When there's the threat of a market decline just throw another politician in front of a microphone and let him/her say things look optimistic and watch the shorts run for cover.
Following yesterday afternoon's decline on words from Senator Harry Reid's comments about the challenges ahead in solving the fiscal crisis it looks like the politicians got the message -- "say only positive things otherwise we're going to lose the stock market." The stock market started in the hole this morning and then dove deeper, making it look like last week's rally was going to be toast. Time for some more political VI (verbal intervention). Shorts really can be their own worst enemies -- cover quick, ask questions later.
House majority leader Boehner was placed in front of a microphone this morning and told to say some positive things. All he could think of was that he was "optimistic" and before the bovines could yell "boo!" to scare the bears, this morning's gaps were closed and the indexes were back in positive territory. To say this market is on pins and needles and subject to a lot of whipsaw on merely words out of a politician's mouth would be an understatement. And this is of course wreaking havoc on traders, especially short-term traders. I think it's fair to say we could be in this environment for the next 4-6 weeks, although it should quiet down in the 2nd half of December when Congress goes on vacation.
The market's mood was not helped this morning after futures dropped during the overnight session on that the plan for a Greek bailout plan was starting to take on water and sink with Greece. The austerity measures are still required and therein lies the problem -- citizens are not wanting to accept any austerity measures. Look at who France voted for. Politicians are nothing if not survivalists -- they know how to stay in power and if doing the wrong thing keeps them in power for at least a little longer then that's what they're going to do. Jean-Claude Junker (Prime Minister Luxembourg) said it best (and most honestly) -- We all know what to do, we just don't know how to get re-elected after we have done it. Here's a thought for politicians facing this predicament -- do what's right for the country and its people and not for yourself! I know, what a concept.
Precious metals also got hit this morning and unlike the stock market they did not recover. That could be a canary that the stock market needs to pay attention to. Part of the problem that Greece is facing is that private Greek bond holders are not very interested in taking another haircut by selling them back to Greece at 28-35 cents on the dollar. More and more it's becoming apparent that the only buyers of Greek bonds is the public sector through the IMF and ECB. Germany is balking at the ECB buying more sovereign debt by creating more euros to do it. If anyone knows inflation problems Germany is it.
Not helping the market's mood this morning was the New Home Sales report which showed flat from September's 369K to October's 368K but September was revised down from 389K. Expectations were for the number to remain flat at 388K. Remember, these numbers follow the boom years when new-home sales hit a peak near 1400. Prices are at least up so that's good news (banks continue to sit on foreclosed properties, which restricts inventory to help prices recover and it helps them by not having to sell the distressed properties at a loss) but the lack of sales will continue to hurt the broader economy. Everything from construction jobs to appliances and household goods is still in the dumpster. Looking at the chart of new-home sales shows it motoring sideways in the mud. The big question is whether it's bottoming or simply consolidating before another leg down.
New Home Sales and Prices, 1996-2012, chart courtesy briefing.com
When you look at the lack of recovery in new-home sales it has to make you wonder why the home builders have recovered so much. Granted, the home construction index (DJUSHB) hasn't even retraced 38% of its 2005-2008 decline, but it's at least more than the new-home sales numbers. I've shown the chart of this index before and pointed out it could make it up to the projection for two equal legs in its bounce off its November 2008 low, which is near 495, as well as tag its 38% retracement near 508 (its November 2nd high is a little shy of 465). But the risk is for it and the broader market to head lower from here and the a-b-c bounce in this index points to another leg down and a break of its November 2008 low (130). The very sharp rally from October 2011 fits nicely as the c-wave and comparing it to the new home sales "bounce" one has to wonder why all the excitement in the builders and my opinion on this is that it's setting up one big bull trap.
DJ Home Construction index, DJUSHB, Monthly chart
While the initial news was sour tasting for the bulls, it only took a statement from Congressman Boehner this morning to flame the shorts. An optimistic comment about cooperating with the president was enough to ignite a rally back up to the week's highs, ignoring the fact that Boehner also said a tax rate hike was not on the table, which of course it's on the Democrats' table. The choppy whippy price action is likely to continue and traders will have to fight their way through it. Just remember that if you don't see a good trade setup, don't force one. Flat is the 3rd position choice which most traders hate but is often the best position.
The bulls view last week's sharp rally as convincing evidence the 2-month correction off the September/October highs has completed and that we've now started the next leg of the rally. Bears view last week's rally as nothing more than short covering on low volume. Bear market rallies on lighter volume tend to be the strongest in terms of points gained quickly, thanks to short covering, and recovering 50% of a two-month decline in just 3-1/2 trading days certainly falls into the category of a strong short-covering rally. The light volume makes it suspect but the bulls will argue that the light volume during a holiday-shortened week is not a good comparison. It sounds a bit like "it's different this time" but they're not wrong either. Only time will tell and in the meantime I'll do my best to see how it fits in the larger patterns.
I want to start with a longer-term look at the market with the SPX monthly chart to point out some price and time symmetry that's showing and why there's a good chance we will not revisit the September/October highs. On the monthly chart below I have a trend line along the lows from 2002 to 2009 and then I attached a parallel line to the 2000 high and another parallel line to the 2007 high. The top of the channel off the 2000 high was resistance at the May 2011 high and most recently acted as support for the November low. So far it's a bullish back test. The higher parallel line, off the 2007 high, shows a little more upside potential since it's currently near 1492 but notice the projection at 1474.25 -- this is where the 2009-2012 rally was equal to the 2002-2007 rally, showing the symmetry in both the down-channel as well as price. There's also time symmetry that's shown with the vertical lines -- the length of time for the 2002-2007 rally is the same amount of time for the 2007-2012 decline/rally. Each period is 5 years and each starts and ends in October.
S&P 500, SPX, Monthly chart, arithmetic price scale
I do see the potential for one more new high but maybe 1500 at the most. That's the upside potential vs. the downside risk of hundreds of points. The reward:risk ratio from here is simply not worth being long here unless you can watch the market closely and honor downside stops.
The above chart is using the arithmetic price scale and the chart below shows what it looks like with the log price scale, arguably the better way to go when looking at a monthly chart with trend lines. I created a parallel down-channel off the 2002-2009 trend line for the bottom of the channel and attached the parallel line to the 2007 high. SPX broke above the top of the channel in September and then broke down below it in October. The current bounce off the November low is pressed up against the top of this down-channel so it's currently acting as resistance. Notice also that the broken uptrend line from 1994-2002 was back tested at the May 2011 high and again at the September high (and almost test at the April 2012 high. That's 3 tests and it's common to see the 3rd test lead to a reversal. So when I put all these pieces together I believe the top of the 2009-2012 rally is in place but I can't yet rule out one more minor new high in December.
S&P 500, SPX, Monthly chart, log price scale
Moving in closer with the weekly chart below, to show the 2009-2012 rally, the wave count shows an A-B-C bounce pattern with the rally from June 2010 hammering out the c-wave in an ending diagonal (rising wedge), which calls for all corrective (choppy, whippy) price action and which is certainly all we've had. It's been a frustrating time for most traders so at least from a trading perspective, if we're starting a move down we should at least get some strong moves to trade. The waning momentum in the higher price highs since May 2011 helps confirm that we're looking at a bearish rising wedge. The bottom of the wedge held (slight break) in the November decline and you can see price up against the top of the parallel down-channel discussed above. The 20-week MA (blue), at 1412, is also close to being tested. It's a good setup for a continuation lower but it takes a break below the November 16th low at 1343 to confirm the next leg down is in progress.
S&P 500, SPX, Weekly chart
In last Tuesday's update I showed an expectation for SPX to pull back and then rally up to its broken H&S neckline near 1406. Instead, the market decided to skip the pullback and head straight up, which is typical for a bear market rally. During Friday's half-day session and very low volume it was easy to spike the market higher and SPX shot above its resistance zone of 1401-1406 to hit 1409 by the close. Into this morning's low it had given back all of Friday's gains but by the end of the day it was nearly recovered. Just a little whippy.
The daily chart below zooms in on the October-November decline and the current bounce. SPX has been consolidating near its broken H&S neckline, near 1407, and at the same location is its broken uptrend line from October 2011. This morning's low was a brief break below its broken downtrend line from October 18th but the back test of it and its 200-dma at 1384 held. This keeps it bullish but I'd want to see a rally above 1410 and hold above it for the close before looking for higher. Bears need to understand the upside risk to at least 1500 from here while bulls need to understand bear market rallies can reverse on a dime once the shorts who want out are out and there are no more buyers.
S&P 500, SPX, Daily chart
Key Levels for SPX:
- bullish above 1410
- bearish below 1377
I had expected this week to be a choppy consolidation of last week's rally and so far that's what we have. With today's rally it's possible we'll see another leg up from here for a higher correction to the decline into the November low but I'm leaning toward a little more consolidation before we get the next leg up. As can be seen on the chart below, we've got a small triple top pattern this week, with bearish divergence, and we could see another leg down for a larger a-b-c pullback pattern. There's a type of bounce pattern that says we could get a little higher Thursday morning before heading lower and playing with some Fib projections I think it would be bullish above 1416 but still potentially short-term bearish below that level. A 127% extension of the decline from Monday into this morning's low gives us 1415.60 and if that is achieved before heading back down I'd then be looking for the next leg down to achieve 162% of the pullback into this morning's low. That projection is shown on the chart at 1377, which would also be a back test of the trend line along the lows from September 26th and October 26th. It would also be a 50% retracement of last week's rally. From there I would expect a strong rally to follow in order to complete a larger A-B-C bounce correction off the November 16th low. There is a risk that we will not get another leg up for a bigger bounce pattern but that will have to be evaluated once the next leg down completes (assuming of course we'll get the next leg down as depicted).
S&P 500, SPX, 60-min chart
The DOW's pattern looks the same as SPX but I'm using a different wave count idea. Last week's sharp bounce could be a 4th wave correction within the move down from October 5th, which calls for another leg down to a minor new low before setting up a bigger bounce (in time if not price). While this is possible I think it's less probably now that I've seen this week's price action. I consider it to be an alternate wave count to the one on the SPX chart that calls for a higher bounce before setting up for a stronger decline. If the DOW can break above 13100 I'll then be looking for 13200-13300.
Dow Industrials, INDU, Daily chart
Key Levels for DOW:
- bullish above 13,100
- bearish below 12,700
The NDX chart below also shows last week's bounce as a 4th wave correction in its decline from September. This count fits well so I haven't thrown it out yet. It might be heading for gap closure near 2681 (to close the November 7th gap down), which is just shy of a 50% retracement at 2686. Today's rally to a minor new high stopped at its 200-dma so it's possible we'll get a bearish kiss goodbye following a back test. It would be bullish above 2681 but I'd watch carefully for trouble at 2686 and then its 50-dma near 2707.
Nasdaq-100, NDX, Daily chart
Key Levels for NDX:
- bullish above 2681 (gap close)
- bearish below 2562
The RUT rallied up to its downtrend line from September, near 813.50 so it will be bullish if it can rally further and hold above the downtrend line. If it makes it higher, look for a run up to 822-825 to test its 50-dma and broken uptrend line from October 2011. But a drop back down should test at least the 790 level before trying to rally again.
Russell-2000, RUT, Daily chart
Key Levels for RUT:
- bullish above 814
- bearish below 790
Last Friday's rally had the banking index, BKX, rallying up to support-turned-resistance near 49 and left a bearish kiss goodbye this week following the back test. If the broader market is going to rally we'll want to see BKX confirming it with a break above 49 and then multiple resistance levels up to 50. Above 50 would be a good sign from the banks. But a turn back down here, especially if it breaks below its 200-dma again, near 47, as well as its uptrend line from October 2011, it would leave me feeling pretty bearish about the banks and in turn the broader market. Follow the money.
KBW Bank index, BKX, Daily chart
The U.S. dollar held its 50-dma on the pullback to yesterday's low as well as the bottom of a parallel up-channel for the rally off the September low. Until it breaks below 79.50 I'm still assuming the dollar is going to rally higher but I can't be sure what kind of price pattern is going to unfold to the upside. It would be more bullish if it breaks out the top of the channel and the 62% retracement of its July-September decline, at 82.09, but for now I'm expecting more of a choppy consolidation before heading higher in the new year.
U.S. Dollar contract, DX, Daily chart
One of the things that has me wondering if we'll see a stronger dollar rally from here is what I see happening in the precious metals. Gold and silver got hit hard today, although they recovered some of their morning losses, and it's looking like an a-b-c bounce off the November 5th lows has completed. Another leg down to match the October decline, or something more, looks like the next move. Two equal legs down from October 5th would have gold targeting 1629 but if it's to be a 3rd wave down, as labeled, we're probably looking for a stronger decline to 1550-1600 before the next multi-week consolidation.
Gold continuous contract, GC, Daily chart
Silver has also completed an a-b-c bounce off its November 5th low and achieved two equal legs up for the bounce (at 34.29 with a high on Tuesday at 34.27). It would be more bullish if silver can break above 35 but at the moment the pattern looks like a good setup for a decline from here, with a downside target of 28 for now.
Silver continuous contract, SI, Daily chart
Like the metals, and commodities in general, oil looks to have completed an a-b-c bounce off its November 7th low and should be headed for lower lows from here. But oil bears need to see oil below the November 15th low at 84.57 to confirm the next leg down is in progress. That would also be back below the broken downtrend line from September 14th through the October 19th high. It's possible we'll see a back test and then launch another rally (depicted with the dashed green arrow) and a rally above the November 19th high at 89.80 would be bullish. For confirmation of a bullish move I would want to see the dollar declining at the same time.
Oil continuous contract, CL, Daily chart
Tomorrow's economic reports include the usual unemployment claims data and some GDP updates. We'll get the 2nd estimate for GDP and it's expected to show improvement from the previous +2.0% to +2.8% (thanks mostly to additional government spending). Depending on whether this number pleases or disappoints it could set the tone for at least the first half hour of trading. After that, anything goes.
Economic reports and Summary
We've known it's going to be a choppy whippy time in the market from prior to Thanksgiving through Christmas and probably into the new year. When you hear politicians talking about letting all of the current tax rates lapse (go over the fiscal cliff) and let the tax rates go up so that they can then pass legislation to reduce taxes you know we have a warped sense of right and wrong in our representatives. But then again I'm not telling you anything new.
In between now and then it's anyone's guess how the market will react to the daily sound bites out of our non-representatives (btw, whoever was in I voted to boot them out so I have a right to complain, whereas if you voted for your current representatives then you accept their shenanigans). Expect moves out of left field, such as this morning's hard reversal. Now all we need is something bad out of Europe or another politician saying there won't be any compromises and the market could just as swiftly reverse back to the downside.
Trading into the end of the year is going to have its unique challenges but with a bullish seasonal pattern I'm expecting some kind of rally into December. If it happens directly from here I will probably turn bearish earlier unless I see some good evidence that we should be looking for new highs. At the moment I'm expecting only a correction to the decline from October and if Santa is going to show up for more than a flash in the pan we should get another pullback before starting a rally next week. So it would actually be more bullish to see a decline into Friday whereas a rally higher from here would have me looking for where the bounce will finish next week (I'll be looking to hitch a ride on the sleigh that's going to run over Santa).
In between those two expectations could be a lot of whipsaw in the next week or two, which means trade carefully and that means smaller position sizes and quicker trades. Keep reminding yourself that you don't have to be in a position other than flat when the conditions are riskier than normal, such as they are now.
Good luck and I'll be back with you next Wednesday.
Keene H. Little, CMT
In the end everything works out and if it doesn't work out, it is not the end. Old Indian Saying