Following the strong selloff into Monday's low the market has been rallying in anticipation that the Fed would acknowledge the strength in the economy as supportive of a rate increase. Those buyers were rewarded with more buying following the rate decision.
Today's Market Stats
The market went on hold today after getting a pop up at the open (same as it did yesterday) and clearly it was on hold while waiting for the Fed to bless us with its decision on rates. The decision was unanimous (always worrisome when economists are 100% in agreement) to raise rates a 1/4 point to a range of 0.25% to 0.50%, ending a 7-year period of ZIRP. The market wasn't quite sure how to react initially but when the sellers didn't hit the market it took off to the upside (probably with a little help from its "friends").
This morning's economic reports were of course largely ignored and the only reason we had a rally into the FOMC announcement was because of another overnight rally in the futures (funny how they do that) that gave the market a pop up in the morning and then it went flat (like on Tuesday). The rally into the announcement could have been followed by a buy the rumor, sell the news reaction and it almost happened. But the sellers were overpowered by some buy programs and the indexes closed near today's highs.
We've seen plenty of times when a post-FOMC reaction is reversed the following day so it's likely we'll see at least a pullback Thursday morning but it's for the bulls to lose at this point. The rally off Monday's low looks strong enough to continue higher this month. What exactly the pattern is, and therefore how high the market could go is still a big question but as always I have a few thoughts about that.
As for the Fed's decision, the Fed said an improving economy (cough) was ready to handle a rate hike. They pointed to "solid" consumer spending (I wonder why retailers are complaining they're not the recipients of that spending), an improving housing market and more fixed investments by businesses. Based on the government's measure of the unemployment rate, the Fed also believes the healthier labor market is a good sign of economic strength. As Janet Yellen said at this afternoon's press conference, "The first thing that Americans should realize is that the Fed's decision today reflects our confidence in the U.S. economy. Yikes! That statement should scare us all (wink).
The Fed tried to reassure the market that pace of interest-rate hikes would be "gradual" and that additional hikes would be slower in 2017-2018 than they had previously predicted. But the dot plot for 2016 rate hikes continues to show the plan to raise rates 0.25% each quarter. But in the press conference it was clear that Yellen was trying to jawbone the market higher with assurances that while today's rate increase is not going to be a one-and-done, it will be followed by greater caution and of course will be data dependent. The Fed plans to hold its huge reserve ($4.5T) of Treasuries and MBS (mortgage-backed securities) on its books and continue to roll them over.
Not discussed, of course, is what's happening in the junk bond market. The 7-year period of ZIRP encouraged people and businesses to borrow much more than they might otherwise have. The energy field is the poster child of junk bonds at the moment and with energy prices hitting lows below the 2009 lows, the ability to pay back these loans is becoming less with each passing day. Bankruptcies are up and junk bond prices are down (increasing the spread between junk and Treasuries, which is exactly what we saw happen into the 2007 high).
Businesses have collectively borrowed trillions as a way to buy back stocks (helps increase the value of shares, which in turn helps management with their stock options) and pay for M&A activity, which has now exceeded the value seen at the 2007 high with more borrowed money than back then. Student loans are through the roof and students are having a hard time getting good-paying jobs to be able to pay back the loans.
Auto loans are now the new sub-prime slime, exceeding the value of sub-prime mortgage loans being made in 2006-2007. Auto loans are being made to people with poor or no credit rating and the average age of a loan on a USED car is more than six years. What do you think the chances are that many of these loans will go into default? More junk bonds. But never fear, the Fed will be able to buy ABS's (auto-backed securities) in the future with more printed money. Banks have been more than eager to make these loans when the cost of capital has been so cheap. Throw in some leverage on a 15 to 20-point spread between the cost of the money and how much they can lend it out and presto, big earnings for the banks. Package them up and then sell as investment grade bonds. More than $100B of these loans are out there.
Depending on the Fed to save us has become less reliable over time but there's still a lot of hope out there. Ultimately I believe the market will lose complete faith in the Fed and today's rate increase could end up with the same result as when they did the same thing back in the 1930s. In hindsight we could easily see this as bad timing at a market peak. I found an interesting piece from Simon Black at sovereignman.com relative to the Fed's control of the nation's purse strings:
It's ultimately a complete farce. Our entire financial system is based on awarding total control of our money to a tiny, unelected committee of bureaucrats.
They have the power to conjure trillions of dollars, euros, yen, pounds, renminbi, etc. out of thin air that are backed by absolutely nothing other than a thin veneer of confidence.
Civilizations have been experimenting with this model for thousands of years. And every single time it has failed.
Future historians will certainly wonder why we chose a financial system based on a model with such a long history of failure, and why we gave control of our savings and economic activity to unelected bureaucrats who are consistently wrong.
When you step back and look at the big picture, this system is totally mad. And full of risk.
Governments are insolvent. Central banks are nearly insolvent. Banking systems are extremely illiquid. National pension funds are insolvent.
And their solution is to keep borrowing and printing more money.
And this is the system the financial markets are placing their trust in. Trust but verify and be sure you watch for signs of cracking so that you're not caught with the crowd. The bearish charts for junk bonds point to a wide crack in the market's foundation and it deserves close attention over the coming weeks.
Moving onto the charts, we unfortunately have a large difference between indexes and that means caution by both sides is warranted until the bigger picture clears up. Because of the choppy price action with overlapping highs and lows, with a few whipsaws thrown in for good measure, it remains possible we'll see the market whip around for the rest of the month and end up not going anywhere. Traders would get chopped to pieces in this kind of environment (even selling option spreads could be difficult because of some of the wild price swings).
Tonight I'm going to show an example of the large differences between indexes, using the Nasdaq and Wilshire 5000, both of which support higher prices but they have significantly different projections. Each also supports the idea that the market could break down from here so continuation of the current rally is by no means a sure thing.
Starting with the Nasdaq, its weekly chart below shows the wave count for the leg up from October 2011, which is the c-wave of an A-B-C rally from 2009, and the 5-wave move for it. The 4th wave completed at the August low and we've been in the 5th wave since that low. It's been struggling near its July high near 5232, which was a test of its March 2000 high at 5132 (within 2%). This pattern says THE bull market will be finished once the leg up from August completes.
Nasdaq Composite index, COMPQ, Weekly chart
The Nasdaq's daily chart below shows a bullish wave count (green labeling) for the 5th wave up from August, shown on the weekly chart. It too needs to be a 5-wave move and the question at the moment is whether the December high was the completion of the 5th of the 5th wave or if instead the final little 5th wave started from Monday's low, which is currently the way I'm leaning and why I've labeled Monday's low as wave-(iv). In the move up from August, the 5th wave would equal the 1st wave at 5416 but could stop at the 62% projection at 5208. The lower projection would be essentially a retest of the November and December highs with just a minor new high (0.6% higher for a triple top).
Nasdaq Composite index, COMPQ, Daily chart
Key Levels for COMPQ:
- bullish above 5133
- bearish below 4871
The reason the 5-wave count in the rally from August works for the Nasdaq is because the 4th wave (Monday's low) did not overlap the 1st wave (the August 28th high), which would be a violation of one of the important rules for EW (Elliott Wave). If it had overlapped then we can't be looking for a 5th wave up and that's where things get confusing for the market. The DOW agrees with the Nasdaq potential here, as does SPX but it did overlap by pennies so I need to forgive that small transgression by SPX to keep it with the same bullish wave count shown above. But the Wilshire 5000 index has a big overlap, as shown on its daily chart below. Normally the Wilshire 5000 index and SPX are in lock step but this time there is enough of a difference for me to question the wave count.
Wilshire 5000 index, W5000, Daily chart
Key Levels for W5000:
- bullish above 21,874
- bearish below 20,600
I show the same bullish (green) wave count on the W5000 daily chart above as the one for the Nasdaq but noted two problems: the first is green wave-(ii) dropped below the start of wave-(i), which is the August low, and therefore it's an EW rule violation; and second, green wave-(iv), which was Monday's low, dropped below the end of wave-(i), the August 28th high, which is another rule violation. That makes the bearish wave count (bold red) a stronger possibility, which says the November 3rd high finished the bounce correction to the May-September decline rally and now it will be all downhill from here.
Today's bounce had the W5000 close to resistance at its 20- and 50-dma's, coming together near 21470, and then there's price-level S/R near 21600, followed by the 200-dma near 21700 and then its downtrend line from July, near 21840. In other words, the bulls have a lot of work to do and the bounce could fail at another lower high and lead to a very strong decline. The rally off Monday's low is certainly looking bullish so the upside potential needs to be respected but the downside risk is significant (crash potential following a series of 1st and 2nd waves to the downside). From a bearish perspective, the W5000 could be doing a back-test of its broken 20- and 50-dma's, which could lead to a bearish kiss goodbye and decline from here.
If the price pattern is bullish, the question is what it could be if not an impulsive 5-wave move up from August, like that shown on the Nasdaq chart. There is one bullish wave count that accounts for the overlap and multiple 3-wave moves up and down and it's the reason I'm taking the time to lay it out (since the bears won't believe it). We could be in a large ending diagonal 5th wave for the move up from August and the move up to the November high is only the 1st wave of the ending diagonal 5th wave. A typical ending diagonal would look something like that drawn on the W5000 weekly chart below.
Wilshire 5000 index, W5000, Weekly chart
The reason the bears will have a lot of trouble believing in this possibility is because it suggests the market will work its way higher into the April timeframe (sell in May and go away?). It would be a choppy move higher and likely frustrate both sides with a lack of follow through (unless you're willing to let the market pull back in large moves without spiking you out of your long positions). Considering the slowing global economy and the very significant debt problems (reflected in the decline of junk bond prices) I personally have a very difficult time believing the market can hold up for another 4-5 months but I present this chart pattern to at least make us aware of the possibility. As I said before, I consider the downside risk as very significant, especially if this week's bounce attempt is reversed and Monday's lows are taken out, but bears need to see the potential so as not to get complacent about how long it could take the market to top out.
The other indexes fit this bullish ending diagonal 5th wave idea, which is a reason I'm seriously considering the possibility (otherwise I wouldn't bother showing it), so we'll just have to watch some key levels from here to use as clues about which pattern is the higher-probability one.
SPX has a bullish pattern like the one for Nasdaq, even though one needs to ignore the 26-cent overlap between Monday's low and its August 28th high. The 5th wave in the move up from August would equal the 1st wave near 2120, which would essentially be a retest of its November and December highs as well as a back-test of its broken uptrend line from October 2011 - October 2014.
S&P 500, SPX, Daily chart
Key Levels for SPX:
- bullish above 2068
- bearish below 1993
The SPX weekly chart shows the same ending diagonal 5th wave idea presented on the W5000 weekly chart. The upside projection is based on a typical time/price relationship between the waves and for SPX it points to almost 2200 by April. There's lots of overhead resistance for SPX to get through, which could result in a choppy climb higher and that's something I would expect to see with this pattern. Just continue to keep in mind that the bearish pattern following the November high is very bearish and therefore any breakdown below Monday's low near 1993 could lead to accelerated selling.
S&P 500, SPX, Weekly chart
The DOW has the same bullish pattern shown on the Nasdaq's daily chart. The move up from August can be considered a 5-wave move, with the 5th wave in progress from Monday's low. It would equal the 1st wave at 18438, which would be a test of its May high at 18351 for a big double top finish to its rally. If the 5th wave is to achieve only 62% of the 1st wave it will stop near 17941, which would be a test of its November and December highs for a smaller-timeframe triple top. The lower projection would also be another back-test of its broken uptrend line from October 2011 - October 2014. The bulls will need to see the DOW above 17950 before they can breathe a little easier, especially considering the more bullish potential with the ending diagonal idea discussed with the W5000 weekly chart above.
Dow Industrials, INDU, Daily chart
Key Levels for DOW:
- bullish above 17,950
- bearish below 17,138
The RUT has been the black sheep of the family, with a price pattern that doesn't look like any of the others. It's been weaker since August and that won't change if the bears are not yet out of the picture. But if we're going to see a Santa Claus rally we'll likely see the RUT start to make up some ground and get back into the race for MAYBE a new high. I can see the potential for the other indexes to make new highs but leave the RUT wanting for one. It's approaching price-level S/R near 1152 and then above that it will run into its 20- and 50-dma's near 1168. Above that level I'd feel better about upside potential but if it's the first to break below Monday's low near 1108 I'd be out of long positions in a hurry.
Russell-2000, RUT, Daily chart
Key Levels for RUT:
- bullish above 1168
- bearish below 1108
Bonds have not been giving us any better clues about direction than the stock market. Since the highs at the end of last January and the lows in June, bond prices have been chopping sideways in a narrowing range. Surprisingly, we did not see much movement in the bond market today. TLT (20+ year Treasury bond fund) finished with a long-legged doji today, which depicts a day of indecision. As can be seen on the TLT weekly chart below, price is getting pinched between the downtrend line from January and the uptrend line from June, now near 123.40 and 119.40, resp. Today it closed near the middle of its tightening range, at 121.18, after first rallying post-FOMC and then dropping right back down this afternoon. A drop below 118 would suggest a decline to its uptrend line from February 2011 - December 2013, near 110, maybe even down to its December 2013 low near 101. But the larger pattern continues to suggest we have not yet seen the final high for TLT before the bond bull finishes. A rally up to the 140-143 area in the first half of 2016 is what I'm thinking we'll see, maybe a little higher if it's into the 2nd half of 2016.
20+ Year Treasury ETF, TLT, Weekly chart
Banks will not waste any time increasing their loan rates to customers -- Wells Fargo waited 12 minutes to raise its prime rate from 3.50% to 3.75%, effective Thursday. As for increasing the savings rate for the poor (literally) savers hurt by the Fed's policies? Go pound sand was apparently the bank's answer. There's no announced change from their 0.06% rate on savings accounts. Needless to say, the banks liked the rate decision and BKX shot higher this afternoon (after the usual cha-cha-cha following the announcement), adding to the strong rally off Monday's low. But BKX is not out of the woods yet and could still get mauled by the bears. Notice on its daily chart that it has rallied back up to its broken uptrend line from October 2011 - January 2015 and this could result in just a back-test followed by a bearish kiss goodbye. Needless to say, the bulls need to keep up their buying.
KBW Bank index, BKX, Daily chart
The TRAN looks more bearish than bullish. The decline from November 20th is impulsive and fits well as the 1st wave of the next large decline. That calls for just a bounce correction before heading lower in a stronger decline. It's possible the leg down from November 20th is the 5th wave of the decline from March, which could now lead to a stronger bounce and at least back up to the November 20th high. So I see further bounce potential but I'll be watching it for evidence that it will be just a quick bounce and then back down.
Transportation Index, TRAN, Daily chart
Following the U.S. dollar's up-down-up reaction post-FOMC it finished with a marginal (+0.10%), which was a little surprising since the dollar had pulled back prior to this week and the expectation had been for a dollar rally following a rate increase. Unless the dollar is above to rally above its December 3rd high at 100.60 I'll continue to expect it to chop sideways into next year before heading higher.
U.S. Dollar contract, DX, Weekly chart
Gold has been having trouble getting a bounce off its December 3rd low but I continue to like the setup for a higher bounce, which would be helped if the dollar pulls back some more. Commodities in general look like they could be ready to turn back up (a pattern looks to be finishing now with price targets met) and that would help the metals as well. I'll continue to look for lower gold prices but the setup remains good for a bounce correction.
Gold continuous contract, GC, Weekly chart
Oil also looks like it's getting ready for a bounce after hitting the bottom of what looks like a descending wedge pattern. We should see another up-down sequence to finish it, in which case I would expect to see oil down to around $30 by April. But there's also the potential for a stronger rally out of the wedge and above $60 by April so I see a good setup for a long play on oil and then see how it looks if and when it reaches the top of the descending wedge (downtrend line from June), which is currently near 44. If it chops its way up to the top of the wedge then we'd have a good idea that it will drop down for one more new low before setting up a better long trade.
Oil continuous contract, CL, Weekly chart
This morning's economic reports included some encouraging numbers about the housing market -- housing starts in November were up by 1173K, which was more than expected. Building permits took a nice jump up from October's 1161K to 1289K and more than expected. But Industrial Production declined by -0.6%, which was worse than expected and a drop from October's -0.4%, which was a downward revision from -0.2%. Capacity utilization also dropped from 77.5% to 77.0%. So the signs of a slowing economy continue, which of course raises the question why the Fed would raise rates now but a logical Fed is just another oxymoron.
Tomorrow's reports include unemployment claims, the Philly Fed index and Leading Indicators. It's not likely they'll cause much of a reaction.
The stock market, as compared to the bond and currency markets, got the bigger (positive) reaction to today's FOMC rate decision, which is a little odd since it was a rate increase and the Fed still didn't clear up expectations about what to expect in 2016. The uncertainty should have bothered the market more and maybe it yet will. Today's rally could have had a "helping hand." The bond market's muted reaction, as well as in the currencies, which are acknowledged as the "smarter" markets, tells us they still don't trust the Fed's intentions. That's a warning sign for traders in the stock market.
I wouldn't be at all surprised by a pullback on Thursday, which is typical following a post-FOMC afternoon rally, and that would provide some clues about what to expect next. With a few of the indexes having bounced up to potentially strong resistance we might have had a news-related bounce high put in place and now down we go. An impulsive decline and break below Monday's lows would be very bearish and I would not go bottom picking if that happens. But considering an important time cycle turn window around December 22-24 I'm looking for a Santa Claus rally into that timeframe before thinking more aggressively about the short side.
And lastly, the idea of large ending diagonal (rising wedge) playing out into next April, as discussed with the Wilshire 5000 and SPX charts, needs to carefully considered. The market indexes could chop their way higher to new all-time highs over the next few months and those wishing to get into longer-dated put options could find them turning to dust over time so I would suggest nothing longer term here. Trade short term and play the swings carefully. Once the larger pattern becomes clearer we'll then be able to set up longer-term position trades. Until then, swing both ways and keep your trades tight and short term.
And if you are still sitting on the fence about renewing your subscription, just do it. You'll have several good trade setups with OIN and they'll more than pay for your subscription. It's a great deal so take advantage of it.
Annual End of Year Subscription Special
It is that time of year again when we offer the best prices of the year on a package of our top newsletters. If you have been a subscriber for several years you know this is the best price and best deal of the year.
Please follow the link below to see for yourself the EOY subscription special for 2016. You will not be disappointed!
Good luck in the coming week 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