Last week saw a spike in volatility across global equity markets. All of the major U.S. indices ended a four-week winning streak. A number of factors all collided to spark some profit taking in stocks. Federal Reserve Chairman Bernanke's comments, the FOMC minutes, a disappointing PMI report from China, and a sell-off in the Japanese market all spooked investors. Yet looking back, the profit taking has been mild so far. For the week the S&P 500 index gave back -1.0%. The NASDAQ composite slipped -1.1% and the Russell 2000 index lost -1.2%.

Economic data in the U.S. was mixed. The manufacturing purchasing managers index dropped to a multi-month low of 51.9 in May. That's down from 52.1. Numbers under 50.0 signal economic contraction so the PMI is getting close to negative. Initial jobless claims dipped again with a -23,000 decline to 340,000 for the week. The durable goods orders for April came in at +3.3% which was better than the +1.5% estimate. If you remove the more volatile transportation order component, the durable goods report comes in at +1.3%, above estimates of +0.5%.

The U.S. housing data continues to show improvement. Existing home sales rose +0.6% in April to an annual pace of 4.94 million. This is the strongest pace since November 2009. New home sales surged +2.3% to an annual pace of 454,000 in April.

It was a relatively quiet week for Europe. The Bank of England left interest rates unchanged. The second estimate on Germany's Q1 GDP remain unchanged at +0.1% (almost negative). The Markit flash Eurozone services PMI survey rose to 47.5 in May. That's a three-month high but it's still under the 50.0 level so remains recessionary.

Many of last week's market-moving events and data points were in Asia. The Bank of Japan left rates unchanged at 0.10%. The Japanese NIKKEI stock index was surging early in the week, hitting levels not seen since December 2007. Unfortunately the market was hit with some bad news and worries over China's slowing economy were renewed when the Chinese HSBC Flash manufacturing PMI index dropped to 49.6. This is a drop from 50.4 the prior month and below expectations of 50.5. Numbers under 50.0 signal economic contract and this is the first time in seven months we've seen this report under 50.0.

If the unexpected dip in China's economy wasn't bad enough there was a sudden spike in Japanese bond yields in the 10-year bonds. The combination of these events sparked a -7.3% one-day sell-off in the NIKKEI index, a loss of more than -1,000 points on Thursday.

The Japanese stock market had been one of the hottest markets on earth since the country's recent launch of a record-breaking stimulus program. The sharp pullback may have rattled some investors' nerves. From the peak on Thursday to the low on Friday the NIKKEI lost -12.5% before finally seeing an oversold bounce. The NIKKEI ended the week at 14,612.

chart of the Japanese NIKKEI index:

Another issue for the market's rally was confusing Fedspeak. It seems like Mr. Bernanke was channeling his predecessor, Mr. Greenspan, during Bernanke's testimony before congressional committee. Stocks initially rallied on Bernanke's early comments that the Fed was unlikely to tighten any time soon. A short while later he followed that up with what seemed like a contradictory answer that said the Federal Reserve "could" tighten within the next few meetings if economic conditions warrant it. Of course nobody bothered to pay attention to the "if warranted" part of this comments and instead the focus was on the "could" and "in the next few meetings".

There are a few market pundits that have suggested the Fed is intentionally trying to send mixed messages to the market in an attempt to slowdown the market's rally. The Fed does want to see asset prices rising because it helps generate a "wealth effect" for consumers who will then be inclined to spend more. Yet the Fed does not want to generate new asset bubbles, since bubbles always burst. The FOMC minutes from the last meeting added pressure to investor worries that the Fed might be poised to reduce their QE purchases sooner than anyone expects. The combination of Bernanke's comments and the Fed minutes generated new worry about the Fed's commitment to keep the market's QE addiction going.

Major Indices:

The S&P 500 index hit new record highs with a spike past 1,680 midweek. Unfortunately that same day the index reversed (thanks to Bernanke). This looks like a failure near its trend line of higher highs (resistance). While there hasn't been much follow through lower the S&P 500 does look vulnerable.

Technically the index might see a dip back toward short-term support near 1625. If that level fails then we'll probably see a dip to round-number support at 1600, which will soon be bolstered by the rising 50-dma. Until we see a close below the 50-dma we can assume the intermediate trend remains higher.

A drop from the intraday high (1687) to 1600 would be a -5% correction. From the closing high for the week (1669) a drop to 1600 would be a -4% pullback.

If somehow the rally continues then resistance is probably the 1700 mark.

chart of the S&P 500 index:

The NASDAQ composite produced a similar bearish reversal on Wednesday after spiking to new 12 1/2 year highs. The breakdown under its simple 10-dma is short-term bearish. If this pullback turns into a correction the levels I would watch for possible support are 3365, 3325, and the 3300 level.

Daily chart of the NASDAQ Composite index:

The small cap Russell 2000 index crossed the 1,000 mark for the first time in history this past week. I have been warning readers for weeks that the 1,000 mark would be psychological, round-number resistance. Sure enough the $RUT is reversing here. There is a chance that the $RUT actually rallies back toward 1,000 again and then rolls over.

I am short-term bearish but it's worth noting that the prior highs near 950 are likely support. Unless something changes I expect this to be a mild correction lower before investors rush back into to buy the dip.

chart of the Russell 2000 index

Economic Data & Event Calendar

It's going to be a short trading week for the U.S. with the markets closed on Monday for Memorial day. Tuesday brings the latest consumer confidence numbers. Thursday will see the second estimate on U.S. Q1 GDP. Unless the GDP number comes in significantly below estimates I don't see any real market-moving events here.

Economic and Event Calendar

- Monday, May 27 -
U.S. market closed for Memorial day

- Tuesday, May 28 -
Consumer Confidence (for May)
Case-Shiller 20-city home price index

- Wednesday, May 29 -
German unemployment data

- Thursday, May 30 -
Weekly Initial Jobless Claims
U.S. GDP Estimate for Q1
Pending Home Sales
Japan's CPI data
Chinese manufacturing PMI

- Friday, May 31 -
University of Michigan consumer sentiment (final reading for May)
Chicago PMI
Personal Income & Spending
G8 meeting

Additional Events to be aware of:

June 7th - nonfarm payrolls (jobs) report for May
September - U.S. debt ceiling deadline

The Week Ahead:

Looking to the week ahead it's unclear if the market pullback continues or if traders rush in to buy this dip. Stocks remain overbought so I would like to see a stronger, healthier correction lower. This would allow us a much better entry point for our longer-term LEAPS positions.

The combination of a slowing Chinese economy, volatility in what seemed like a non-stop rally in Japan, and questions over the Federal Reserve's timeline for its QE program could all generate some investor cautiousness.

Two weeks ago the economic data for the U.S. was bearish. If both China and the U.S. are slowing then the rest of the world could definitely be in trouble. Yet in spite of all the bearish economic data Goldman Sachs raised their yearend price target on the S&P 500 to 1,750. That's another 100 points over the next seven months from current levels.

Enjoy your Memorial Day weekend!