The stock market is priced for perfection as earnings season winds down, the tax plan is debated and North Korea remains a thorn in the side of its neighbors and the U.S. Everything has to work out perfectly from here in order to keep the market from becoming disappointed and right now the bulls are betting on that outcome.
Today's Market Stats
The market celebrated the completion of one year following Trump's election with a little push higher for the rally (more so for the techs). Market participants continue to bet on a bullish outcome for the new tax plan that's now being debated. Trump is in Asia and one of the reasons is to figure out what to do about North Korea. Traders are betting on a bullish outcome. Earnings season has turned a little weaker but traders are betting on a bullish outcome. Priced to perfection, the market is vulnerable and could soon disappoint the bulls if some stronger buying pressure doesn't show up soon.
The one-year rally following Trump's election certainly has the momentum behind it, although that's been weakening, after completing a very good year. In fact it's the best post-election 1-year rally since 1945, which also happened to be the end of WWII and the launch of one of the strongest economies in the world. That can hardly be said about our economy today. In fact this time there is such a strong disconnect between the economy and the stock market that it makes one wonder why we've had such a strong rally.
The answer to the question about the rally over the years is of course liquidity. The Fed and other global central banks have created so much money and it continues to look for investment opportunities. Asset prices, especially the stock market and housing market, have enjoyed all that newly-created money that's looking for a home. The rally has less to do with fundamental values and more to do with simply looking for a place to invest the money. Take the money away and the house of cards stands vulnerable, which is one reason why there should be more concern about the Fed taking away the punch bowl. It's probably because all that drinking over the years and the inebriated effect on investors is going to take time to register. Money in -- assets rise, money out -- assets...
Today's rally was minor in the blue chips but it was good enough to tack on another "new all-time closing high." That keeps the sheeple coming in and buying more (the stock market is one of the few places where people get excited about paying higher prices for something). But there's also very little negative news and that helps people stay positive, which is what we see in sentiment surveys. As long as the people are feeling upbeat there will be a desire to stay bullish about the stock market.
The bullish sentiment is what the bears are fighting and it's the reason they've had to stay in their caves until there's evidence of a top to the current rally. Most analysts don't see what could derail the market and that also helps the bulls. While the market has a habit of surprising the most people at the most unexpected times, that's not something most investors are worried about at the moment. They'll keep paying the higher prices as long as they believe prices will only continue to go higher. What's amazing is how many investors today have not experienced the emotional angst when the stock market stops going up.
As for tonight's charts, the #1 takeaway is the fact that there's no threat to the establish uptrends in all the indexes. The RUT is weaker but there's no impulsive decline to say with certainty that a top is in place. As I'll show, there are reasons to suspect a top could be very close now (possibly by Friday) the fact remains that any attempt to pick a top is simply an attempt to catch all those rising knives. Getting cut is a real possibility if you attempt to sell this market.
S&P 500, SPX, Weekly chart
With the tiny little weekly candles, especially the last three weeks, there's been very little change to the SPX weekly chart. Price remains near the trend line along the highs since April 2016 and the midline of its up-channel from 2010-2011. With trendline resistance holding and the weekly MACD threatening to roll over it's looking vulnerable to topping at any time. SPX needs a strong break above 2610 to have it looking more bullish.
S&P 500, SPX, Daily chart
Since the October 25th low it's looking like we're into the 5th wave of the rally from August. It's forming a rising wedge pattern, which is common for 5th waves, especially following a move that has gone too far too fast. The EW term for the pattern is an ending diagonal and that's a fitting term for what I'm seeing here. But it's also why it would look more bullish if it breaks out of the pattern with a rally above 2610. Confirmation of a top doesn't come until SPX drops below the November 2nd low at 2566.
Key Levels for SPX:
- bullish above 2606
- bearish below 2566
S&P 500, SPX, 60-min chart
The 60-min chart shows a closer view of the rising wedge pattern for what should be the final leg of the rally. As always with these patterns, they can continue longer than it seems possible and I'm depicting a couple of ideas for how price might play out from here. My best guess at this moment is shown in bold green and red, which calls for a continuation of the rally on Thursday into a top by Thursday or Friday. But it will have to be watched carefully since it could chop its way higher into next week. Next week is opex and that will be one reason why the market might hold up a little longer (light-green dashed line up to about 2610 next week).
Dow Industrials, INDU, Daily chart
Since October 24th, when the Dow first reached the trend line along the highs from April 2016 - March 2017, it has remain stuck beneath the line. For the past six trading days it has tested the line but has been unable to break through resistance and now it has dropped out of its up-channel from the beginning of September. It would be accurate to say the Dow has dribbled out the side of the channel since it has not broken down.
If the Dow does manage to get above the trend line, near 23630, watch for a possible back-test of the bottom of the up-channel, which will be near 23740 on Friday. Another possibility is a dip on Thursday that could lead to one final test of the 2016-2017 trend line near 23640 on Friday. The bulls need to see a stronger move above 23800 in order to negate the bearish setup here.
Key Levels for DOW:
- bullish above 23,800
- bearish below 23,350
The techs have been out in front of this rally, helped of course by the FAANG and some other big-cap tech stocks. The sentiment is certainly behind the move, which can be seen graphically in the bottom chart below (NDX is the top chart). It's the Rydex Asset Ratio, which compares assets in bear funds plus money market funds and bull funds.
Rydex Asset Ratio, Monthly chart
The Rydex asset ratio has spiked up in the last month to new all-time highs, which now has it well above where it was at the height of the craziest dot.com high in 2000. When the retail crowd buys into a move (literally) it's usually a good time to be thinking about taking the other side of the trade.
Nasdaq-100 index, NDX, Daily chart
Since the November 2nd low for NDX it has been working its way higher as it finds support at its uptrend line from October 25th, which is where it closed today. If you look at the trend line on a 60-min chart you'd see how each hourly candle hugged the trend line. Any decline from here would break the uptrend line so the bulls can't let up. But the top of a parallel up-channel for the rally from July is now close, near 6370, which is the upside potential from here. NDX would be more bullish above 6400 and the first sign of trouble would be a drop below Tuesday's low near 6300.
Key Levels for NDX:
- bullish above 6400
- bearish below 6194
Russell-2000, RUT, Daily chart
The RUT is setting up for a big move. It has essentially been consolidating in a choppy pattern for over a month and the bullish interpretation of the pattern, calling it a bull flag, says we should see a breakout and potentially right from here. The bearish interpretation says we've had a series of 1st and 2nd waves to the downside and that it's now ready to break down.
A breakdown would actually be a stronger move than a rally but in either case it's likely going to be a strong move. At the moment it's a flip of a coin for direction but I'm leaning into the bear camp here (I'll quickly correct my leaning posture if I see an impulsive move back up since all we've seen so far are a bunch of 3-wave moves over the past month+).
The bullish setup here is the bullish hammer candlestick with the bounce off support this morning. Between its 50-dma at 1471 and its broken trend line along the highs from 2007-2015 (which the RUT had broken above with the big rally on September 27th), near 1465, the bulls have a strong reason to buy the pullback. This morning's low was 1469 and they'll need to drive the RUT below 1465 (and keep it below that level) to prove a top is likely already in place, in which case I would expect strong selling to follow.
Key Levels for RUT:
- bullish above 1515
- bearish below 1465
10-year Yield, TNX, Weekly chart
Last week I showed an expectation for TNX to pull back from resistance at its downtrend line from 1988-2007, which it did, but so far this week we have just a little doji. I could make the argument that we have a small impulsive decline from the October 25th high, which would mean the trend has changed to the downside and that any bounce in the coming days would be a good shorting opportunity (buying opportunity for bonds), using a stop above the October 25th high at 2.475. There is the potential for only a bounce up to a price projection near 2.51, above which TNX would turn more bullish.
High Yield Corporate bond fund, HYG, Weekly chart
Another bond fund to watch carefully is HYG since this is a good indicator of bullish sentiment. I last updated its weekly chart in August after it dropped out of its small rising wedge from March and the top on July 26th. It had found support at its 50-week MA and bounced back up to the bottom of the rising wedge where it hung on for another 3 months before falling away from its bounce high on October 23rd. Today's strong decline has it breaking support at its 50-week MA at 87.76 and it's now looking like a breakdown has started. The large split between SPX and HYG is likely to be corrected with an SPX decline rather than a rally in HYG.
KBW Bank index, BKX, Weekly chart
Yesterday the banks got hammered to the downside and that followed two weeks of struggling at its trend line along the highs from 2011-2014. It smashed through support at its 20-dma, at 100.79, which had supported the previous pullback into the mid-October lows, and appears headed for a test of its 50-dma, which is climbing and currently near 98 (it closed today at 98.78). A drop below its October 13th low at 97.79 would confirm a top is likely in place and the next level of support would be its 50-week MA and its uptrend line from June 2016, both currently coinciding at 94.13.
Transportation Index, TRAN, Weekly chart
The TRAN topped out on October 13th and closed back below its July 14th high on Monday. It's leaving a fairly large negative divergence compared to the Dow at this point and Dow Theory says the new highs for the Dow, without the TRAN confirming those highs, is bearish. The weekly oscillators for the TRAN have rolled over following bearish divergence since last December and it's not looking like the negative divergence with the Dow is going to be resolved with a rally in the TRAN. That leaves the Dow vulnerable.
U.S. Dollar contract, DX, Daily chart
On October 26th the US$ climbed about a neckline near 94, back-tested with a pullback on November 3rd and now appears ready to push higher. Unless it drops below 94 it now is on a bullish path and the up-channel for its rally from September is the guiding channel. A rally to the top of the channel would also have it testing its broken 200-dma, both of which will probably cross near 96.40 next week
Gold continuous contract, GC, Daily chart
I've been on the fence with gold but with the dollar now looking more bullish I think it's going to pressure gold to the downside. Between the dollar and bitcoin's (BTC) strength there seems to be less upside pressure on gold. The one big plus for gold is if the stock market tanks due to some kind of extraneous event we'll likely see a rush into gold.
Barring anything bad happening, gold's struggle to get off the mat following a bounce off its broken downtrend line from 2011-2016 (it's the second back-test) tells us it's weak, which increases the probability (not guarantee) that it's going to break down further. The larger bearish pattern continues to suggest we have not seen a long-term bottom for gold yet. A retest of the 2008 low at 681 is a real possibility over the coming years.
I've never been a strong proponent of buying gold as an alternate currency. I like owning a little bit of gold and silver for emergencies (for when North Korea sets off an EMP above us and shuts the lights off, wink) but I do like the digital currencies as an alternate currency. Long live the cryptos and prove the Jamie Dimons of the world spectacularly wrong (Disclosure: I own BTC and a few other alt coins). I've found the digital currencies to trade much better technically than do stocks, which are now highly manipulated. I'd also love to see the money power taken away from governments and central banks. But I digress and who knows, maybe gold will do better if BTC spectacularly fails.
Oil continuous contract, CL, Weekly chart
Oil has had a bullish three weeks and has firmly broken above a possible inverse H&S neckline (May 2015 - January 2018), which gives us a price objective of 85. There is of course no guarantee it will get there but that's the bullish potential over the next several months. But the bulls will not have an easy go of it. Oil is now nearing price-level S/R near 58.50 and its 38% retracement of its 2013-2016 decline, which is at 58.97. It's declining 200-week MA is also nearing 58.50 and with oil overbought on the daily chart I think it's going to be tough making much further progress before pulling back and resting.
If oil pulls back in small choppy consolidation patterns we could see a rally to the top of a possible rising wedge pattern, currently near 61 and which will be near 62 in mid-December. Above 62 would clearly be more bullish since a lot of resistance will have been broken by then. I'm not convinced oil is going to rally strong from here since the longer-term pattern looks bearish but it doesn't prevent a higher bounce pattern before turning back down next year.
Other than the Michigan Sentiment survey results on Friday the rest of the week remains a very quiet time for economic reports.
The market remains bullish as long as pullbacks remain corrective. There's no reason a bear should even think about shorting this market since there's no evidence yet that a top is in place. Based on the price pattern, trend lines, Fibs, wave count, bearish divergences, and more, I don't think there's much upside left to this rally. In fact I see plenty of reasons why the rally could finish on Thursday or Friday. I also see a reason why and how the market could remain buoyant through next week (opex). And of course my opinion about a nearby top is just that. Again, there's no evidence of a top and that's reason enough for bears to stay away.
That being said, I think it's a very risky time for bulls. We see lots of evidence of complacency, such as the Rydex Assets ratio shown at the beginning of this report, a low VIX, Investors Intelligence bullish sentiment, etc. This complacency combined with an overbought market that's showing weakening momentum and market breadth makes for a dangerous time to be long the market, especially since we have such a large air pocket below us and a huge problem with ETFs that could go no-bid when the selling starts. Most investors have no idea about these risks.
I keep harping on the use of portfolio insurance because I know a lot of investors, especially retirement account holders, won't sell. There are many analysts telling investors to simply hold on and buy the dips from here. That could work nicely if we're only looking for a short-term top but the risk I see is a more permanent top, one that could last for decades. I just think that kind of risk is too great to ignore. If we do get a larger decline that looks more like a pullback correction I'll be one of the first to warn about another rally coming. With that any portfolio insurance can be cashed in and go back to being a full investor. And with that I offer my soap box to the next speaker.
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
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