Market Stats

The first of the month and the new money that usually flows in produced a monster rally today. Of course most of it occurred before the bell but we won't quibble about such minor details (wink). Clearly the shorts were caught pressing their bets to the downside yesterday after the last 3 days of decline and they were caught with their shorts down this morning. I know a few people that think it couldn't have happened to a nicer group of people. Ben Bernanke is one. Today's rally of nearly 250 points for the DOW made it the best day since September 1st. Volume was respectable but not what the bulls would like to write home about--it was on par with yesterday but less than previous big down and up days.

The overnight futures climbed steadily last night, thanks in large part to a relief rally in Europe. Spain's IBEX 35 index closed higher by +4.4% at 9678, which looks like a relatively small oversold bounce after a steady decline from October. The U.K.'s FTSE was up +2.1%, the French CAC +1.6% and the German DAX +2.7%. So it was a good day in Europe and that translated to a good start to the U.S. trading day, which was added to once the shorts realized it wasn't going to be a gap n crap.

If you look at the table above, the strongest performer was the 10-year Note, up +6%, which means bonds sold off. But wait, the Fed is supposed to be buying the mid range of the bonds in hopes of propping prices up and yields down. Oops, Scotty, we need more power. It's that conundrum thing again and I'm sure Bernanke hates it when that happens. But I'm sure the Fed was pleased some money rotated out of bonds into the stock market since that improves the "wealth effect" from a rising stock market.

Helping the European markets rally today was an about face by the ECB's (European Central Bank) President Jean-Claude Trichet, saying that the ECB will do whatever is necessary to save the EU. Last week he didn't believe they were facing any crisis and he intended to continue draining some of the monetary surplus in the system. Something obviously changed his mind this week and inflation worries must be on the back burner. They will do their own version of QE2 and create however much money is required to save the banks, um I mean, countries. It's a race to the bottom in fiat currency values. Global trade will be the fallout from all of this, the same thing that happened in the 1930s.

It was also rumored that the U.S. Treasury would add more money to the IMF fund to help bail out the European sovereign debts. This added to the euphoria surrounding the commitment from central banks to do "whatever it takes". Later in the day a Treasury official was quoted as saying "An extra commitment is not something we are discussing right now." I noticed that he did not specifically say "no". The IMF has already provided 250B euros to the EU fund.

Adding to the euphoria were some strong manufacturing data out of China and Europe. Their PMI (Purchasing Managers Index) numbers have many believing growth will continue. With the European banks being significantly oversold on worries over the continuing debt crisis, today's rally went a long way towards working off some of the short-term oversold conditions.

Economic news out of the U.S. then added to the bullish feeling that the economy is continuing to strengthen. The one negative number, quickly glossed over as a "so what, tell me something new" kind of news, was the number of mortgage applications, which dropped -16.5% for the past week (vs. the +2.1% in the previous week).

The jobs picture continues to improve as ADP reported a gain of 93K jobs, the largest gain in 3 years. It did not lower the unemployment rate but I think most everyone has resigned themselves to believe we're going to have chronically high unemployment for years. The service industry saw employment rise by 79K (the lower-paying jobs) while the manufacturing industry saw a rise of 14K. The good news is that this is the first increase in manufacturing employment since March 2007. And in the category of "less bad" is the fact that the construction industry lost "only" 3K jobs, which is the smallest decline since June 2007. So overall it was a very positive employment report.

Two other pieces of good employment news: one was that October's number was revised higher to 82K vs. the prior reported number of 43K; and the other piece of good news was the amount of hiring done by small businesses, which is where the bulk of hiring will come from in any economic recovery. Small businesses added 54K while medium-sized firms added 37K and large businesses added only 2K.

While it was good news it does need to be kept in perspective since all of it still fits within the less-bad category. What we don't know is how much of the hiring was due to seasonal demand (holiday shopping period), especially since the bulk of the hiring was in the service industry. And while the direction is good, we need to see at least 150K new jobs each month just to keep the unemployment rate steady. So 95K is good news but it still means the unemployed ranks continue to swell. Over 300K jobs each and every month is needed to get the economy growing with GDP above 3%.

Also, remember that in a secular bear market it's very common to see improving economic numbers, such as employment and GDP, as part of the shorter-term cycles within the larger bear market cycle. And the market always leads the turns in the economy so the improving economic numbers are not necessarily pointing to a higher stock market at this time.

Somewhat countering the employment picture was the Challenger, Gray & Christmas report that showed November was not a good month for announcements of future layoffs. Employers announced plans to reduce payrolls by 48,711 jobs, the highest level since March. So we've got a good current picture but the future remains a little cloudy. After the holidays and the reduction of the seasonal employees we could see another challenging time for employment numbers.

Productivity improvements (+2.3% for Q3 vs. +1.9% for Q2) is another good sign for businesses, but not so much for workers. It means a little more blood was squeezed out of employees still working and less of a need for additional employees. I'm sure there are many people sometimes wondering which side of the line might be better. When you're overworked and underpaid (aren't we all?), work can become depressing. Of course the alternative is worse and that's what keeps people at their jobs even if they're grumbling more. The increase in productivity dropped Unit Labor Costs another -0.1% for Q3, following a -0.1% for Q2. Businesses continue to get more efficient and more profitable. When business really starts to improve, these companies will be mean and lean (at least the employees will be) and ready to rip to the upside.

The ISM index and Construction Spending rounded out the morning economic reports and while they did not show improvement from the previous month they were at least showing a positive influence. Finishing off today's economic reports, with more good news, were the auto and truck sales, all of which were strong. Even GM sold 11.4% more cars in November than October. Their new stock price has rallied back up to the mid range of its opening range (33-36).

Finally, helping the bulls out this morning was a pullback in the U.S. dollar, which looks ready to at least correct the leg up from November 22nd. A pullback correction this week would help give the market a lift, which is what I'm seeing on the charts for the stock market. Next week could be a different matter but we'll worry about that if the setup supports a bearish view for next week, which I'll review on the charts.

The situation in Europe of course did not change overnight. A little relief rally, especially to relieve the oversold conditions, can be expected now and again and "good" news about commitments towards bailouts seems to do the trick. Those announcements will have less and less impact as the situation progresses and the European nations continue to deal with their financial burdens of being over indebted. The credit spreads between the bonds of the countries in trouble (Greece, Ireland, Portugal, Spain to be followed by France and the U.K.) and benchmarks such as Treasuries and the German Bund continues to widen. This is the bond market saying the problems are still there and not going away anytime soon. These are not bond speculators doing this but instead it's because bond investors demand a higher yield on riskier investments. Only when riskier investments have not demanded a higher yield have we seen the market vulnerable to a strong selloff.

So I view today's, and potentially this week's, rally has a possible relief rally within a larger pullback pattern (or worse). The rally could of course continue to higher highs into the end of the year. It's what most traders are anticipating. I'm still of the opinion that this market will disappoint the majority. The price pattern supports that notion and until I see proof with an impulsive pattern to the upside I'll continue to lean towards looking for a reversal of today's rally instead of looking for a dip to buy. I'm not being bearish for the sake of being bearish; I'm only looking at the price pattern and giving you my best guess based on that. So with that let's take a look at the charts.

SPX's monthly chart, updated through yesterday's closing price, shows an interesting setup. Back in April it stopped just short of the 50-month moving average and left a shooting star. That was of course followed by a steep pullback over the next two months. November again tested the 50-month MA, currently at 1200.73, and left an even more bearish shooting star. Who knows how December will end but right now it's looking like a double top with two shooting stars for tops and bearish divergence.

S&P 500, SPX, Monthly chart

It might be nothing, but following the potentially bearish setup on the monthly chart, there is a possible major sell signal from the CCI (Commodity Channel Index). Thanks to Bill V. for alerting me to this setup. If you look at the CCI spikes since 2000, which I've drawn a horizontal blue line across and highlighted in yellow, the spikes in 2000 and 2007 preceded the market highs by a matter of just days. The latest spike was on November 5th coinciding with a possible market high. As I said it could be nothing but I wonder if we'll look back at the chart above and below and wonder why we didn't back up the truck, mortgage the house and buy a boat load of LEAP puts. I'm not recommending that now (at least not mortgaging your house, wink) but you can see the potential for the bears.

SPX daily chart with CCI spikes, 2000-2010

The weekly SPX chart below shows an expectation for another selloff once this week's bounce finishes (shown better on the daily and 60-min charts). So far the 200-week moving average, at 1188.62, is providing support. Not much below that, near 1150, is the uptrend line from March 2009 through the July 2010 low. Below 1150 the market would be in some trouble but not until the bears break it below 1129 will the bulls be in more significant trouble. As depicted with the dashed red line, a pullback could be followed by a new high into January before topping out.

S&P 500, SPX, Weekly chart

On the daily chart below I'm showing the path I think price will take. I've got some Fibs, gap closure (November 11th close) and the April high giving us an upside target zone of 1215-1220 for this week. That would do a good job at completing a correction of the initial decline from the November high, to then be followed by another leg down at least equal to the first leg down in November. If we're looking at just an a-b-c pullback from the November high I would expect to see SPX find support at or above 1150 and then start heading higher again (shown in green), with an upside target of 1250-1300. But as mentioned with the weekly chart, a drop below 1150 would be a bearish heads up and below 1129 would negate the bullish potential (an overlap of the August high would negate the bullish wave count).

S&P 500, SPX, Daily chart

Key Levels for SPX:
- cautiously bullish above 1220
- bearish below 1173 and more bearish below 1129

A choppy sideways/down pullback tomorrow would do a good job at setting up another rally leg into Friday (tradable so watch for the setup) to the 1215-1220 area. I'm showing expected support near 1200 and then a run up to close the gap near 1218. If it plays out this way into Friday we'll be looking at a very good setup for a reversal back down into Monday and next week. It would be a decline to at least correct this week's rally and the more bearish potential is for a move below 1173.

Interestingly, Sunday is a new moon and that has me wondering if the price pattern is coming together nicely for a high on Friday and reversal on Monday. The moon phase trading system did not work too well during the September-November rally but has done a decent job in November. For whatever reason, the new moon is often associated with market tops whereas full moons send the bears back into their caves to shield their eyes from the bright moonlight.

SPX daily chart with MPTS

The SPX 60-min chart below shows the 62% retracement of the November decline, at 1206.27, held as resistance today. The 50% is near 1200, which is where the November 18-19 highs were made, and should act as support in a pullback, especially if it's a choppy pullback. A projection for the c-wave of an a-b-c bounce off the November 16th low, where the c-wave equals 162% of the a-wave, is up at 1217.28, only a point below the gap fill from November 11th at 1218.45 so I like that upside target for the 5-wave rally from Monday to complete. That's also why I think it will be a very good setup for a reversal back down on Monday. So a short-term bullish play into Friday and then a short play on Monday. Just trying to take care of both sides here (wink).

S&P 500, SPX, 60-min chart

The same November 11th gap close for the DOW would take the DOW up to 11354. A price projection for the c-wave of its a-b-c bounce off the November 16th low is near 11300 so that gives us an upside target zone of 11300-11350 by Friday. The higher probability play, as discussed above, is for another leg down so a reversal down next week should be a good trade. Then watch for possible support near 10850 and then 10720. The bulls are not in trouble until the DOW breaks below 10720.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- cautiously bullish above 11,360
- bearish below 11,000 and more bearish below 10,720

The techs and small caps have been holding up better than the blue chips but the bounce off the November 16th low has been very choppy and looks more like a bear flag than something more bullish. I think the pattern for the bounce since November 16th would look best with a pullback and then one more new high so it fits with the broader averages. It would be a good setup for a tradable move down next week.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- cautiously bullish above 2188
- bearish below 2105 and more bearish below 1918

NDX would close the November 11th gap at 2187.10 so that's my upside target at the moment. Keep an eye on the top of the parallel up-channel (bear flag) from the November 16th low, which is where today's rally stopped. A down-up sequence to the top of the channel with bearish divergence would be a good setup for a short play.

Nasdaq-100, NDX, 60-min chart chart

Also keep an eye on the semiconductor index since continued bullishness in this sector would be bullish for the techs and in turn for the broader market. It has rallied up to the target zone I've had for it--399-405. This includes some Fib projections based on the wave pattern of the rally from August as well as the April high. Today's high of 403.57 is right in there and the new highs are showing some significant bearish divergence.

Semiconductor index, SOX, Daily chart

The RUT's pattern is very similar to NDX (and interestingly the TRAN), and would look best with a pullback tomorrow followed by another leg up. I've got the RUT labeled a little differently than the others because it's an interesting wave count that suggests a minor new high could complete a 5-wave move up from July as a rising wedge pattern. It would mean the next move down will be the start of a longer decline into next year. But it will have to get below the July high near 672 to prove the bulls are done. In the meantime I'll have to see what kind of decline develops once it starts back down (assuming of course it will start back down).

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- cautiously bullish above 746
- bearish below 701 and more bearish below 672

The banks got a good lift today as relief swept through the banks as they've been promised more money to help them hide, I mean cover up, I mean shield their losses on their loan portfolios. For BKX it could be good for a bounce up to its 38% retracement of the November decline, at 46.45, which would also be a test of its 50-dma. Once the bounce is finished the banks should resume their southern journey.

KBW Bank index, BKX, Daily chart

If the Trannies pull back tomorrow and then get another leg up we could see the TRAN finally tag a Fib projection I've had on its chart for a while now--the 162% projection for the leg up from August is at 5065.68 and crosses its broken uptrend line from August on Friday. It's almost too perfect a setup for the bears.

Transportation Index, TRAN, Daily chart

The dollar almost made it up to its 200-dma at 81.74 (yesterday's high was 81.44) but has now broken its uptrend line from the low on November 22nd, which suggests a pullback to correct at least that leg up. The uptrend line from November 4th is currently near 79.40 but I think the dollar could find support near 80 and then head higher again. A bullish wave count on the dollar would then be looking for a very strong rally in the dollar in December. That would put some bearish pressure on the stock and commodity markets if it happens.

Taking a longer-term view of the dollar tonight, I'm showing a weekly chart to keep the move in perspective. As I see it, the highest probability move is for the dollar to head back up towards the highs in 2009 and 2010 but could run into trouble at the downtrend line from 2009, currently near 88.30 (still a very strong rally from here). The bearish possibility from there is for the dollar to start back down and head for new lows below the 2008 low at 70.70, probably much lower. That would be our indication that inflation is taking off through the roof (hyperinflation). The bullish wave count calls for a strong rally in the dollar through 2011, heading well above 100. That would be an indication that the dollar is still the go-to currency as the rest of them get into more trouble.

U.S. Dollar contract, DX, Weekly chart

Now let's take a look at the euro since everyone is speculating as to the future of it. Rather than speculate on what-ifs I like to stick with the charts and make my guesses based on price patterns, including EW (Elliott Wave) counts which I think do a very good job at measuring trader sentiment (and can get really whacked when there's too much interference such as in the stock market by the Fed). The currency market is huge and it's very difficult for the central banks to distort the patterns too much.

The direction of the euro, which is counter to the U.S. dollar, is often directly correlated with the stock and commodity markets and therefore worth watching. Since the 2008 high for the euro it has been declining impulsively and bouncing correctively. As labeled on the weekly chart below. The decline from the November high has overlapped the August high, leaving another 3-wave bounce off the June low which means it's a correction to the 2009-2010 decline. And that means a new leg down has probably started.

Euro contract, EC, Weekly chart

The significance of the wave count on the chart is that the next leg down should be a 3rd of a 3rd wave and that means a very strong decline is in store for the euro. That means this is predicting more trouble ahead for Europe. That's a guess based purely on the euro's price pattern and not a gut feel or any other news. I read the charts and just tell you my observations and opinions. And if the euro heads south in a hurry, it's not going to be a good sign for Europe and by extension the U.S., China or anyone else. The good news is that if you want to trade the euro from the short side (forex pair, long UUP, etc.) you have a lot of profit potential on this trade.

To put the above chart in perspective, the monthly chart below shows why I expect the euro to drop well below parity with the U.S. dollar. A strong drop from here should test the 2000 low at a minimum (82 cents), consolidate and then head lower over the next few years. The 2000-2008 rally was a 3-wave move and therefore suggests a complete retracement. While that may sound depressing to many, look at it as a trading opportunity. As traders we are supposed to be completely unbiased and trade what the markets give us -- long, short or sideways (sell option premium). So look for the opportunities rather than staying frightened of a bear market. Turn lemons into lemonade.

Euro contract, EC, Monthly chart

As I said, what the euro does will have a large impact on stocks and commodities, which tend to trade in the same direction as the euro. I've been pointing out the setup on the gold chart for a shorting opportunity. If you're a gold bug and want to hold gold for the long term (be sure you have your guns, stored food and a bunker as well, [wink]), you should at least think about hedging your position (put insurance for example).

The bounce off the November 16th low has gold close to tagging 1404 which is where the 3-wave bounce would have two equal legs up. Gold is also pushing up along its broken uptrend line from July. Once the bounce finishes, which could have been today, we should see gold sell off harder into December. The first support level should be its longer-term uptrend line from 2008, currently approaching 1300.

Gold continuous contract, GC, Daily chart

Oil has had a high bounce off its November 16th low and has now retraced 78.6% (86.80) of its November decline, showing some higher volatility than gold. It has pressed back up to its broken uptrend line from September and should be getting ready to turn back down from here if the top is in, as I've got the move labeled. Assuming it does turn back down from here it should sell off more quickly and find some support at its uptrend line from February 2009, near approaching 81.50, before breaking lower.

Oil continuous contract, CL, Daily chart

Thursday will be relatively quiet for economic reports. Today was the big nut and then Friday we'll get the important nonfarm payrolls number. Pending home sales tomorrow could surprise to the upside otherwise it will probably be ignored. The news out of Europe is currently on the front burner again so check the news first thing in the morning.

Economic reports, summary and Key Trading Levels

Summarizing tonight's charts and today's bullish action, I see further upside potential into Friday. Look for a choppy pullback on Thursday and if SPX finds support at or above 1200 we should see a nice rally up to the 1218 area. It would make for a nice trade and then exit it before the weekend.

Not only are overnights dangerous times to hold open positions (seems the market is gapping open, in opposite directions, on a daily basis). There's simply too much risk holding over the weekend. It's like me reminding you to look both ways before crossing the street, don't eat yellow snow and don't text and drive. So having appropriately warned you not to hold a position over the weekend, if we get a nice setup on Friday with SPX running up to the 1218 area and turning around (or finishing up there), consider taking a short play home for the weekend. A couple of puts lets you control your risk.

The reason I like the setup for a short play as the next big play is because the market should move quickly if in fact we're going to get another leg down. Playing the short side has been incredibly difficult but when it works it works fabulously well (it's a quick trade and makes a lot of money so you can get in and out quickly and not fret over it day after day).

More conservative traders who want to play the short side should simply wait for confirmation of a turn back down with a break below the key levels I've identified on the charts and below. I wish I could give the bulls a good recommendation for a longer-term trade to the upside but that's not what I currently see in the charts. I'm looking for a reversal of the bounce because of the corrective nature of the bounce and therefore I'm trying to find reversal patterns rather than continuation patterns. But don't fight a rally if the key levels to the upside start breaking. Trade with the trend but don't fall in love with the position.

The first two charts I showed tonight also has me on high alert for a significant market high. Ron Coby wrote an article on Minyanville's web site on Monday and expressed several reasons why traders should move to a "maximum defensive position" after seeing a very similar setup as in April. From the European debt crisis to a lack of fear as registered by the VIX to the bullish sentiment to the negative divergences in momentum indicator to lack of strong volume in the rallies, we have the same picture today as we did at the April high. The May "flash crash" followed shortly thereafter. That's not a prediction of things to come but simply a warning.

Many, including Bernanke, are very pleased that most of the shorts have capitulated and are now on the sidelines licking their wounds. Bernanke's jawboning of the market may have done too good a job at flushing them out. The next decline will not have their buying power to arrest the sink rate. Trust me when I say I know what happens when you have an excessive sink rate.

So be careful out there. My sense is that volatility is about to expand significantly. The good news about that is that we should get some excellent trading opportunities and that's why we're here. Good luck and I'll be back with you next Wednesday.

Key Levels for SPX:
- cautiously bullish above 1220
- bearish below 1173 and more bearish below 1129

Key Levels for DOW:
- cautiously bullish above 11,360
- bearish below 11,000 and more bearish below 10,720

Key Levels for NDX:
- cautiously bullish above 2188
- bearish below 2105 and more bearish below 1918

Key Levels for RUT:
- cautiously bullish above 746
- bearish below 701 and more bearish below 672

Keene H. Little, CMT