Market Stats

Today looked like a nicely bullish day. Volume was decent (not great but not weak), advancers handily beat decliners and more stocks were making new 52-week highs vs. lows. Not much to complain about, especially since it's being done in the month that scares so many bulls. The market closed at its high today which could be a bullish sign that there's some unfinished buying to be done tomorrow. That's certainly the bullish argument after today's rally which follows a strong rally off last week's low.

But I'm worried. I'm worried about a market that continues to rally in the face of danger. I'm worried because I'm feeling very much like I did in September 2007 as the market continued to rally in the face of so many negative technical and fundamental indicators (the housing bust has already started but we kept getting told that it would be "contained"). I'm worried because checking under the hood shows a rally that's getting weaker and weaker as the days go by. I'm worried because everyone I talk to wants to put money back to work in the market if they're not already invested (a Bank of America-Merrill Lynch fund manager reported fund managers have the highest equity allocation since October 2007). I'm worried because bullish sentiment remains at an extreme, just like it did into October 2007. I'm worried because company executives remain unconvinced after the strong rally off the March low--insider selling continues to swamp insider buying by a ratio of 30:1 (the highest ratio ever recorded). Hedge funds have increased their long exposure to this market, especially in technology and financials. Short interest is at very low levels.

But maybe it's just me and my problem is I'm trying to look a gift horse in the mouth. I know that horse is long in the tooth, just as this rally is. The techs did well today but many individual stocks in the news did not. Some stocks to watch include:
AAPL which struggled today although it was up some after spiking lower yesterday following its presentation with Steve Jobs back at work.
INTC which raised guidance on August 28th and spiked higher but has dropped back down and closed in the red today, below its 8/28 high.
DIOD which raised its guidance, spiked higher today and closed in the red.
TXN raised its guidance after yesterday's close and spiked higher on the news. It closed in the red today.

Meredith Whitney, the well known banking analyst, was on CNBC today saying she doesn't have much hope for the home market or the stock market in sustaining this year's gains. The market paid no attention to her (a mistake I think). She said "Home prices in the US could fall by another 25 percent because of high unemployment and another leg down will come for stocks. No bank underwrote a loan with 10% unemployment on the horizon." She went on to say "I think there is no doubt that home prices will go down dramatically from here; it's just a question of when."

And on that fine note banks, home builders and the stock market rallied today. It would seem most are ignoring the warnings not to drink the Kool-Aid. We're entering the opex period and we've got triple witching next week. Throw in an effort to hold September up (end of fiscal year for some and certainly end of quarter for most), combine with some buying from panicked fund managers who are back from vacation and recognize the need to chase performance and you've got a good recipe for driving the market higher in the face of some unfavorable economic news (as in lack of improvement to justify the huge rally from March).

Considering the waning momentum in the rally, including declining volume and a trending lower advance-decline line, the market is doing an amazing job at holding itself up. With the extremely high bullish sentiment (on par with what we saw in October 2007) the dip buyers are alive and well. They're just doing it with less and less gusto. SPX continues to struggle below 1044 which is the October 2008 high. Notice where it closed today. It's also an important resistance level from an EW (Elliott Wave) perspective and it's an important Gann Square of Nine number (3 cycles up from the March low plus 90 degrees). I've pointed out in the past the broken long-term uptrend line from 1990-2002 that was broken last October and is now being tested almost a year later.

S&P 500, SPX, Weekly chart

In addition to potentially strong resistance at the 1044 level and the broken uptrend line from 1990-2002, I've also added a 75-week moving average on the weekly chart. The number has no particular meaning except that I noticed it fit nicely when looking to see which moving average did a good job supporting the 2002-2007 rally. Notice also that the May 2008 rally stopped at it after it was broken in December 2007. The current rally has brought SPX back up to it for the first time since May 2008. With all of these levels coinciding at 1044 it looks to me like a setup for a reversal back down from it. I'm tempted to yell from the roof top to exit your long positions here and get short for the longer term. Discipline dictates that it may be more appropriate to pare you long positions and nibble on the short side and then continue to do both if the market starts back down. Just be aware that this is a potentially very bearish setup right here, right now.

The rising wedge pattern drawn on the weekly and daily charts is a bearish pattern and the waning momentum shown on the daily chart supports the bearish connotation of this pattern. RSI's downtrend line from August is now being tested (as it is for MACD as well). The broken uptrend line from July (which was broken on September 1st) is also being tested (bearish kiss goodbye setup if it fails from here). There are lots of reasons to like a short play from here. My biggest concern is that it's too obvious and the manipulators see it too.

S&P 500, SPX, Daily chart

The dark red price depiction shows the possibility for just a pullback to the new uptrend line, from July through last week's low, and then a continuation of a choppy move higher into the end of the month or early October. If that happens I would expect to see the negative divergences continue. SPX should hold above 1014 in this case and the ultimate upside target should be around 1070-1080. The 1070 level is a very important Gann number (more so than the 1044 level) as it's square to 943 (the January 2009 high and where the early June rally struggled) and is 180 degrees from the master square numbers of 768 (October 2002 low) and 1576 (October 2007 high). A rally to 1070 by early October would be déjà vu all over again with October 2007 (and a super sweet setup for a long-term short play). But that upside potential would go up in smoke if SPX drops below 980.

Key Levels for SPX:
- cautiously bullish above 1044
- bearish below 992

The 60-min chart shows a closer view of the test of the broken uptrend line from July, which is exactly where it closed today. This leaves both sides guessing as to whether that resistance level will be exceeded or not tomorrow. A drop back down from here would be a bearish kiss goodbye and then the only question is whether it will be good for just a pullback before heading higher again (dark red) or if instead we'll be at the start of a much more serious decline into the end of the year (pink). A break below 1007 would be a bearish heads up and then we'll likely get a test of the March uptrend line and 50-dma, both collocated near 978 currently.

S&P 500, SPX, 60-min chart

THE market, the Wilshire 5000, shows the same pattern and trend line influence. Today's rally to 10762 tagged the broken uptrend line from July and that might be all we get. But slightly higher near 10860 is the trend line along the highs from May. A break of the new uptrend line from July through last week's low, confirmed with a break below last week's 10191 low, would definitely see the March uptrend line and 50-dma tested, both near 10050 at the moment. That's the important break for the bears to get. Otherwise the uptrend remains intact and any calls for a top are just that.

Wilshire 5000 index, DWC, Daily chart

The November high for the DOW is near 9654 and slightly higher near 9680 is the trend line along the highs since May-June (this trend line is obviously higher if drawn through the August highs). From an EW perspective the November high is an important level to watch. As with the others, last week's low near 9250 is a key level to the downside but the real test for the bears is to break the March uptrend line, which could coincide with the January high of 9088 in another couple of weeks.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- cautiously bullish above 9650
- bearish below 9250

The techs are leading the way higher so the bullish juices are flowing. Now all they have to do is break the trend line along the highs since August, which could be the top of a bearish rising wedge pattern. NDX stopped right at that line today which leaves both sides guessing. The bearish divergence at the new highs is clearly not bullish. Not shown on the chart but similar to what is shown on the SPX and DOW charts, is the possibility for just a pullback to the uptrend line from July and than one last leg higher into the end of the month/early October.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- cautiously bullish above 1686
- bearish below 1585

The semiconductors helped lead the way for techs today and that's exactly what the bulls want to see. If the market tips back over tomorrow the bulls will want to see the SOX remain relatively strong. It rallied up to the trend line along the highs since January (noticing a common theme here?) and achieved a minimum Fib projection at 323.60 for the leg up from August. As with the other indexes there's a negative divergence against the late July/early August highs. If this rally is going to fail, this is a good place for it to happen. Otherwise a push higher opens up the possibility for a rally up to the next price projection at 347.31 (for equality in the two legs up from July 8th), which crosses the top of a parallel up-channel for price action since the November low in early October. This early October timeframe is another common theme I'm seeing in many charts, including the U.S. dollar which I'll get to later.

Semiconductor index, SOX, Daily chart

Once again, different symbol same pattern for the RUT. Today's rally had it closing against its broken uptrend line from July. Slightly higher, near 601, is the trend line along the highs since June. Much above 602 opens up the door for a run up to the Fib projection near 643 and its downtrend line from October 2007. It just so happens that Fib projection crosses the downtrend line in early October. A drop below 552 could coincide with a break of the 50-dma and March uptrend line in the next two weeks so that's a doubly (triply?) important number for the bears to break.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- cautiously bullish above 580
- bearish below 540

The banking index broke its uptrend line from March last week (one of the first sectors to do so) and has been struggling underneath it this week. Support turned resistance. It left a bearish hanging-man doji at resistance today. If it manages to climb back above it, currently just above 125 (where it closed today), we could see a rally up to the trend line along the highs since May, currently near 133. Above that trend line I see an upside target near 143 (shown with the weekly chart below the daily chart). Keep an eye on this index as I think it's our canary.

Banking index, BIX, Daily chart

The "big" rally in the banking index off the March low is what has turned so many people bullish. If the banks are rallying so strong it must mean they're back to health (and paying huge bonuses again) and that means our economy is recovering. Or so the bullish argument goes. Never mind the fact that the banks have not been keeping up with the broader market since May. Never mind the fact that the bounce relative to the 2007-2009 decline is puny. The 182% rally off the March low to the August high surely must mean the bottom is in and the economy is all better. Let me show that 182% rally in context by showing it on the weekly chart:

Banking index, BIX, Weekly chart

The rally has barely retraced more than the minimum 21.4% expected for a correction. It hasn't even retraced 38% and yet people are all excited about a bottom being put in. This is a pitiful bounce. The same wedge shown on the daily chart shows the possibility for a small push higher to about 143 where it would run into its 75-week moving average (the same as the one shown and discussed for SPX) and downtrend line along the bounce highs since January 2008, all intersecting around the first week of October (got that time period burned into your mind yet?). I'm not saying it will get there but that's the potential from here. It would be a wickedly good short play setup from there but it might be ready to let go to the downside from here.

The home builder index rallied up to the top of its parallel up-channel for price action since November 2008 (looks just like a bear flag on the weekly chart). The drop from the end of August followed by the current bounce looks like a setup for a continuation lower.

U.S. Home Construction Index, DJUSHB, Daily chart

The Trannies have rallied up to the trend line along the highs since May. Actually today's close pushed marginally above the trend line. A drop back down below the line would be a sell signal after a throw-over above the top of a rising wedge. If it rallies higher than today's close we could get a negation of the rising wedge pattern which would be bullish. The test is on...

Transportation Index, TRAN, Daily chart

The dollar spiked lower this week and that makes for a good ending to its descending wedge pattern from June. It may push a little lower and give us a throw-under finish but at this point, with uber-bearish sentiment on the dollar and bullish divergence at new price lows, this one is ripe for a rally. There is an 80-week cycle for the dollar which shows a potential bottom during the week ending October 2nd (there's that early October period again). I've recommended a long play on UUP (the dollar ETF) but clearly I'm calling a bottom before any evidence of it. I just like this setup for a try on a long play. As with a short on the stock market, a long play on the dollar needs to be done with discipline in case it goes south (literally) on you, especially with the turn window later this month. We have a setup for a strong rally into next year for the dollar (remember, its strength is relative to other currencies and ours will be "less bad") so it's time to test it.

U.S. Dollar ETF, UUP, Daily chart

A rally in the dollar should be bearish for stocks and commodities so it will be interesting to see how the metals respond as well. Gold is attempting to test its March 2008 high while the dollar may be putting in a bottom. It could end up as a triple top and bearish setup as shown in dark red on the weekly chart. A drop back down to the bottom of its parallel down-channel from 2008 would mean gold will drop to about 650 before it will be ready for a strong rally in 2010 and beyond. That's where I want to be a big buyer of gold since I think then the inflation worries will outweigh deflation (I don't think the Fed knows what they're doing and inflation will get away from them).

Gold continuous contract, GC, Weekly chart

Notice gold rallied up to its broken uptrend line from October 2008 through the April low, just as it did at its August 2nd high. The weekly doji, if it stays that way with tomorrow's close, is a potential evening star reversal pattern in the making (needs a down week next week to confirm). If gold buyers can keep the rally alive I think we'll see at least 1034 if not 1130 before it will turn back down.

Oil continues to struggle against the June highs and one could argue it's building a bearish H&S topping pattern since early August. The bearish divergence at the "head" supports this view and a break below the neckline, the uptrend line from February and last week's low near 67 would confirm it.

Oil continuous contract, CL, Daily chart

The natural gas ETF has been all over the news and its demise has been assured by many. Based on its pattern I'm not so sure about that. Or at least it looks like it's ready for a bigger bounce. Whether it can break its downtrend line from May, and its 50-dma, is what the UNG bulls need to see. So a break above 12.85 would be a bullish sign and back above its August 14.19 high would be confirmation a bottom is in. It's not a bad place to nibble on a long play for this one. Just be careful in case all the UNG naysayers prove to be correct.

Natural Gas ETF, UNG, Daily chart

The unemployment numbers today showed the job picture as improving. Excuse me if I remain skeptical. We all know the numbers are not accurate right now because of the way they count, or don't count, the unemployed. The real unemployment number (called U-6) is nearly 17%. We know continuous unemployment claims are dropping because the longer-term unemployed are simply dropping off the back end as their benefits expire. But this won't stop the chattering nabobs on TV from talking about what a great economic sign of improvement this is. I think the picture is worse than what is being reported. With a continuation of the credit contraction (and it's contracting at a furious rate) businesses will continue to suffer and consumers will continue to save rather than spend. We do not have the fundamentals that support an improving economy yet. We have lots of hope but no real evidence.

The other economic reports today had next to no impact on this morning's price action. Crude inventories dropped a sizeable amount but oil jumped all over the place and closed up only 77 cents. Tomorrow's reports will show whether or not pricing for exports and imports can be expected to help or worsen the trade deficit which climbed more than expected in this morning's report. The Michigan Sentiment will provide some clues as to what the consumer might do, or not do, to help the economy. So far the consumer has been more interested in acting like a turtle and has moved into self-protection mode (saving and not spending). And lastly, we all know the Treasury is out of control in spending our money (thanks to a Congress that is more than happy to spend it to help keep them in office).

Economic reports, summary and Key Trading Levels

I received a great question from one of our readers today (thanks Paul) and answered it on the Market Monitor but thought it worth repeating since so many watch the volatility index (VIX) for clues. He wrote: I was wondering if you find wave counts to be useful in the VIX or if it is just too whacky volatile for the counts to be readable. Also I personally find it a bit significant that the VIX has now once again traded back below the 24 level that had been holding on recent pullbacks and looking to me like a trend reversal could have been at hand if 24 had held and the VIX had gone back higher. Would you agree with that assessment of any importance to this level failing to hold as support?

I've tried EW analysis on the VIX but as you say, it's a bit too whacky, especially in the short term. In the longer-term view it fits a little better (which is why I've shown an A-B-C pullback from the October 2008 high). The drop back down from the recent high at the end of August now has the VIX close to testing both its broken downtrend line from March 2009 and its uptrend line from February 2007 (they cross early next week near 22). The uptrend line indicates a general increase in fear since 2007, even during the "good" times. With price setting up the way it is I fully expect the VIX to soon skyrocket higher.

Volatility index, VIX, Weekly chart

The market looks tired. Waning momentum is evidenced on every single chart out there. The buying continues to beat out selling but with weaker relative strength. Indexes are up against resistance, some significant, and we've had a rally that has gone too far too fast and too long without a significant break. Fund managers are chasing the market higher now, knowing they've run out of time to stuff some performance into their portfolios. This could continue into the end of September when many close their books for the fiscal year. That's basically what happened in 2007.

I remember I was starting to pound the table in September 2007 that the risk was high for bulls. I said surprises would be to the downside soon. It still took longer than I had expected to reach a top but it was reached in early October and my newsletter at the top showed an outstanding setup for the short side. We may get a repeat performance and I'm feeling déjà vu all over again. I'm starting to pound the table again--if you're long you should have stops pulled up tight (not much further than last week's lows). Use the pattern of higher lows now to trail your stops higher. If you want to play the short side you can attempt small entries at what appear to be potential tops, like tonight's, or you can wait for the break of last week's lows.

I suspect we have a lot of people chasing this market higher at this point who also have one foot holding the exit door open. It won't take much to spook them out since they're afraid of losing money more than they're afraid of losing gains. When the market drops those people will exit quickly and the selling could intensify quickly and it's the reason why I'm suggesting you don't want to be long the market and making end-of-day decisions (unless it's to raise your stop level). You may get caught in a downdraft that catches most people unaware. We're that close, I believe, to seeing some strong selling. But it might not happen until October (again).

As I mentioned for the U.S. dollar, there is an 80-week cycle pointing to a bottom for the dollar during the week ending October 2nd and since stocks and the dollar have been inversely related that might mean a turn down in the stock market. Considering the pattern I see for both the dollar and the stock market I think there's a real good possibility we'll see that, if not sooner.

So it may be early to short the market (although tonight's setup looks very tempting for a nibble and I must say I like the setup) but it's not too early to be thinking of profit protection and even lightening your long exposure to the market. Could you miss another 3% to the upside (1044 up to 1080)? Of course. Could you protect yourself against a 5% loss (1044 back down to 991)? Very definitely. Only you can decide whether you'd prefer to protect or hang on for more.

While I think it's a good place to try a short play I'm clearly calling a top with no hard evidence to support that (such as a decline that breaks support levels and an impulsive wave count). I've shown some upside potential into early October that must be respected if you try the short side. That's why I'm suggesting at least reducing your long exposure and nibbling on the short side. Try a short and jump out without much damage to your account if it doesn't work. We're now getting very close to where a short play will make you some serious money. But you've got to stay disciplined if trying it--there are some powerful "influences" in this market who do not want shorts to succeed.

Good luck and I'll be back with you on Monday as Todd and I switch places next week.

Key Levels for SPX:
- cautiously bullish above 1044
- bearish below 992

Key Levels for DOW:
- cautiously bullish above 9650
- bearish below 9250

Key Levels for NDX:
- cautiously bullish above 1686
- bearish below 1585

Key Levels for RUT:
- cautiously bullish above 580
- bearish below 540

Keene H. Little, CMT