Looking at the behavior of the market the past several trading days shows a repeating pattern of gaps to the downside each morning followed by a recovery attempt for the rest of the day. The result has given us a choppy pullback, which is potentially bullish, but the series of lower highs and lows is a warning sign that a stronger selloff could be next.
Today's Market Stats
I apologize for the lateness of tonight's report. I apparently caught Jim's computer bug this afternoon and it crashed my computer. I spent more time than expected recovering my charts.
As for the market, the repeating pattern over the past several days shows the dipsters remain alive and active as they keep doing what has worked so well for them for a very long time. Bulls believe they should keep buying the dips since they'll be rewarded with higher prices. After all, the market always goes up, or so most traders have been conditioned to believe. And who's to argue they're wrong when in fact they've been proven right for many years now. Anyone new to trading since 2009 only knows a bull market and only knows how to employ bull market tactics. How do I know this? I was one of those traders back in 2000.
When I became an active trader in 2000 I knew only a bull market and in fact the strongest bull market that anyone had known since perhaps the rally in the late 1920's. It was "different this time" as technology was changing the world. The joke back then was to buy calls on Monday, come back on Thursday to take your profits and then take a 3-day weekend. After the top in March 2000 I bought dips along with everyone else and I continued to get hammered by the failure of the dips to gain traction and I became part of the group that kept getting forced out of positions and adding to the selling pressure as the market broke down.
It was not a fun time to be a die-hard bull and let's just say I paid a very high price for tuition as I learned how to trade a bear market. That tuition cost was fully recovered, and then some, in the next bear market following the 2007 top. I'm an eternal optimist but I love trading bear markets because of the inflated option premiums -- you gain on a put play from both a price decline and inflated premiums -- and the moves happen much faster. I had a lot more fun in 2008 than I did in 2000-2001.
I fully suspect we're going to see a whole new batch of traders pay a high tuition price once this bull market is done. Learning to play the market in both directions is an awesome way to pull money out of the market no matter which cycle we're in and all we have to do is figure how when it's time to switch sides.
Switching from a bull to a bear is especially hard since market tops tend to be choppy affairs and often form rounding tops for that reason. Bottoms, for stocks, tend to be spike reversals following a high-volume puke of positions by retail traders. Those are easier to identify than the crappy choppy topping patterns, which is what I think we're experiencing now. They're actually good times to back away from the market and avoid the chop.
Active traders have a difficult time not trading and they don't like being flat, even though that is oftentimes the best trading position to be in. Knowing when to be out of the market is what's needed to preserve trading capital for those times when the trend is more easily identifiable. With SPX trading where it was a month ago, with a lot of whoppy (that's choppy and whippy) price action in between I don't think either side has had much fun being in the market.
The big question of course is whether or not the bull market from 2009 is complete or if it instead has further to go. And even if it's not complete we could be setting up for at least a larger pullback correction before the bull gets back in the driver's seat. Even the short-term pattern is not clear enough yet to determine whether the pullback from the November high is just a small correction or something more bearish.
One of the problems with the recovery attempts over the past several days is that the market breadth is terrible. While most of the days have been spent recovering from quick selloffs in the mornings the advance-decline line and volume show the recovery attempts are on the backs of fewer and fewer stocks. The a-d line and volume have stayed in negative territory, today included, and that shows us there is stronger selling beneath the surface of the market, which we see as the broader stock indexes. Prices haven't moved much, which keeps things looking relatively strong, but there's greater weakness than what we're seeing in the prices. This follows warning signs from bearish divergence at the November high.
As for today, there was weakness from the overnight selling in the futures but there was a recovery attempt a few hours before our open. In our pre-market session, while the market hasn't been paying much attention to the economic reports, there was a little more weakness following the 8:30 reports.
We got some more inflation data with the CPI reports, which came in as expected (CPI +0.1%, Core CPI +0.2%) and an increase from September's +0.5% and +0.1%, resp. The Fed has the green light to raise rates if they think the inflation data is more than "transitory."
Retail sales came in at +0.2%, which was a disappointing drop in October from +1.9% in September (revised higher from the previously reported +1.6%). Ex-auto the sales dropped from +1.2% in September to only +0.1% in October and the slowdown in retail sales is always worrisome with an economy so dependent on consumer spending.
The Empire Manufacturing index also shows a disappointing drop from 30.2 in October to 19.4 in November. That was also less than the 26.0 that had been expected. Business inventories were flat in September after building up+0.6% in August and that's going to have a negative effect on GDP. That could worry the Fed if they see a trend here.
Our day started with a big gap down and hard selling for the first 10 minutes which was then followed by a recovery effort for the rest of the day. One small difference between today and previous days was a little more price weakness in the afternoon -- the morning bounce did not get the follow through to the upside like we've seen in previous days. That might be further bearish evidence of what could turn into a stronger pullback and possibly the start of something more bearish. It's still a little early to tell what this market has up its sleeve.
SPX remains a good proxy for the market, although I've been watching the RUT carefully as our canary index. When the RUT falls off its perch, which it's threatening to do, it will be a good signal for the bulls to get out of the mines quickly. But there's no clear breakdown yet and therefore bears have to continue respecting the upside potential for the rally to continue into and maybe through the upcoming holidays. I'll start off with the SPX weekly chart to show the first chink in the bull's armor.
S&P 500, SPX, Weekly chart
Since the beginning of October SPX has been nuzzling up underneath the trend line along the highs since April 2016, along with the midline of its up-channel form 2010-2011. Last week's little spinning top doji has been followed with a small red candle and if the week finishes with a red candle it could be interpreted as a reversal pattern at resistance. The rising wedge for the rally from February 2016 can be considered complete at any time but as of yet there is no evidence that a top is in place. Caution by both sides is warranted here.
S&P 500, SPX, Daily chart
Since October 27th SPX has been using 2566 as support, which can be seen on the daily chart below with the spikes down on November 2nd, 9th and yesterday, followed by recoveries off the 2566 lows. But today it closed at 2564.62 so a slight break below support. In addition to price-level support at 2566 there is also the top of a parallel up-channel from April-May that was back-tested yesterday.
SPX had broken above this channel on October 4th and back-tested a few times since. The failure to hold above the top of this channel today is another feather in the bear's cap and now all they need is follow-through selling on Thursday. Otherwise today could turn into a little bear trap that will lead to the launch of another rally to new highs and potentially into December. The dipsters could still be rescued with another rally.
There is a possible small H&S topping pattern with the neckline at 2566 and a drop below 2566 would open the door to a drop to the 2535 area, which is the price objective from the H&S pattern. An uptrend line from February-November 2016 is currently near 2538 and the 50-dma is near 2443. What the bears really need to see is a drop below the October 25th low at 2544 since that would confirm an important high is in place. Until that happens there remains the potential for a continuation of the leg up from October 25th.
Key Levels for SPX:
- bullish above 2597
- bearish below 2544
Dow Industrials, INDU, Daily chart
The Dow has the same possible H&S topping pattern as mentioned for SPX above. The neckline is near 25330 and like SPX it was broken today, which means the bulls need a quick recovery on Thursday and no later than Friday. A one-day break is so far just a head-fake break and the bears need some follow-through selling to confirm the break. Another gap-down start to the day would therefore be more bearish now and dipsters might find the market is not going to recover enough for them. The close on Friday, for the week, is going to be an important one.
Key Levels for DOW:
- bullish above 23,602
- bearish below 23,330
Nasdaq-100, NDX, Daily chart
Following its high on November 8th NDX rolled over from the top of its up-channel from July and the oscillators are in full sell mode. But the pullback is choppy and therefore fits as just a pullback correction to the rally. Also supporting the bullish argument is the fact that price remains above its 20-dma and midline of its up-channel, near 6220 and 6210 resp. The bears would be in a stronger position with a break below those support levels and its November 2nd low at 6194, in which case we could see NDX drop down to the bottom of its up-channel, near 6050.
Key Levels for NDX:
- bullish above 6347
- bearish below 6194
Russell-2000, RUT, Daily chart
As mentioned earlier, the RUT is my canary index and at the moment it's looking either drunk or hypoxic as it wobbles on its perch. If it falls off its perch the bulls need to be looking for the nearest exit. This morning's selloff had the RUT breaking support near 1466, which is its trend line along the highs from 2007-2015, which the RUT was using as support since November 9th until it broke this morning.
The RUT again found support this morning at the bottom of an expanding triangle (the trend line along the lows since October 4th) after a small throw-under below the line with the gap down and quick selloff. Now all the bulls need is a close back above the 2007-2015 trend line and a rally back above its broken 50-dma nearing 1480. That would be the first bullish sign for the RUT and a reason to believe we could get one more rally leg into the end of the month. The bears need to pressure the bulls into more selling with a drop below this morning's low at 1454.
Key Levels for RUT:
- bullish above 1513
- bearish below 1465
Russell-2000, RUT, 60-min chart
A closer view of the RUT's pattern shows how choppy it's been since the high on October 5th. This is one of the reasons why the pattern fits as a bullish consolidation that will lead to another rally. This potential must be respected by the bears and this morning's quick throw-under below the bottom of the expanding triangle might have been the final flush that will now lead to the resumption of the rally.
The RUT's bounce off this morning's low ran into its downtrend line from November 6th and was again rebuffed by trendline resistance. Currently crossing the 2007-2015 trend line near 1466, the bulls need to get the RUT above this level to at least open the door to a new rally. The rally might lead to just a bounce correction before heading lower but that will have to be figured out later. What happens the next two days and how the RUT closes this week will tell us how the rest of the month is likely to go.
Volatility index, VIX, Weekly chart
A little more fear is showing up in the market, reflected with a rally in the VIX the past two weeks. The top of its descending wedge, now near 15, is close to being tested again. Today's high was a test of its 200-week MA at 14.53 (with a high at 14.51) and any further selling would likely see the VIX pop above 15. Otherwise another rally in the stock market could drop the VIX back down to the bottom of its descending wedge, near the December 2006 low at 8.60. The bullish divergence with this bullish descending wedge says this pattern is eventually going to break to the upside and it will likely spike hard to the upside, which should spike the VIX quickly up to 30 (wedges are typically retraced quickly).
KBW Bank index, BKX, Daily chart
Following the money in this market means we should follow BKX, which is currently looking at least a little better lately with its recovery back above its 50-dma, which it had broken below on November 9th. It closed back above the 50-dma on Monday and continues to hold above it following each morning's gap back down below the MA and then recovery back above it.
So far the bounce off Monday's low is only a 3-wave move with two equal legs up at 99.46. Today's high was 99.49 is only pennies shy of a 50% retracement of its decline. So far the bounce fits as just an a-b-c correction to the decline and it could turn back down from here. As with the broader market, each side has to press their case from here and we should know by Friday's close how next week is likely to go.
Transportation Index, TRAN, Daily chart
The TRAN continues to act much weaker than the broader indexes and today it broke and closed below its uptrend line from May-August. It's just a one-day break so far and could quickly recover but as with the others, it's a notch in the bear's gun today. The bulls need to see the TRAN back above the trend line and price-level S/R near 9490. If they can do that before Friday's close then today will be no harm no foul. Otherwise, like the RUT, this index is a good indication of the broader health of the economy, which eventually will be reflected by the stock market.
U.S. Dollar contract, DX, Daily chart
The US$ broke support on Tuesday by dropping below its uptrend line from September 20th, which indicates that rally leg is likely finished. The bullish interpretation of that leg is a 1st wave in what will become a larger rally. That means the current pullback from November 7th is a 2nd wave correction, which has retraced only 38% of the 1st wave so far. A more likely pullback correction would be 50%-62%, which is roughly 92-93 (this morning's low was 93.30. We might see a little bounce back up to price-level S/R at 94 before dropping down to back-test the top of its broken down-channel for the January-September decline, which is currently near 92.95. A drop below the October 13th low at 92.59 would be more bearish.
One bearish development is the dollar's drop back below 94, which from a bullish perspective is the neckline of an inverse H&S pattern. Dropping back below the line leaves a failed breakout and that suggests the dollar could head lower from here. It didn't reach the trend line along the lows since February 2015, near 90, in September and that could still be a magnet for the dollar before it will be ready for a stronger rally.
Gold continuous contract, GC, Daily chart
On October 26th gold broke support at its uptrend line from July 10 -October 6 and has continued to hug the line from underneath since the end of October, including another test of the line today. In addition to that line of resistance gold nearly back-tested its broken 50-dma near 1291 with this morning's high at 1290. The last back-test of the 50-dma was October 13th and that was followed by a selloff back down to its broken downtrend line from 2011-2016.
Gold has effectively been trapped between trendline and MA support and resistance that's currently at about 1257 and 1291, resp., and a break one way or the other will likely lead to a strong move. Right now I'm leaning toward a breakdown instead of a rally but it's also going to be somewhat dependent on what the dollar does from here.
Oil continuous contract, CL, Daily chart
Oil dropped sharply on Tuesday but held above its 20-dma. Today's little doji consolidation continued to hold above the 20-dma, now near 54.80, with this morning's low at 54.88. The November 8th high at 57.92 fits well as the completion of the corrective bounce pattern for the rally from June and that corrective pattern suggests the whole thing will be retraced. It's a little early to say the next decline has started but that's the bearish setup. A drop below the 20-dma would be the first warning shot for oil bulls to pay attention to. In the meantime there remains further upside potential to the 59-62 area.
Thursday morning's economic reports include the unemployment claims data, some pricing data, Philly Fed index, Industrial Production and Capacity Utilization, all of which are not expected to have changed much from previous reports. The market has essentially been ignoring reports anyway but watch the pre-market futures to see if there's any movement from an unexpected result. Friday's reports will be more housing data.
The stock market looks like its hanging on the edge of a cliff and the bears are slowly prying back the bull's fingers. The bulls need to add a little spinach to their alfalfa and get some strength to pull themselves back up on the ledge and kick the bears back. Recovery attempts following multiple gap-down starts to the days are using up what little buying strength there appears to be. Market breadth is terrible and even with the days spent mostly recovering from an early selloff the advance-decline line and volume remain in the red and it shows a clear lack of participation by the majority of stocks. It looks more like an effort to hold the major averages up so as not to scare the sheeple into selling.
The result of the effort to hold things up while the market deteriorates further actually makes the market more vulnerable to a strong selloff. The bulls need a stronger recovery and they need it fast in order to shove the shorts back out of the market. One thing in favor of the bulls is the upcoming holiday next week. We have a typically bullish week this week (opex), although that hasn't prevented the market from pulling back, and then the holiday-shortened week next week is typically bullish.
The bottom line is that we have a choppy pullback that fits as a correction to the rally and that should be enough to keep bears on the defensive. It doesn't prevent a breakdown from here but it would be starting from what looks like a pullback correction and therefore any further decline is suspect. Having said that, a corrective pattern that suddenly lets go to the downside is usually followed by a very strong selloff (think mini-crash leg down) and therefore it's not a good time for bulls to be complacent about their usual expectation for another recovery. This one might catch a lot of bulls flat footed (flat hooved?).
That means both sides can't make any assumptions here and it's the reason why I recommend a flat position. You might not like that position but in times of uncertainty it's better to miss a move than to be caught on the wrong side of a fast move.
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