Market Stats

Considering the SPX hit a low of 1010.91 on July 1st, tagging 1250 today (the high was 1250.20) is quite an accomplishment (+23.7% low to high). During "normal" times, such as when major fund managers shoot for +8% annually (they've had a tough time accomplishing that in the past decade), they just got three year's worth of gains in 5-1/2 months. My hat's off to the bulls for this accomplishment. Would it be too much to ask for more? I'm sure there are more than a few bulls asking that very same question tonight.

It was a relatively quiet day in the market with no major economic reports and no earth-shattering news. Equity futures were driven higher during the overnight session because, well, because they can. We've seen this pattern before--drive the futures higher during the overnight session, create some liquidity in the early-morning pop higher as the cash indexes catch up and use that liquidity to sell into. It's a common topping pattern and there's little doubt in my mind that that's what's happening. Big money is letting their inventory go to the people who are feeling the most bullish they've been for years. They'll be buying the top, again.

It's really irritating to know how big money, with the help of CNBC and other media outlets, swindles the public but it's always been thus. Hopefully you're doing what big money is doing and reducing your long exposure as well (and/or hedging your long positions). Even during the day today we saw spikes to the upside immediately get sold into. While this pattern is obvious it's not clear yet how much longer it will continue but the risk for those left holding the bag (long positions) is that once inventory has been handed off to the masses they'll want to see a market decline so that they can pick up inventory at cheaper prices. By the way, the "masses" includes clueless mutual fund managers so you're not safe if you think you're in good hands with a mutual fund manager for your retirement account or otherwise.

I know that my bearish opinion of the stock market goes counter to the majority at the moment. That's OK and in fact may be better than OK. Betting with the majority in the stock market can sometimes result in a painful experience. Bullish sentiment is running at extremes that we haven't seen even at previous market highs in 2000 and 2007. The 10-dma of the TRIN hasn't been this low since just before the 1987 crash. We're talking uber bullish sentiment and when the bulls line up this much on one side of the ship it can result in the following:

Too Many Traders On One Side

What should be disconcerting for those who remain bullish the stock market is that this over-the-top bullish sentiment is occurring at a time when market breadth and momentum are waning and showing some strong negative divergences. While the NYSE pressed higher this month it's doing it on the backs of fewer stocks, as can be seen by the advance-decline line (the same is true for new 52-week highs vs. lows):

NYSE vs. Advance-Decline Line

Another interesting development is the price pattern itself, other than the wave count that looks close to completion if it didn't complete today. Tops in the market have been forming similarly since the 2000 high. The high in March 2000 (for SPX) was followed by a test in September, which retraced 88.6% of the March-April decline. The 88.6% retracement will oftentimes mark the top of a double-top pattern. The other Fib often associated with a double-top pattern is a 113% extension of the previous decline (so 88.6%, 100% and 113% are the typical double-top levels to watch).

The October 2007 high came within a couple of points of the 113% extension of the July-August decline and was a Fibonacci 13 weeks later. The high this week (today) tagged the 113% extension (at 1246.96) of the April-July decline and this week is a Fibonacci 34 weeks from the April high. So the setup is for a market high as price and time have come together nicely for it.

The high here (or wherever it ends) could be potentially important since it's possible to count it as the completion of an A-B-C bounce off the March 2009 low (albeit with a very short c-wave). On a weekly basis the November and December highs are showing negative divergences against the April high, which fits with the ending count. The c-wave must be a 5-wave move and as labeled on the weekly chart below, the move up from July can now be counted as a 5-wave move which should complete soon if not today. The 113% extension is shown on the chart and last week's candle finished as a small doji at resistance and today's close is also right at this 1247 level. But the bulls remain in control, on a weekly basis, until 1173 is broken. We'll have a bearish heads up before that but that's the important level for the bulls to defend once it gets back down there. Upside potential is to the 1300 area.

S&P 500, SPX, Weekly chart

Another reason 1247 is acting as resistance is because it's where the 5th wave of the rally from July is equal to 62% of the 1st wave, a common relationship between these two waves. If the bulls can keep the rally going there is upside potential to 1292, where the 5th wave would equal the 1st wave. If it hits that level in the first week of January it would also tag the top of a rising wedge pattern as shown on the chart. Today's star doji at Fib resistance is a potential reversal pattern if followed by a red candle on Tuesday. A break below 1220 would be more significant. Note the negative divergence on the weekly chart against the April high and on the daily chart against the November high. The rally is simply running out of steam and while the upside potential is for another 45 points I don't think I'd want to bet on that happening.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- cautiously bullish above 1250
- bearish below 1220 and longer-term bearish below 1173

The 5th wave of the rally from July, which is the move up from November 29th, is shown in more detail in the 60-min chart below. It needs to be a 5-wave move and as of today's high counts complete and tagged the price projection at 1249.55 where the 5th wave equals the 1st wave. It can certainly extend higher but as I mentioned today on the Market Monitor, it was a very nice setup to short the rally, which is exactly what big money is doing. A break of the uptrend line from November 30th would indicate we've probably seen the high so any break lower tomorrow morning could set the direction for the rest of the day. A break below 1232 would confirm the high is in place. In the meantime, respect the upside potential but be careful looking for higher.

S&P 500, SPX, 60-min chart

Since the high on December 7th the DOW has been slowly chopping its way higher and has formed a small rising wedge in the process, and the negative divergence against the November high suggests caution if you're thinking long the market. But the bears need to break the DOW below 11330 to confirm they're in control of the ball. And as long as the bulls keep defending the November high at 11451 they keep possession of the ball.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- cautiously bullish above 11,450
- bearish below 11,330 and longer-term bearish below 10,930 (price low as well as the 200-week MA)

Similar to the DOW the NDX has been chopping its way marginally higher since the high on December 7th. A choppy pattern for a rally is usually a very good indication of an ending pattern and it's happening right below resistance near its October 2007 high near 2239. At this point it's doubtful that resistance will be broken (except for maybe a head-fake break but even that's questionable at this point). I'll continue to show the potential for a larger choppy rally into January (dotted line), which will become a lower probability if price breaks below the 50-dma, near 2146, and negated if price drops below 2085.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- cautiously bullish above 2240
- bearish below 2085

For SPX I had mentioned the 113% extension of the previous decline as a potentially important Fib level to watch if you're looking for a reversal (same thing for a reversal off a low that extends 113% beyond the previous bounce). Another Fib level is the 127% extension, often associated with a H&S topping pattern (161.8% is the next one). For the RUT the 127% extension of the April-July decline is at 789.00. So watch that level closely if tagged this week.

Dialing in closer to the 5-wave move up from July, the daily chart shows the 5th wave would equal the 1st wave at 785.92. Today's high was 6 cents shy at 785.86. Moving in even closer and looking at the 5th wave (the move up from November 16th), its 5th wave would equal 62% of the 1st at 789.60 (the same as the 127% extension mentioned above). So from several degrees of the pattern we've got good Fib correlation around the 786-789 area. If it can press above 790 the next upside target is 803 but for now keep an eye on 786-789 for a possible completion of its rally. We'll know better if tomorrow sees a decline, especially if the RUT drops below 767. So again, respect the upside but watch for a reversal now as I think it's either here or only marginally higher.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- cautiously bullish to 786-803
- bearish below 767 and longer-term bearish below 701

For those who like to play the 20+ year Treasury ETF, TLT, it looks like it completed a 5-wave move down from August, which sets it up for at least a correction of that decline. A 50% retracement would take it back up to just shy of 100 and if the bounce takes 62% of the time for the decline (typical) it would finish around mid February. Another common retracement is to the previous 4th wave which is the high at 99.27 on November 30th. If Treasury prices rally and yields pull back we'll hear many Fed supporters talking about how the market is finally recognizing how much support the Fed is providing to the bond market. I have my doubts but we'll let price show us the way. I placed a note on the chart to show where the Fed announced their QE2 program and how the bounce might not make it back to even the pre-QE2 level. In the meantime, whether bond prices will be more bullish or not this year, TLT traders should look for a bounce into at least February.

20+ Year Treasury ETF, TLT, Weekly chart

On Friday, December 10th and then again on Monday the 13th I pointed out on the Market Monitor what I felt was an outstanding setup for a reversal on the banking index, BKX (and also BIX and the broker index, XBD). It had rallied up to the top of a parallel up-channel from August and its downtrend line from September 2008 (log scale), just shy of 51. The 50-51 level is also resistance from previous highs and lows going back to 2008. On Monday it left a bearish hanging man candlestick at this resistance level and then dropped sharply back down to a low on Thursday. It has since bounced back up into the 50-51 resistance zone and is presenting another nice setup for a shorting opportunity in the financials.

KBW Bank index, BKX, Daily chart

XLF is the financial sector ETF and also presented the bears with a shorting opportunity after the December 13th high. It rallied up to the top of a rising wedge pattern for price action since the July low (as with all triangle patterns it completed the requisite a-b-c-d-e wave count). This completes a larger-degree b-wave which points to a large decline in wave-C, one which will take XLF below the July low. Two equal legs down from April provides an initial downside target of 12.89.

Financial sector ETF, XLF, Daily chart

There are of course a few different ways to play the short side of financials. Two leveraged inverse ETFs are SKF and FAZ (be careful with leveraged ETFs and use them only for relatively short-term trades, not investments).

The Transportation index is one of the few that's pointing higher still. It has been stalled near the price projection at 5065 for the past two weeks but has consolidated over to its uptrend line from August. These typically resolve to the upside so that would be the expectation here. But any drop lower on Tuesday would be a break of its uptrend line and indicate the bulls could be in trouble (a failed bullish pattern tends to fail hard). So look for a move up to the 5200 area unless Tuesday drops lower instead. Bearish confirmation would be a drop below 4917.

Transportation Index, TRAN, Daily chart

The U.S. dollar's short-term pattern leaves a lot to be desired as far as giving me the ability to determine its next move. I could argue equally strongly for another pullback to the 78 area or for a continuation higher right from here. A drop back below Friday's low at 79.55 would suggest a little deeper pullback before heading higher again (dashed line on the chart). Otherwise it looks like the dollar should continue its rally from here and press up to the 84 area before possibly pulling back again in what could be a choppy pattern for a bounce up to the 88 area by February. More bullishly the rally could start to pick up steam and blow right through resistance levels and get above 89, breaking out of a bearish sideways triangle that could be playing out since the March 2008 low (which I showed in my last newsletter on December 8th).

U.S. Dollar contract, DX, Daily chart

Based on what I'm seeing in commodities and the metals I could be convinced that the dollar is going to drop before rallying again. Gold still continues to hold potential for one more leg up inside a final rising wedge pattern, with an upside target near 1450. It held its 50-dma, currently at 1370.50, last week so as long as that holds I'm giving the bulls the nod here. A break below last week's 1361.60 low would be bearish and below 1329 would confirm the high for gold is already in place. If the dollar does indeed rally from here it's going to hard for gold to make a new high.

Gold continuous contract, GC, Daily chart

A rising wedge pattern for oil also shows a little more upside potential, perhaps to about 91, before topping out. As with just about all charts, the new highs for oil are showing negative divergence against the October and November highs. One could say the entire market is running out of steam, which fits the "all-the-same" market theme.

Oil continuous contract, CL, Daily chart

Tuesday will be another quiet day as far as economic reports goes. Wednesday and Thursday will be the busy days and based on the chart patterns I'm seeing I'm wondering if they'll cause a selloff reaction. Stay aware of that possibility. Santa may have come and gone and the buying power may have already been spent.

Economic reports, summary and Key Trading Levels

I had mentioned earlier that there is a high bullish sentiment in the market right now; it's higher than we've seen at previous market highs and that should be worrisome to bulls. If you're still thinking bullish (Santa Claus rally, the Fed's help, seasonality, new year money coming, etc.) you might want to at least think about portfolio protection. Spend a little money on insurance, just as you do for your home, car and life. With a very low VIX, as shown below, it's a good time to buy some put protection (note the lineup of the VIX in the lower chart, at current levels, with previous highs in SPX in the top chart).

Volatility index, VIX, Daily chart

Insurance for your portfolio, if you'd rather not sell your stock, is very cheap right now. I'm guessing there are more than a few of you who wished you had bought some protection back in 2007 or 2008. Insurance was just as cheap then as it is now. It's always cheap when bullish sentiment is running at their highs. Most become convinced that the market is going to keep rallying. Certainly the market pundits and media tells us that. Friday's USA Today had a story titled "Experts Agree: Get Over Your Fear and Get Back Into Stocks."

Many people follow what they call the "magazine title" indicator. When a general media publication gives financial advice you should head the other way. By the time a general interest newspaper or magazine identifies the trend and reports on it you can be well assured the trend is ending. It's the equivalent of the shoeshine boy's stock market tip--when even the shoeshine boy has become bullish you know everyone is in and it's your cue to exit.

Last week we had a Hindenburg Omen signal and then it was confirmed on Wednesday. As a reminder, the HO signal occurs when:

1. The lesser of weekly new highs or new lows are more than 2.4% (2.2%) of total issues.
2. There is a rising 10-week MA on the NYSE Composite Index.
3. The McClellan Oscillator is negative.
4. New 52 week highs cannot be more than twice the number of new 52 week lows; it is acceptable if new 52 week lows are more than twice the number of 52 week highs.
5. In order for the first Hindenburg Omen to be confirmed, we must see an additional signal within the next month.

Thanks to Steve for providing some interesting statistics related to the Hindenburg Omen:

1. There is a 28% probability that a stock market crash will occur over the next 3-4 months.
2. There is a 39.2% probability that at least a panic sell-off will occur (meaning a plunge of over 10% could occur).
3. There is a 53.5% probability that a very sharp decline greater than 8.0% will manifest itself.
4. There is a 74.9% probability that a stock market decline of at least 5.0% will occur.

Steve further noted, "Worth noting, one out of 14.5 times this signal is a dud, however that ratio expands to one out of 37 times when a prior signal failed, which is our current situation." Those are some pretty significant odds for a major market correction at least. Many love to follow the Stock Almanac and are even bullish now because of the seasonality factor. The Hindenburg Omen is showing us an even higher-odds setup for a bearish move. But many traders will ignore this signal because it doesn't fit their bias.

What's interesting about this HO signal is that no one is reporting it. When it occurred in August it was being reported my all the media. CNBC even had the signal's creator on the show. As is typical, when mainstream media and CNBC reports a technical indication you can bet on it failing, and it did. This time no one is reporting on it and I find that more than intriguing. It's like the boy who cried wolf and this time the boy could be attacked and no one will come to his rescue.

One last chart for tonight, to show why the current rally should be viewed as bearish and not bullish, I'm comparing volume to the highs in SPY. Each high this year has been accompanied by lower volume, including the highs in the rally since June, and the current rally to a new high is showing the same pattern. Will it be different this time? It's not the way I'm betting with my money.

SPDR S&P 500 Trust, SPY, Daily chart with Volume

One final note, which might deliver a message from the heavens, Tuesday, December 21st is the winter solstice. On the same day we will have a lunar eclipse of a full moon. The last time this occurred was 456 years ago. Counting 456 trading days from the March 6, 2009 low gives us December 24th.

Good luck this week and be careful. I'll be back with you on Wednesday and we'll see how the market is setting up for next week. And remember, we're traders. We don't care which way the market goes since we have the tools to trade it either way. Whether you lean one way or the other or have more fun trading one direction or the other, trading the short side has its rewards--you're usually in the trade for a shorter period of time and can make more money. Embrace the coming bear market and turn some lemons into lemonade. That's why we're here--to help you through it with some trading suggestions and setups to help you get positioned. So be sure to take advantage of Jim's end-of-year special. I think 2011 is going to be very exciting year for traders and opportunities to make some serious money. Join me and a few other writers on the Market Monitor for live intraday commentary to help you nail down your entries.

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Key Levels for SPX:
- cautiously bullish above 1250
- bearish below 1220 and longer-term bearish below 1173

Key Levels for DOW:
- cautiously bullish above 11,450
- bearish below 11,330 and longer-term bearish below 10,930 (price low as well as the 200-week MA)

Key Levels for NDX:
- cautiously bullish above 2240
- bearish below 2085

Key Levels for RUT:
- cautiously bullish to 786-803
- bearish below 767 and longer-term bearish below 701

Keene H. Little, CMT