Monday's, which was the lowest non-holiday volume for the year. It's summer and we have a market that not many traders are interested in and as recent articles will attest, equities are becoming less desirable by many as an investment.
But the market reversed the initial gap and rallied into positive territory after the selling stopped within the first 10 minutes of trading. The pattern over the previous 3 days, with a quick pop higher in the morning (following an overnight rally in the futures) and then selling in the afternoon, is the mark of distribution instead of accumulation. The old saying "retail traders open the market and professional traders close it" continues to be something we need to pay attention to. Daily, weekly and monthly closing prices are much more important than what happens intra-day, -week and -month, especially intraday prices with the HFTs tending to drive the market in one direction (they're essentially momentum trading models) past typical support and resistance and then the market corrects the excessive move.
Yesterday we received some more support for more monetary easing from Boston's Fed President Eric Rosengren (who called for an "open-ended" quantitative easing program as a way to help improve economic growth). Today traders had their enthusiasm for such action dampened a little with comments by Dallas Fed President Richard Fisher, another non-voting member of the Fed, who suggested the Fed has done its job by providing the needed economic stimulus. He said it's now up to the private sector to do its part and for Congress to remove any economic policy uncertainty (yea, good luck with that one) so that the liquidity that's already been injected into the system will have a chance to work (yea, good luck with that one too). Because most of the voting members of the Federal Reserve Board are considered doves in this regard, the market is anticipating further easing at the September 13th meeting (yea, good luck with that one as well, unless the market has cratered by then).
While Fisher's opinion took some of the wind out of the sails of the market, many simply saw it as a buying opportunity. We had no earth-shattering economic reports today so the market was left to fend for itself. After the initial flurry of activity with the decline and then recovery, followed by the low-volume battle for control, both sides were left to wonder what's next. This week's rally, starting with the big pop higher on Friday, has happened mostly during the overnight session but there's been very little for U.S. traders to trade. I wonder if the same thing is going to happen to the downside, especially since both sides are becoming convinced that there will be no downside.
In a MarketWatch story by Mark Hulbert today he described how the bullish sentiment has now exceeded what we had at the May 1st high: Bullish sentiment
We have a lower price with the bounce off the June 4th low, which is a correction to the decline from May 1st and it is accompanied by higher bullish sentiment. From a contrarian perspective this is a recipe for disaster for the bulls. As Hulbert noted, 50% of the shortest-term market timers that he monitors are now positioned bullishly. This compares to 42% at the May high.
From an EW (Elliott Wave) perspective, the 1st wave down from May 1st to the June 4th low has been followed by a very choppy correction of that decline for the 2nd wave. For a trade setup (short in this case), you want to see higher bullish sentiment than at the previous high -- it's what 2nd wave corrections accomplish. Bulls get sucked in and bears get pushed out with both sides thinking new highs are coming. The subsequent decline, the 3rd wave, is the most powerful move because the bulls start to recognize that they were sucked in and they start to bail en masse. The bears start to recognize they got snookered and start to pile on and accelerate the selling. It's why 3rd waves have the name "recognition" wave.
Tomorrow is the Thursday prior to opex week and therefore deserves a little caution since it has earned the nickname "misdirection day." Many traders start unwinding positions prior to opex week and this can have an effect on the market that does not carry through into opex. There are many who believe the market is purposely manipulated in one direction as a way to help slingshot the market in the opposite direction into the early part of opex, thereby creating a money-making opportunity. Regardless of the cause, it's something to keep in mind as we head into Thursday's trading.
Starting tonight's review of the charts with the SPX weekly chart shows my expectation that the bounce off the June 4th low, as stretched as it is to the upside, is a correction of the decline from April. It's a 1st wave down from April followed by a 2nd wave correction, which sets up the 3rd wave down and as discussed above with Mark Hulbert's analysis on sentiment, the market should be primed and ready for a large decline. The question, as it has been since the completion of the 5-wave move down into the June 4th low, is how high the bounce will go before turning back down. As has been true for a long time, 2nd wave corrections have retraced large portions (78.6% +) of 1st wave declines and this one is no different.
S&P 500, SPX, Weekly chart
There are a couple of trend lines of importance and the closest one is the top of a parallel down-channel near 1417. This channel was created by drawing a trend line across the lows from October 2002 through the March 2003 low and a parallel line was attached to the high in 2007. The April 2012 high came within about 6 points of testing that line and could be tested again if the current rally makes it a little higher (or 6 points shy again would mean a high near 1411). A little higher, near 1439, is the top of a parallel up-channel from June 2010 - October 2011 with the parallel attached to the May 2011 high. That would of course be a new high above April's and might be just enough to hit a bunch of stops before reversing back down. I consider this to be a lower probability (I'm not expecting a new high). Once the next leg down gets started it could go very quickly but for now I'm depicting a break of the June low by the end of the year or first part of 2013.
The daily chart below shows a downtrend line slightly different than the bold blue one on the weekly chart. This one is drawn from the May 2007 high through the April 2012 high and is currently near 1410. A rise up to 1410-1411 would leave the same "miss" on the top of the down-channel shown on the weekly chart as the miss in April. For an a-b-c move up from the July 24th low, it would have two equal legs up at 1417.15, which would be a perfect tag of that downtrend line on the weekly chart.
S&P 500, SPX, Daily chart
Key Levels for SPX:
- bullish above 1423
- bearish below 1354
A rally to the 1417 area that is then followed by a decline would obviously leave a double top against the April high and I strongly suspect a significant bearish divergence, also seen currently on the weekly chart. Based on the current wave count, a decline below the August 2nd low near 1354 would be a strong indication the rally is over and I would start looking to short bounces from there. As for the wave count, I use the DOW charts later to explain what I'm watching for to help identify where and when we might find a top.
The 120-min chart below shows a parallel up-channel for price action since the June 19th high and yesterday it pushed above the top of the channel, currently near 1400, and has held above it on pullback tests. That's bullish so far and a drop back below 1400 (also a psychologically important number) would be an early bearish sign. The other bullish move was a break above the downtrend line from April-May, currently near 1389, so a break below that would be another bearish sign (but bullish for now). As depicted with the green dashed line, I see the potential for a choppy pullback and then a push up to a price projection near 1426 into opex (next week). A drop below 1375-ish would be bearish and below 1354 would confirm we've very likely seen the high.
S&P 500, SPX, 120-min chart
For the DOW I've labeled its bounce pattern off the June 4th low as a double zigzag, which is labeled as W-X-Y (a-b-c-x-a-b-c where each a-b-c is wave W and Y). What's interesting about the DOW's pattern is that the projection for where waves W and Y would be equal, at 13385.70, is the same for the projection for two equal legs up from July 24th. That creates a strong potential for the final high and one to keep in mind for this month. But the reason I'm showing it as an alternate possibility (with the dashed line) is because of the resistance between here and there and the choppy price action in the rally since Friday (it should look stronger if the projection to 13385 is going to be achieved). Maybe up to its downtrend line from 2007-2012, near 13280, but so far I'm seeing the DOW vulnerable to a decline sooner rather than later.
Dow Industrials, INDU, Daily chart
Key Levels for DOW:
- bullish above 13,400
- bearish below 12,778
On the DOW's 120-min chart below I'm showing a slight modification to the wave count that would support a move up to the 13385 target, potentially into opex Friday, August 17th, or maybe a little later. Instead of a W-X-Y up from June 4th we might have a "simpler" A-B-C, which requires the move up from July 24th be a 5-wave move. Because of the choppy nature of the price action over the past three days in the current rally leg from August 2nd I'm wondering if we've got a rising wedge (ending diagonal c-wave) in progress. If so then we should see price consolidate into Monday and then chop higher into the end of the week. If this pattern plays out as depicted it will be a very high-confidence setup to get short at the price target. I could be tempted to back up the truck and load up with put option plays on this setup.
Dow Industrials, INDU, 120-min chart
NDX has achieved a price target that I've been watching for since last week and is therefore a setup waiting for reversal confirmation. As discussed with the DOW charts, if the bounce off the June 4th low is a W-X-Y then the move up from July 24th should be just a 3-wave move (a-b-c). A projection for equality for W and Y is at 2724, which was achieved on Tuesday with a high of 2727. Slightly higher, at 2734, is where the a-b-c up from July 24th would achieve equality in the two legs up. Tuesday's high also tagged the top of a parallel up-channel for the bounce off the June 4th low. So regardless of the wave count, hitting the top of its channel was reason enough for bulls to be cautious and also a reason for bears to start testing the waters.
Nasdaq-100, NDX, Daily chart
Key Levels for NDX:
- bullish above 2735
- bearish below 2606
I've taken the EW labels off the RUT's daily chart because frankly this one is making no sense to me at the moment. I could label it several different ways which means none of them are reliable. So I'll wait until the wave count clears up. In the meantime I'm looking at two trend lines and Fibs which control price action. Tuesday's and today's highs were more tests of the 62% retracement of the March-June decline, at 802.78 and could result in a reversal from here. If the bulls work prices higher there will be resistance at its downtrend line from March through the July 5th high, currently near 810. Higher, near 817 next Monday, it would back test its broken uptrend line from June 4th. Above 820 would turn the bounce more bullish.
Russell-2000, RUT, Daily chart
Key Levels for RUT:
- bullish above 820
- bearish below 765
Bonds have been selling off the past three weeks as the stock market has pushed higher. There hasn't been a strong inverse correlation since bonds were rallying from April while stocks declined and then rallied from June 4th. Bonds experienced a small selloff when stocks bounced off their June 4th lows but then they rallied with stocks into July. It's only been the three weeks that bond yields have been in synch with stock prices. So relying on an inverse relationship is not a reliable way to trade either.
The rally in yields (selling in bonds) since July 24th has coincided with the stock market and it might be an indication we've see THE low for yields, but I remain unconvinced of that. One argument in favor of a bottom for TNX, the 10-year yield, is that it came very close to the trend line along the lows from June 2003 and December 2008, as can be seen on its weekly chart below. As depicted on the chart, I'm thinking that we'll see a bounce but then one more new low into the end of October, reaching sub-1% before finally bottoming. That's where it would hit the bottom of a descending wedge pattern from the April 2010 high and the bottom of a parallel down-channel from 1994, which cross at 0.94% at the end of October.
10-year Yield, TNX, Weekly chart
The up-down depiction is obviously just speculation at the moment but it would achieve a "proper" 5th wave of the descending wedge. It would also tie in with a selloff in the stock market that I foresee into the fall. However, the pattern would turn bullish with a rally above 1.85% where it would climb above its downtrend line from April 2011 and its 50-week MA. A bounce and then new low would also likely be accompanied by another bullish divergence, as seen at the most recent low, which is already hinting that it's not a good idea to be thinking long bonds (short yields) even though I see the potential for one more low after the current bounce. From a short-term perspective, the bounce off the July 24th low has achieved two equal legs up at 1.644%, with a high today at 1.656%. That creates the potential for at least a pullback.
The banks have been relatively strong when you look at BIX and how it's challenging its March and May highs. The trouble for the index is that these highs, including the ones in July and this week's, are fighting resistance at the shallow downtrend line from April 2010 and the current test is showing a significant bearish divergence against this year's March and May highs. This is not a chart that could entice me to be a buyer. I'd be a seller here.
S&P Bank index, BIX, Weekly chart
Jim covered the Transportation index last night, pointing out how much it is diverging against the DOW, which at the moment is a significant bearish divergence supporting the DOW Theory claim that the DOW's rally attempt is not going to hold. This divergence is true as well when you compare most foreign indexes against the DOW and SPX. The same is true when comparing the commodity index to the DOW. In other words, the blue chip indexes are out there hanging in the breeze when compared to most other indexes, not something the bulls want to see.
The dollar's projection hasn't changed much from my last update two weeks ago. My best guess continues to look for a pullback to its uptrend line from August 2011, near 81 by the end of next week, and then continue higher from there.
U.S. Dollar contract, DX, Weekly chart
Gold continues to consolidate in what I think will be a larger sideways triangle than the one formed in March-April. Both fit as b-wave corrections with the current one being one larger degree. I'm depicting a completion of the triangle by the end of August and then a selloff. I'll of course update it as price dictates.
Gold continuous contract, GC, Daily chart
With yesterday's and today's highs oil has retraced 50% of its March-June decline. If it's to be just a correction of the decline, which is what I'm thinking, it could be ready to roll back over. In addition to the Fib retracement it has also tagged its 50-week MA at 94.72 with today's high at 94.76. A drop below its August 2nd low at 86.92 would be a strong indication the bounce is over.
Oil continuous contract, CL, Weekly chart
It will be another quiet day tomorrow, and Friday, for economic reports so the market will be left to blow in the wind of whatever rumors and stories hit the market, especially anything from Europe. Spain's 10-year yields are once again tickling 7% (last week's verbal intervention didn't last long) so any additional worries out of Europe could nip the recent rally in the bud.
Economic reports, summary and Key Trading Levels
We've had a nice little rally in the past week, thanks mainly to last Friday and to the overnight rallies in the futures. There has been almost no rally if you consider just the daytime work by the bulls. On top of that it's been on extremely low volume and has the appearance of being primarily short covering. Selling into the close is the mark of distribution on top of weak market breadth. There is nothing to like about this rally but that doesn't mean it will roll over right from here.
The risk for bulls is that the market could roll over at any time. The pattern is set up for it, the resistance levels warn of it, weak market breadth and excessive bullish sentiment -- it's all a recipe for a surprise attack by the bears upon the hapless bulls. Don't be over anxious to sell into this but I would look for opportunities to nibble on some short positions and get ready for the next leg down, especially if we get sharp declines and choppy bounces -- use those bounces to get short.
Good luck as we head into opex next week and keep in mind that tomorrow is typically a head-fake day that leads to a reversal into opex. A quick rally on Thursday morning could lead to a selloff so don't get caught flat-footed and keep those stops close buy. I'll be back with you next Wednesday and we'll see what the price pattern is telling us.
Keene H. Little, CMT
In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying