Market Stats

Today's price action ended up in a draw for the bulls and the bears. The bulls pulled off a victory by closing the indexes in the green but +7 for the DOW and +0.25 for SPX is not something to write home about. The techs did relatively better all day with the Nasdaq up almost 17 points (+0.6%). Trading volume was again on the low side but at the high end of the range over the past 3 weeks. As you can see in the table above, market breadth matched the doji day.

The day started off like most others--it gapped up and then sold off. If anyone buys a gap up anymore they're just not paying attention. The scorecard for overnight traders since the March 16th close (buy ES at the 16:15 close and sell it the following morning at the 9:30 open) is now +82.75 points. Regular hour traders (buy it at the 9:30 open and sell it at the 16:15 close) now have a -25.50 loss. Any questions about what's going on?

The DOW had a trading range of about 111 points today but finished in the middle of the range and produced a doji, with SPX closing for the 2nd day only pennies below its 50-dma. It looks like it's consolidating near support and the big question is whether it's a bullish bottoming pattern or a bearish continuation pattern. The jury is still out on that one.

Today's economic calendar had a few releases but nothing major. As Jim mentioned last night, when the biggest report of the day is to be the Fed's Beige Book you know we're scratching for economic news. The reports started with the MBA Mortgage Index which dropped another -6.7%. A slowdown in the mortgage business should not be a surprise to anyone unless they've been living under a rock for the past few years. The housing market continues to be the albatross around the market's neck.

Retail sales figures were released and they were a little on the disappointing side but nothing major. Sales were up +0.4% (+ is good) but lower than last month's downwardly revised +1.0%. Retail sales ex-auto came in as expected which was about the same as last month's (+0.8% vs. the downwardly revised +0.7%). But even though the sales increase was the smallest gain in 9 months at least they were gains. Or were they?

While the sales growth numbers are positive it's unfortunately more a result of inflation than actual sales growth. Subtracting the 2.1% y-o-y CPI leaves a negative retail sales growth number. If food is taken out of the equation the inflation-adjusted sales number is actually about -4%. Those retailers that sell gasoline and food (e.g., Costco) saw big increases in retail sales.

One complaint about the government's retail sales data is that it is only from stores that have been open more than 12 months. This therefore does not take into account all of the stores that closed for lack of business in the last year. Of course it also doesn't include sales from new stores that opened in the past year but I think it's fair to say we've seen more closures than openings (one look at all the "For Lease" signs in store fronts tell the story). So unfortunately, when it comes to economic growth the retail sales numbers are not very encouraging.

We got the Business Inventories report in the morning as well and it was a slight reduction, which will have a negative impact on GDP. While sales have gone down inventories have dropped a little faster and the inventory-to-sales ratio is lower now than it was at its lowest in 2005-2008, indicating tight control of inventories by businesses who are using more just-in-time manufacturing. It's also why any disruptions to parts flows, such as from Japan recently, will have a negative impact on businesses.

In the afternoon we got the Beige Book report and it was a snoozer. It was released at 2:00 PM and I could barely see a ripple in the futures. Overall the report pointed out a continuation of slow growth although it was mixed between regions. More businesses are trying to pass through higher costs but many businesses can't get the consumer to belly up to the bar with them and they're being forced to absorb the higher costs. Is this why Bernanke feels the higher commodity prices are "transitory"? Or is that the same kind of assurance as the "contained" sub-prime mortgage mess in 2007? I'll be kind and simply say Bernanke is an eternal optimist. The trouble is we need a realist.

The Fed also reported that they are concerned about what's happening in Japan and they're worried that it will have a larger impact on the U.S. economy than previously believed. A majority of the 12 districts have reported disruptions to business in their area and expect further disruptions. Japan will of course become the primary excuse, um, I mean reason for a reduction in earnings as we move forward and maybe even in forward projections in the earnings reports coming up.

Earnings season is upon us and yesterday's opening salvo by Alcoa was less than inspirational for bulls. What everyone wants to know is what the future looks like and Alcoa was unable to muster enthusiasm in that respect. This morning we got to hear from JPMorgan Chase (JPM) and they came out with some good numbers, or at least they met expectations. The stock shot higher at the open and immediately sold off for most of the day, closing down -0.8%.

JPM recently tested its February high, which was a test of the October 2009 and April 2010 highs (similar to the banking indexes). What does that tell us about the health of our financial system? And this comes after trillions of dollars of newly created money has been handed over to them! One problem with the banks is that while they might meet expectations, as JPM did, their revenue is down. A look at the bank index later will show the banks look as though they'll continue to struggle.

As we enter earnings season all eyes are on the 'E' part of P/E. We know what 'P' is but it's the 'E' that will set the P/E ratios and all the arguments around that one ratio as justification for why we should be looking to sell or buy the market. We all hear the arguments ranging from an under-valued to an over-valued market. It's enough to make you just ignore the measurement.

Most of my commentary in these newsletters is based on technical analysis and a heavy emphasis on chart patterns, EW counts, Fibs, etc. I do a lot of research on the fundamental side of the market to see where my TA (technical analysis) could be wrong or where it's supported by fundamental factors but I then relate that to what I'm seeing and expecting on the charts that I present to you. At the moment I'm seeing TA patterns calling for a major market high, one that will lead to the next bear market leg down (wherever that leads us). For those who like to include a solid fundamental approach to the market, especially for your longer-term holdings (think retirement funds), things like P/E ratios matter.

One of the problems with incorporating P/E ratios is that it seems everyone uses their own version of E (earnings). Some use past earnings while most analysts use forward-looking earnings (predictions). Obviously past earnings are more reliable than predictions, especially at market tops where most analysts are still using rosy predictions. I prefer seeing comparisons using past earnings so that we have a more accurate comparison of this period to past periods and then what happened following those past periods. I don't trust economists' predictions for this.

Robert Shiller has some very interesting data based on past earnings where he uses current price divided by the average inflation-adjusted earnings over the previous 10 years (what he calls the CAPE -- Cyclically Adjusted Price Earnings ratio). It makes for more accurate comparisons between now and previous markets. Mark Hulbert wrote up a piece yesterday about this and his article can be found at this link: History bodes ill for stock market. Summarizing the main point of the article, Hulbert points out the following:

"According to Shiller's website, the CAPE currently is 23.5, or some 43% higher than the CAPE's long-term historical average. The four previous occasions over the last 100 years that saw the CAPE as high as they are now:
1. The late 1920s, right before the 1929 stock market crash
2. The mid-1960s, prior to the 16-year period in which the Dow went nowhere in nominal terms and was decimated in inflation-adjusted terms
3. The late 1990s, just prior to the popping of the internet bubble
4. The period leading up to the October 2007 stock market high, just prior to the Great Recession and associated credit crunch

As Hulbert points out, the CAPE values were higher in 1929 (30) and 2000 (40) so the current bull market could run higher. But clearly the bulls are pushing their luck here and the combination of this factor along with topping chart patterns (but not a confirmed top yet) should have bulls wary about the possibility we're going to get at least a deep retracement of the 2-year rally.

Back to today's market, Obama's speech at George Washington University this afternoon, where he laid out his deficit reduction plan, may have helped the afternoon bounce. His plan proposes a savings of $4 trillion in 12 years. If my higher-level math skills serve me correctly, that's $333B per year over the next 12 years. It's primarily made up of plans to reduce Medicare spending, especially on drugs, and end "tax breaks" for families making more than $250K. This tax will of course include small business owners that do most of the hiring, especially coming out of a recession, and will therefore hurt employment growth but I'll leave my political commentary at that.

Obama's plan contrasts sharply with Rep. Paul Ryan's (WI) plan to cut $6.2 trillion over the next 10 years ($620B per year so almost double Obama's) and no new taxes. The gloves are off, let the battle begin and it's going to be a battle royal into the 2012 elections. That's what this is really all about.

I'm not sure why but I'm actually encouraged by all this talk about the debt -- finally. People are taking it seriously and we can only hope that gridlock doesn't prevent some kind of significant reductions. If we can put a plan together and stick to it, whatever it is, we (including businesses) can make our future plans and get on with life, knowing that the country isn't headed for financial Armageddon. Let's hope and pray our representatives can accomplish something other than grandstanding for the next two years. Of course first we have to see if Congress will pass the measure approved in the 11th hour last Friday. From what I understand most of the $38B in "cuts" isn't actually real. They mostly came from unspent budgets. Sigh, just more lies.

So let's get to the charts and see what the past week has done to them. I'll start off with the Total Market Index, DWC, to update last week's charts. Looking at the short-term up-channel from July, which is a larger up-channel from March, there is nothing bearish about its chart. We're in an uptrend and you should keep looking to buy the dips. Any questions?

Total Market Index, DWC, Weekly chart

If only it were as simple as that. I like to look for where the market could turn and we're at one of those points. The test of the February high left a significant bearish divergence as pointed out on RSI. The break of the uptrend line from June on RSI and the bearish divergence at the April high is a clear warning to the bulls that this dip might not be one you want to buy. There is still a chance for another run higher but it's now a riskier bet.

Last week I had pointed out the topping tails on the candles as DWC was testing the February high. The fact that it has rolled over from that is clearly bearish. It's now finding support for the past two days at its 50-dma and the pattern supports a bounce into tomorrow/Friday but the higher-odds play will be to short the bounce rather than buy this dip.

Total Market Index, DWC, Daily chart

SPX looks just like DWC and also failed to make a new high above its February high, leaving a bearish divergences. The mid line of its up-channel from July acted as resistance after testing the bottom of the channel in March. This is usually a good sign the up-channel is about to fail. It could bounce again and make a new high into the end of the month, perhaps tagging its upper target at 1353-1354 but that's not how I'd want to play this from here. If we get a bounce into tomorrow/Friday I think it will be worth probing the short side. Next week could experience strong selling if the bearish wave count is correct.

S&P 500, SPX, Daily chart

Key Levels for SPX:
- bullish above 1344 to 1353-1354
- bearish below 1305 and more bearish below 1290

Last week's price action formed an expanding triangle which is a reversal pattern. The downside price projection from it is the widest part of the triangle, shown with the vertical blue lines. It pointed to the 1310 area which is where the decline found support. Today's low was essentially a test of yesterday's low and left a bullish divergence at the retest, increasing the likelihood that it's ready for a bigger bounce into tomorrow. If the bounce forms some kind of corrective structure, such as a 3-wave a-b-c bounce as depicted, it will be a good setup for the next leg down. I've labeled the top of the bounce MOAP (Mother Of All Puts) because the next wave down should be stronger selling than this week's. For those of you on the live Market Monitor, I'll be watching very carefully for this setup since it's one we'll want to ride.

S&P 500, SPX, 60-min chart

The DOW was able to make a marginal new high above its February high but other than that it looks like the two indexes above. It rolled over from resistance at the February high as well as at its broken uptrend line from August-November. It remains relatively stronger by not yet reaching its 50-dma near 12175. If the other indexes continue lower I suspect that level will not provide much support for the DOW. As with all the indexes, the bearish pattern is effectively negated with a strong rally back above last Friday's highs but anything less than that could be just a high bounce before rolling back over.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 12,444
- bearish below 12,175

For an index that was looking the weakest for a while, NDX was the stronger index today. Its price pattern for the pullback from last week's high is also the one that has me feeling the most bullish about the prospects for a new high. The pullback looks like a correction (vs. the RUT for example, which shows a strong impulsive decline). Because it's the only index showing a choppier downside pattern I'm sticking with an expectation of a bounce followed by more selling (shown in red) but it wouldn't take much of a rally to get back above 2345 in which case the bearish pattern would be negated. It might only make a minor new high or we could see a stronger rally into the end of the month. The upside is not clear but respect a break to the upside if you're playing the short side. So far it's doing battle between support at its broken downtrend line from February and resistance at its 50-dma. A break below 2280 that stays below will be bearish confirmation.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 2345
- bearish below 2280

The RUT left an interesting pattern between last week and this week that you don't find too many times in indexes -- an island reversal. The gap up on March 30th and gap down yesterday left an open window between about 830 and 833. The island of candles that was left between the dates is a bearish reversal pattern. I'm showing a bounce into tomorrow/Friday like the others but that gap might be strong resistance so watch to see if any bounce fails there and heads lower again. A downside projection out of the island reversal is its height (27 points) so that gives a downside target near 802, which is the top of the gap left from March 21st. Back above 850 would negate the bearish pattern.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- bullish above 850
- bearish below 818

Moving in a little closer on the RUT, I wanted to show the tight parallel down-channel for the decline from Friday. This is an impulsive move with no overlap between the highs and lows of the dips and bounces along the way. This tells me the trend has changed and why I'm looking to short bounces now rather than buy the dips. The bounce idea shown is just an idea -- it could be more or it could be less. But if it plays out something like this you'll want to watch it carefully for a short entry. This is what I'll be watching closely on the Market Monitor so that we can get as close as possible to the top of the bounce.

Russell-2000, RUT, 60-min chart

Keeping TNX (10-year yield) on my radar screen shows me that it remains in synch with the stock market so there are no warnings from it yet. It rolled over from resistance last Friday (its downtrend line from 2007) and today closed marginally below its 50-dma. An important support level is 3.4% so we'll see how it behaves if it gets down there. A rally in yields (selling in bonds) above 3.62% would be bullish for stocks.

10-year Yield, TNX, Daily chart

To keep things in perspective with TNX, especially since I'm monitoring it closely with respect to what the stock market is doing, the weekly chart below keeps the current moves in context. The downtrend line from 2007 is potentially the top of a large multi-year sideways triangle pattern playing out, which will eventually see a bearish resolution in 2012. If true we should see yields drop to around 2.5% and then back up to the current area before dropping hard in 2012, heading for 1%. This is the deflationary scenario playing out. But if we get a pullback to perhaps the 3% area that's then followed by a rally above 3.6% it will the 3rd wave if the move up from the 2010 low and that would tell us we've got an inflationary (hyperinflationary?) problem with rates headed for at least 6, 7 or 8%. We've got lots of time before this resolves but it's what I'm watching for to help answer that question.

10-year Yield, TNX, Weekly chart

The Fed is of course trying to keep rates lower (I actually said that with a straight face) so we'll be able to monitor their progress on these charts. And in the continuing saga of the Fed trying to lead the horse to water but not being able to get it to drink, recent Fed data on bank lending shows it has declined since the end of 2010 in almost every category of lending. And the decline in lending has many worried that bank revenues are falling and this earnings season, starting off with JPM and BAC this week, is pointing that out. While lending dropped -1.3%, deposits increased about the same amount and this creates a declining income situation where the bank pays out more and takes in less. On top of that, the banks have been reducing their proprietary trading desk operations so less income through that end.

The banks will be able to manage their reported net income through things like reserve adjustments, which is how JPM was able to report higher net income on lower revenues. If they decrease their reserve requirements they'll be able to apply that towards the bottom line. With the massive money printing that's been going on, much of that money is ending up in banks' reserve accounts (to take care of loan losses). This will also make it easier for them to take some of those reserves and apply towards the bottom line. So it's going to take a little sleuthing to figure out the earnings reports that come out.

The bottom line for us is not so much the earnings reports but instead how the market reacts to those reports. For that we simply need to wait and watch but if today is any indication, it's not going to be positive.

The Fed continues to struggle in getting money into the economy but I can't help but believe their true motive is to get money into the banks' coffers as a way to protect them from the massive loan losses they still face (and would have to face now if the FASB ruling were changed to mark their assets to market instead of make-believe).

After the banks buy U.S. Treasuries from the government the cash is used by the government to continue paying for all of its expenses, which are increasingly supported by borrowings rather than tax income. The Fed prints money and uses it to buy the debt from the banks and place the debt on the Fed's balance sheet, which has skyrocketed in the past year. The banks then use the cash from the Fed and use it to build up their reserves and buy more Treasuries. Round and round we go, where it stops, nobody knows. So it's all an incestuous relationship resulting in the government living on created money and the banks putting that money into their own accounts. Ah, the web we weave.

The Fed's cash is not pushing up stock prices directly (although some money is coming from the banks if they want to hold stock securities) but instead the buying in the stock market has been coming from speculators who believe that all that cash will EVENTUALLY make it into the stock market. It's been one massive hope-filled rally on a promise by the Fed that things will get better. Don't worry, be happy.

But the thing to keep in mind is that a stock market rally based on hope that the cash will make it into the market is not a rally based on fundamentals. This is why there is a huge disconnect between Wall Street and Main Street. But with a Fed that keeps creating money they don't have, in hopes of increasing credit which we don't need or want, it keeps speculators believing in miracles who want to be positioned in stocks and commodities to be ready for when the Real rally begins. Bear markets are filled with rallies that then slide back down that slippery slope of hope gone bust.

The growing concern now is that all the Fed's newly created money continues to seep into the markets looking for a home. It has been bidding up prices of commodities and stocks and inflation is reentering the picture at a scary rate. But not to worry, Bernanke says the problem is "transitory". At least he didn't use the word "contained". What's truly amazing is that people still believe him. He looks so professional and says it with a straight face and by God, he must be telling the truth! I think we'll all learn that once again the great Wizard is all smoke and mirrors behind a curtain and a loud speaker and when his mouth moves he's lying. But that's just me; I may be a bit harsh on the poor guy.

If all that new money creates a price-inflation problem but credit continues to collapse we will have price inflation in a deepening recession (depression). It will be stagflation (like the 1970s) or worse we could experience hyperinflation that causes a depression. None of this sounds too delightful to me and yet that's where the Wizard is taking us. Enjoy the ride but know where to get off.

So, let's take a look at what the bank indexes are telling us. They were weak today, after starting with a gap up on JPM's earnings news. And then it was a "oh wait, their earnings are actually poor" response and they all sold off. You can put lipstick on a pig but she's still ugly (unless you're a pig). And as Todd Harrison likes to say, as go the piggies so goes the poke. I had pointed out the failure from the little rising wedge last week on the BIX chart and the expectation is for a fast retracement of it, so back to the March 23rd low at 143.71 quickly. At a low of 146.36 today it doesn't have much further to go. We could see a bounce from there and even a strong one (green dashed line) but I wouldn't bet that way, at least not yet. The higher-odds probability from here is down to the bottom of a parallel down-channel from February, currently near 140, which would also be a test of its 200-dma. There I'd be a willing buyer of a bounce.

Banking index, BIX, Daily chart

The expanding triangle that played out last week on SPX looks to be playing out on the daily chart of the TRAN. It's a bearish reversal pattern and at the moment projects down to about 4300 if it breaks down below 4800. That would be a 20% decline from its recent high near 5400. So far this week's price action looks like a small bear flag so the expectation is for lower prices.

Transportation Index, TRAN, Daily chart

The poor unloved dollar remains pinned to the mat waiting for the ref to call it. Then it will be able to jump up from the mat and start off running again. The small consolidation this week looks like a bearish continuation pattern and it's looking very likely that we'll see the dollar test its November 2009 low at 74.23. It would also have the dollar hitting the bottom of its bullish descending wedge (which has confirming bullish divergence). When the dollar starts its rally its going to come out of this strong and quickly retrace the wedge, so back up to about 79 in a matter of weeks. That should cause some serious unwinding of the dollar carry trade as dollar bears, of which there are many (93%), run for cover.

U.S. Dollar contract, DX, Daily chart

If the dollar gets one more new low will gold get one more new high? Or is the commodity market more closely linked with the stock market and heading lower from here? We'll soon find out but right now gold could go either way. On its weekly chart below I'm showing one more new high to reach the trend line along the highs from 2008, near 1500. There's another target near 1530 so that's the upside target range for now if we see another leg up. Otherwise a break below 1410 would tell us the high is likely in place.

Gold continuous contract, GC, Weekly chart

We've been following silver on the Market Monitor because it could be setting up a great trade. The rally in silver has gone parabolic and (easily seen on a monthly chart) and when it comes back down it will likely be a very fast and strong decline. It'll be a nice short trade (puts on SLV or calls on ZSL) but clearly the hard part is finding a top in a parabolic rally. Talk about playing with fire! Ideally silver will get one more leg up to the 42.40-43.00 area to complete its pattern and then start its selloff. But if it breaks below 39 it will indicate the rally has finished. Get short and hang on (but always managing your risk carefully).

Silver continuous contract, SI, Daily chart

Oil's weekly chart below shows it rallied up to just shy of its price target at 114.99 (Sunday night it hit a high of 113.46) and the top of a parallel up-channel for its rally from January 2009. If it tries again for $115 it should be a very good setup for a reversal and selloff. A drop below 102.70 would indicate a high is probably already in place.

Oil continuous contract, CL, Weekly chart

The pullback in oil so far is finding support at the gray trend line which is along the highs from June 2009-January 2010 where it had stalled in early March but then broke above on April 4th. Currently near 107, if it continues to hold as support we could get another leg up. An interesting thing about the upper trend lines is that they merge when looking at the chart with the log price scale, which is probably the better way to view the longer-term chart. Now it looks like a bearish rising wedge pattern, which if correct also points to a complete retracement of it (so back below 30). The 3-wave bounce correction to the 2008-2009 decline also calls for a complete retracement of the 2009-2011 rally. I know, hard to believe. I show the charts and you can believe what you want.

Oil continuous contract, CL, Weekly chart, log price scale

Tomorrow's reports include the unemployment claims and PPI data. We'll get to see how the well inflation is staying "contained".

Economic reports, summary and Key Trading Levels

Summarizing tonight's charts I'm showing an expectation for a bounce into tomorrow/Friday to set up a good shorting opportunity and that's what I'll be watching for. There is the possibility that the expected bounce actually started at yesterday's low and might have completed this afternoon. I mention this possibility only because it would mean hard selling right from here. If the market gaps down tomorrow and/or Friday it's not likely to recover. In other words if you want to play the short side you might be faced with having to chase the market (is there any other way with this hard-to-trade market?).

If the bounce continues or we get a choppy pullback and then continuation higher, it should lead to a good short play setup. If the bounce becomes stronger and retraces more than 62% of this week's decline it will start to look more bullish. Keep track of the key levels to the upside, especially on NDX since that would likely be the first one to break to the upside.

But as things look at the moment, the higher-odds scenario looks bearish from here. Even sentiment, with bullish sentiment spiking higher last week, is bearish from a contrarian perspective. Another good piece by Mark Hulbert had to do with the very fast and strong shift to bullish sentiment at the early part of this week. It seems everyone joined the bull camp in expecting higher prices. The full article can be found here: Where have all the bears gone? but summarizing it, his measurement of sentiment of the stock newsletters that he follows showed the average recommended equity exposure at the end of March was 15.8%. That jumped to 58.8% by early this week. The shift was even more evident for the techs. The Nasdaq newsletters had an average recommendation that was -41.7% in late March but completely reversed to a +46.7% in just a couple of weeks. With no wall of worry to climb and traders having already bought in, it's made for a tough week for the bulls this week.

Sentiment as portrayed by the VIX remains very bullish as well, and therefore bearish for the stock market. From a chart perspective the VIX is just waiting for an excuse to jump up off the top of its bullish descending wedge. And when it jumps up it's likely to go high and go fast.

Volatility index, VIX, Weekly chart

It will be interesting to see how sentiment changes over the next couple of weeks, especially if the market heads lower. If sentiment rapidly switches back to bearish it could be at least short-term bullish for the market. If the bullish sentiment remains high, meaning they're looking to buy the dip (and so far the ISEE call/put ratio indicates that's what's happening), it will remain bearish for the market.

Good luck during the rest of opex week and I'll be back with you next Wednesday.

Key Levels for SPX:
- bullish above 1344 to 1353-1354
- bearish below 1305 and more bearish below 1290

Key Levels for DOW:
- bullish above 12,444
- bearish below 12,175

Key Levels for NDX:
- bullish above 2345
- bearish below 2280

Key Levels for RUT:
- bullish above 850
- bearish below 818

Keene H. Little, CMT