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The Week Ahead: What Action Should Investors Take in February?

Posted by on Jan 31, 2016

The Week Ahead: What Action Should Investors Take in February?

After a choppy week of trading stocks closed the week strong adding to the evidence that the upside reversal on January 21st was important. The surprising drop in bullishness the previous week (Is Bullishness Low Enough Now?) did not get the attention of most analysts even though it was making a ten year low.

According to AAII the bullish% rose to 29.75% last week after hitting a low of 17.9% on January 14th. The bearish% is back to 40% as it dropped 8.7% last week. The long term bullish average is 38.7% so a gradual rise back to this level would not be surprising.

The recent firming in stocks prices has not changed the bearish outlook of many analysts which is not surprising. Students of the markets may find last week’s article “Learning From Past Bear Markets” informative as typically bear market rallies, as was the case in 2008, cause many of the bears to change their tune just before the market decline resumes.

It is still my view that the current market rally will determine whether we have just seen a market correction or the start of a near bear market. There are no convincing signs yet of a recession based on the economic data and most bear markets have coincided with recessions. This has some bearish markets calling for an “earnings recession” where a continued trend of weak earnings and revenues push stocks into bear market territory.

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The fears over China’s and the continued plunge in crude oil helped fuel the stock market selling at the beginning of the year . The recent rebound in crude oil has allayed some of those fears for now. There were signs as crude oil was plunging to new lows on January 20th that we were close to a bottom. The Herrick Payoff Index (HPI) had been diverging from prices, line b, and the strong close on Friday January 22nd confirmed that a rally was underway.

The continued strength in crude oil last week has been treated with distain by many media analysts but technically I think it can still go even higher. Though some longer term positive signs are emerging there are no clear signs yet of a major bottom. The action has created some good opportunities for ETF traders and the next pullback should create more opportunities.

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The daily chart of the S&P 500 shows that it has reached the 20 day EMA and the 38.2% Fibonacci retracement resistance of the decline from the November 3rd high. The 50% resistance stands at 1964 which is a reasonable upside target for the current rally. It would take a rally to the band of stronger resistance in the 1988-2000 area to get the attention of those on the short side.

The seasonal trend for stocks is positive until May though going back to 1950 the gains are just marginal in February. Going back over twenty years there have been January declines of over 5% in 2000, 2008 and 2008. In these three years stocks declined from 2-3.5% in February. The seasonal chart also shows that the S&P 500 typically top out in the first week of February and then is often under pressure for the rest of the month.

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One of the positives for global stock prices may be the Euro zone markets as the Dax Index has held the lows from August-October (line b) and is now trying to turn higher. A strong move in the Dax back above 10,500 would be an encouraging sign.

The downtrend in the 10,450 area needs to be overcome to complete the flag formation. The Rate of Change turned up from oversold levels one week before the lows as was the case in October 2014. A strong rally in the Dax would be a sign that the worst of global stock market decline is over. Last spring the Dax topped out ahead of the S&P 500.

As noted on the chart the Markit Germany Construction PMI® for December was encouraging but more recent data from the Economic Sentiment Indicator reflects a sharp drop in January to 105.0 as it stood at 106.7 in December. That was well below consensus estimates but as I have always cautioned investors should not place too much emphasis on any one data point.

The Economy

There was a full slate of economic data last week and for a change some of the data on manufacturing was a bit more encouraging. The Dallas region is still bearing the brunt of low crude oil prices as the Fed Manufacturing Survey came in at a dismal -34.2 down from the prior months revised -21.6.

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The Richmond Fed Manufacturing Survey was slightly positive while the Kansas City region is still quite negative because of oil prices. The big surprise was the Chicago PMI as it surged to 55.6 from 42.9 last month. This reflected strong orders with production at the highest level in a year.

The PMI Services PMI held firm in January as it was down just slightly from December while New Home Sales were up 10.8% in December and for the year had a gain of 14.7%. On the other hand Pending Home Sales were up just 0.1% well below the consensus estimate of an 0.8% gain.

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Durable Goods sagged in December falling 5.1% and the preliminary reading on 4th quarter GDP came in at 0.7% which was below the consensus estimate of 0.9%. Given the weak stock market many were concerned about the consumer but the Consumer Confidence rose in January to 98.1 up from 96.3.

The University of Michigan’s Consumer Sentiment dropped slightly to 92 from 93.3 at the end of December. The chart shows that both measures of the consumer’s outlook are still in clear up trends. Also on Friday the Employment Cost Index was up 0.6% which may be a precursor of long awaited wage inflation.

This week we get the ISM and PMI Manufacturing Indexes on Monday along with Construction Spending. On Wednesday we get new data on the services economy with the PMI Services Index and the ISM Non-Manufacturing Index. After Factory Orders on Thursday we get the widely anticipated monthly jobs report on Friday.

Interest Rates & Commodities

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The yield on the 10 Year T-Note dropped sharply last week to close at 1.931% down from 2.048% the previously week. This was despite the fact that the FOMC showed little change in their stance on rates. The weekly support at line b, was decisively broken with next major support, line c, in the 1.760% area. I have been noting the negative momentum on yields for several weeks so the drop was not surprising.

The Comex gold futures finished the month up $57.70. The January close was above the doji high of $1088 which could that the trend is changing. The monthly downtrend, line d, is at $1155 with the declining 20 month EMA at $1176.

The volume increased In January but the monthly OBV is still well below its downtrend, line f, and its WMA. The weekly OBV just closed above its WMA on Friday but further strength is needed to suggest that gold has formed an important low. The gold miners are acting better.

Market Wrap

The surprising rate cut by the Bank of Japan boosted stocks out of the doldrums after teh FOMC sell off. The market ignored the weak preliminary reading on 4th quarter GDP. The Dow Industrials gained 2.3% for the week which was much better than the 1.6% gain in the S&P 500. The Nasdaq Composite managed a gain of just 0.5% and the Nasdaq 100 dropped 6.8% in January.

This was considerably worse than the 5.1% decline in the S&P 500 as a host of technology stocks lost over 20% in January led by Autodesk (-23%) and Micron Technology (-22%). For the week 2370 stocks advanced with 845 declining.

Though Amazon (AMZN) was one of the big losers, dropping 7.6% on Friday there are some stocks that have performed very well. Two that showed up in my weekly scans as market leaders and were recommended in my Viper Hot Stocks were Constellation Brands (STZ) and Euronet Worldwide (EEFT). They were up 7% and 10% respectively in January.

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The weekly chart of the NYSE Composite shows the impressive 7.7% rebound from the low of 8937 on January 20th. The former support, now resistance at line b, is in the 9750-9800 area which is about 1.5% above Friday’s close. The declining 20 week EMA is at 10,061 with the downtrend, line a, at 10,200. There is initial support at 9258 which was last week’s low.

The weekly NYSE A/D line is still rising but is now back to resistance at line d. The A/D line needs to overcome the downtrend, line c, and the declining WMA in order to turn positive. The daily A/D line (not shown) is well above its WMA and could rally further. The weekly OBV is back above the resistance from 2015, line e, but is still below its WMA. The daily OBV is positive.

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The Spyder Trust (SPY) closed well above the 38.2% Fibonacci retracement resistance at $192.21 with the 50% resistance at $195.70. The 61.8% resistance and the daily starc+ band are now at $198.86 to $191.18. There is weekly pivot resistance at $196.05 to $198.37.

The S&P 500 A/D line has risen back above the support from last summer’s lows. The WMA of the A/D line is starting to turn higher but is not leading prices higher. The A/D line needs to overcome the downtrend, line a, to turn positive. This would take several more weeks. The daily OBV is in a short term uptrend but is well below the long term resistance at line c. The weekly OBV (not shown) is rising and now close to its flat WMA.

 

What to do? This may be an important week for the stock market as Friday’s strong close should lead to further gains this week. The focus will be on the jobs report but if we see a very strong report like last month some may fear that the Fed is then more likely to raise rates in March. But what action if any should investors take?

A rally to the $195.50-$198 level in the Spyder Trust (SPY) still looks likely but very strong market internals are needed to push stocks to higher levels. The majority of traders are still looking for a break below 1820 in the S&P 500 so a rally that lasts longer would not be surprising.

Technically it seems as though the stock market needs more time to repair the technical damage so once the current rally tops out then the market could drift back towards the January lows. This could complete a more sustainable market bottom as there are no signs now that stocks are ready to accelerate to the upside.

There is no strong evidence that we are entering a recession. I would expect the economy and especially manufacturing to actually get better as we head into the spring. Those of you who followed my advice and did not sell in a panic last month now should decide whether their allocation to stocks is too high for you to sleep at night. If you were uncomfortable about your holdings during the market decline adjusting your portfolio might be the right idea. (I have been helping a number of clients with this process and if you are interested email us at wentworthresearch@gmail.com)

One of the largest mutual that does not track the S&P 500 is the Vanguard Total Stock Mkt Idx Adm (VTSAX) as it has total assets of over $400 billion. It has rallied 4.2% from its closing low but is still down 5.7% YTD even though it gained 2.6% Friday to close at $47.92. For those who want to shift some of their stock holding into cash you could use VTSAX as a guide and I think a rally back to $48.60-$49.80 is possible.

If my analysis is correct there should be signs of a completed market bottom later this quarter. I will be watching the rally closely and you can follow my comments on Twitter.

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Learning From Past Bear Markets

Posted by on Jan 27, 2016

Learning From Past Bear Markets

Given the accelerated selling in the stock market last week and the bear market fever that has been swamping the financial pages since the start of the year more investors seem convinced that a bear market is already underway.

As I noted in The Week Ahead: Can Crude Oil Now Rescue Stocks? the reversal on January 21st was consistent with a short term low as a crude oil rally was expected to be supportive for stocks. A multi-week rally in the Spyder Trust (SPY) to the $195-$198 area is likely needed to set the stage for the creation of a sustainable market bottom. If stocks instead turn lower this week then a drop back to last week’s lows or lower before a bottom is complete.

One thing is certain from 120 years of market history, no market goes straight down or straight up. Even though I have stayed off the very crowded bear market bandwagon it is important to understand what a bear market rally looks like so you can recognize one if it occurs.

Therefore I thought I would share an article that was originally posted on June 8, 2008 when I was convinced that we had just completed a bear market rally. I think these examples will give some investors the ability to adjust their portfolio even if we see a bear market rally in 2016. (Helping clients in the analysis and adjusting of their portfolios is one of the services that we provide in our mentoring service.)

There has been much debate amongst investors and analysts as to whether the rally from the March 17th 2008 lows was the start of a new market uptrend or just a bear market rally. Having experienced, and been fooled by, a number of bear market rallies, I thought analyzing some of the common characteristics might be helpful.
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One of the most severe US bear markets occurred during 1973 and 1974 as the Dow Industrials made a high of 1062 on January 11, 1973 and eventually reached a low of 570 in late 1974. One week after the highs, the Dow reversed and closed the week lower. The Dow declined 20% over the next eight months, reaching a low of 845 on August 22.

The weekly chart above covers from April 1970 through August 1974. Below the bar chart is the 14-period Relative Strength Index (RSI) with a 21-period weighted moving average (WMA). The RSI formed a long-term negative divergence between the April 1971 and January 1973 highs, as indicated by line B.

One should remember that the longer it takes the divergence to form, the more important the signal. You will note that at both the 1971 and 1972 highs the RSI dropped below its WMA within a few weeks of the high. Also, at both the 1972 and 1973 highs the weekly RSI additionally formed short-term negative divergence (see circles).

Two weeks after the highs at 1062 the RSI dropped below its WMA, confirming the short-term divergence. The week of February 9th (point 1) the RSI violated key support at line C, while the uptrend in price (dashed line) was not broken until the week of March 23rd.

The rally from the August 22nd lows was quite sharp even though it only lasted ten weeks with the Dow reaching a high of 998 on October 29th (point 2). This was a rally of 18% and, while it slightly exceeded the 61.8% retracement resistance, it did not move above the 78.6% retracement level at 1020. The RSI, on the other hand, just moved up to test its former uptrend, line C, before turning lower. In the next six weeks the Dow dropped 21.4%.

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Most of us have not yet forgotten the 2000 bear market in the NASDAQ Composite, which managed to end a few trading careers. The weekly chart shows the March 2000 highs at 5132, and below the bar chart, you will notice that the RSI peaked in January (point 1) and then formed a lower high in March, point 2. The week after the highs, the RSI dropped below its WMA, and the third week after the highs violated its short-term uptrend (line C) as noted at point 3. The violation of longer-term RSI support at line B, point 4, confirmed a significant top had been completed.

The NASDAQ formed a short-term bottom in May with a low of 3042. This was a decline of 40% from the highs. The rebound lasted 3 ½ months but stalled at 4290 just below the 61.8% retracement resistance at 4360. Nevertheless, this was a 40% rally from the lows at 3042. The rebound in the RSI was not nearly as impressive as it just rebounded from a low of 39 back to the 57 area.

The RSI rebound failed and it dropped below its WMA (point 5) one week before the price support, line E, was broken. Using Fibonacci projection analysis, the continuation pattern, lines D and E, gave us the following projections: the 127.2% target was at 2704 and the 161.8% target was at 2252. Both were reached by the end of the year.

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The most dramatic bear market of the last 20 years occurred in Japan as the Nikkei (NK225) peaked on December 29, 1989 at 38,950 and reached a low in 2003 of 7603. As you might imagine there were many rallies within this long-term downtrend and many analysts, myself included, were fooled by some of these bear market rallies.

The weekly chart of the NK225 above covers the period from November of 1986 through September 1990. The RSI failed to form any negative divergences at the 1989 high as it made marginal new highs but three weeks after the highs (point 1), it did break significant support (line B). The NK225 rebounded for five weeks before plunging through its uptrend (line A) at point 2. The six-week plunge took the NK225 11,699 points from the highs for a drop of 30%. The ensuing bear market rally lasted nine weeks and took the NK225 back to a high of 33,344 as it stalled at the 50% retracement resistance.

Even though this was a 22.4% rebound from the lows it does not look that impressive on the chart and the RSI was just able to bounce back to the 50 level, point 4. The weekly chart additionally shows a short-term double top that was completed on the break below 31,644 as the selling resumed.

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Let’s look at this rebound in the NK225 on the daily charts, once again using the 14-period RSI with a 21-period WMA. The RSI formed two short-term positive divergences in March and April (line d), suggesting that a low was being formed. Given the negative readings from the weekly RSI it was expected that any rally would be against the major downtrend. The daily RSI formed its first negative divergence at the June 8th highs (line c) and then violated its uptrend, line d, in late June giving us an early warning signal.

The NK225 rebounded back above the 33,000 level on July 18th but failed to exceed the June highs. The RSI was much weaker on this rally, and on July 20th, the continuation pattern (lines a and b) was completed. The target from the flag formation was in the 27,000 area and was easily met. The 161.8% Fibonacci projection from the April to June rally, as noted on the chart, was at 23,995 where the NK225 stabilized for a month before dropping down to the 20,000 level. The 261.8% projection was in the 18,800 area which was not reached until April 1992.

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While I had planned to look at the current market in Part Two of this article, it seems more appropriate to examine the current outlook on the Dow Industrials in Part One as the chart above is through June 6, 2008. The weekly RSI topped in June 2007 and formed the first negative divergence at the July 2007 highs and then was much lower as the Dow made new highs in October (line D). This negative divergence was confirmed the week of November 9th (point 1), when the RSI broke its support (line B).

The weekly RSI stayed below its WMA from October 19, 2007 through March 20, 2008. The Dows rebound from the March lows slightly exceeded the 50% retracement resistance at just under 13,000, but failed below the 61.8% resistance at 13,232. The action in the RSI was classic, as it rebounded back to both the former uptrend (line B) and the bearish divergence resistance at line D (point 3). The RSI has now dropped back below its WMA, but at 43, it is still well above oversold levels.

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The daily chart suggests that the rebound from the March lows may be over as the Dow just reached the former uptrend (line A) on May 2nd (point 2). A week later on May 9, the Dow made a marginal new high before reversing and breaking the short-term uptrend, point 3. The daily RSI rebounded to the resistance in the 65-70 area and formed a short-term negative divergence at the May highs (line C).

The RSI has now broken its uptrend and is below its declining WMA. The 127.2% downside projection, calculated from the January lows and May highs, is at 11,250 with the 161.8% projection at 10,700. To validate either of these targets, the Dow needs to break its uptrend at 11,900 (line B) and then close below the 11,630 level which corresponds to the January lows. A close back above 13,140 would reaffirm the uptrend.

On June 22nd, two weeks after this article was released, the Dow Industrials closed below 11,900 and over the next three weeks had dropped 1000 points.

I hope these examples have increased your understanding of bear markets. During the 2007-2008 decline being in the right ETFs or funds helped many portfolios hold up better than the Spyder Trust (SPY). If you want specific entry/exit advice on ETFs you might check out the Viper ETF Report .

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The Week Ahead: Can Crude Oil Now Rescue Stocks?

Posted by on Jan 23, 2016

The Week Ahead: Can Crude Oil Now Rescue Stocks?

The combination of plunging crude oil and fears over the Chinese economy has gotten the blame for the stock market’s slide in 2016. The market decline has been the cruelest to the small cap stocks which have led the market lower.

At least on a short term basis the action last Wednesday was significant. As I noted in Thursday’s morning article “with the Dow down another 500 points mid-session Wednesday stock holders are clearly past the white-knuckle stage. With just 116 stocks advancing and 3077 declining mid-day Wednesday the selling had clearly reached panic levels”.

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The action in the iShares Russell 2000 (IWM) was especially interesting. At the Wednesday’s low of $95.06 it had dropped 17.6% from the high on December 30th. It did manage to close 4.6% above the day’s low and back above the long term uptrend that goes back to the 2009 and 2011 lows.

With the continued strength on Friday IWM looks ready closed the week well back above $101. The next major resistance is in the $104-$105 area where the rally may end or could stall.

Crude oil had plunged below $27 on Wednesday, losing another 7% and contributing to the panic in the stock market. In Thursday’s article “Time To Squeeze The Short Oil Speculators” my analysis of crude oil after Wednesday’s trading indicating the odds of a short covering rally in crude oil were high.

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Crude was a bit lower early Thursday in reaction to a bearish inventory report but soon turned sharply higher, moving back above the $30 level intra-day. In Friday’s trading crude gained another 9% and settled 23% above the week’s low. Energy ETFs like SPDR Oil & Gas Exploration (XOP) were strong as it closed up over 4% on the day.

The daily chart of crude oil shows that the low Wednesday was very close to the equality or 100% target of $26.86. This was calculated by first measuring the decline from the May high (point 1) to the August low (point 2). A similar decline was projected downward from the October high (point 3) to get the downside projection at point 4.

It is important to note that crude oil’s high on October 9th of $50.92 (point 3) was just above the 50% retracement resistance based on the decline from the May high to the August low. Rebounds within downtrends often top out between the 38.2% and 50% Fibonacci retracement levels.

The 38.2% retracement resistance stands at $36.34 with the 50% resistance at $39.14 so this zone is a potential upside target for a rally. Those on the short side are likely to get more nervous if March crude oil closes above $33.20. I think a further rally in crude will support a better rally in stocks than most are expecting and will give nervous investors an opportunity to reduce their equity exposure. (If you would like assistance with this process you might consider my mentoring service)

As I noted last week in “Is Bullishness Low Enough Now?” there were several signs that bullish sentiment had reached extremely low levels and that Wall Street was becoming uniformly bearish. In the latest AAII survey 21.5% are bullish which is up 3.6% while the bearish % rose 3.2% to 48.7%.

The market’s rebound this week has not yet changed many minds on crude oil or the stock market. The rally in crude oil was credited to the winter storm that is hitting the East Coast on Friday and the hopes of more stimulus from world bankers . This of course totally ignores the actual market behavior and its classic reaction to the high short position in crude oil.

It will take more evidence from the stock market to suggest that the overall market correction ended last week as the slide in 2016 has caused significant technical damage. Because of that even if we see a much stronger rally it will be the market internals and volume that will tell us whether the long term trend is still positive.

Even if a stronger rally turns out to be part of a longer term topping process such rallies in the past have lasted long enough and gone high enough to reverse the too high bearish sentiment. As I will point out in an article next week the rally in the spring of 2008 lasted long enough to convince the majority of bearish analysts that the worst of the bear market was over.

The Economy

The economic gloom and doom increased further last week with several more analysts expressed their concerns and warned about a recession. The actual data last week was not too bad. The Housing Market Index did show some near term caution but the builders do remain bullish.

Also last week Housing Starts were lower in December but did show very strong gains in November. On Friday Existing Home Sales rose 14.7% which was just above the high end of forecast according to Econoday.

It was also slightly encouraging that the Philadelphia Fed Business Outlook Survey though weak at -3.5 does not seem to be dropping as fast. The Chicago Fed National Activity Index was not as weak as in November it came in at -0.22.

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The an excellent chart and analysis from Doug Short shows the history of this indicator going back to 1970. He runs a 3 month moving average to smooth out the data. It is currently at -0.23 and his research indicates that “When the CFNAI-MA3 value moves below -0.70 following a period of economic expansion, there is an increasing likelihood that a recession has begun”.

In the last two recession the drop below this level coincided with the start of the recessions. Also on Friday the PMI Flash Manufacturing Index improved to 52.7 from December’s final reading. The Leading Economic Indicators (LEI) declined 0.2% in December as a result of declining housing permits and lower manufacturing order. As I discussed two weeks ago it has an excellent record of topping out well ahead of a recession so I will be watching it closely in the next few months.

On Monday we get the Dallas Fed Manufacturing Survey followed on Tuesday by the S&P Case-Shiller HPI and Consumer Confidence which will give us a good reading on what the consumer is thinking after the recent market decline.

The FOMC meeting also begins on Tuesday with a closely watched announcement on Wednesday afternoon. Also on Wednesday we get New Home Sales with Durable Goods on Thursday. Investors are likely to be watching the preliminary 4th quarter GDP on Friday as well as the Chicago PMI and Consumer Sentiment from the University of Michigan.

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The yield on the 10 Year T-Note dropped to a low of 1.939% on Wednesday but then closed the week at 2.048$%. The weekly support in terms of yield chart has held but the weekly momentum is still negative. The SDPR Barclays Capital High Yield ETF (JNK) is down 4.3% YTD but has dropped 9.6% over the past three months.

On Wednesday the low was $31.88 just barely below the monthly S2 support at $31.89. On Thursday’s close JNK closed above the doji high generating a short term positive signal. The 20 day EMA is at $33.26 with the daily starc+ band just a bit higher. There is further chart resistance at $33.50, line a. The rebound in junk bonds will help relieve some of the pressure on the stock market.

Market Wrap

Stocks were able to maintain their gains into the close on Friday which was an encouraging sign and the daily A/D numbers were quite positive with 2840 advancing stocks and just 341 declining. The weekly A/D numbers were positive for the first time this year as the NYSE Composite managed a 1.4% gain for the week as did the S&P 500. The small cap Russell 2000 showed a similar gain while the Dow Industrials were only up 0.70%.

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The % of S&P 500 stocks above their 50 day MA dropped to a low of 8.4% on Wednesday and it now looks as though the 5 day MA is ready to turn up this week. The chart shows that this MA has formed lower lows, line a, as it has reached levels that have coincided with sharp rallies in the past.

My stock scans last weekend revealed three new stocks picks and two of them STZ and EEFT did lead the market higher last week as they were only slightly lower during Wednesday’s market plunge. I will be spending Sunday reviewing my scans for new buy candidates that will be included in Monday’s Viper Hot Stocks report.

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The daily chart of the NYSE Composite shows the up gap opening Friday after dropping below the starc- band on Wednesday. The 20 day EMA at 9636 is the next likely upside target with the daily starc+ band at 9751. There is more important resistance at 9880 with the quarterly pivot at 10,100. The downtrend, line a, is now in the 10,300 area.

The daily NYSE A/D line has turned up but has next resistance at line c, and its WMA. The A/D line needs to overcome its downtrend, line b, to confirm that the market has made a significant bottom. A close back below 9100 will return the focus on the downside.

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The Spyder Trust (SPY) dropped to a low of $181.02 on Wednesday which was just above the August low of $180.38. The weekly support at line a was tested. Though the recent decline likely seems worse to many the SPY dropped 30.4 points to the August low and as of Wednesday low the drop has amounted to 29.4 points. The long tail on the weekly chart is similar to what occurred at the August as well as the October 2014 low.

There is next resistance at $191.60 and then at the $194.80-$195 area. A weekly close back above this level would get the market’s attention. There is longer term resistance in the $198-$200.

The PowerShares QQQ Trust (QQQ) was up 2.8% for the week as it dropped briefly below the September lows as the weekly pivot support at $94.50 and weekly starc- bands were violated. The daily relative performance turned positive on Friday suggesting it may lead on the rally. It’s largest component Apple, Inc. (AAPL) reports earnings after the close on Tuesday. There is a band of strong resistance in the $105.60 to $107.50 area.

What to do? The mid-week reversal give investors such much needed relief but how long will it last?

As I expected last week the S&P 500 support in 1857-1867 area was broken last week with the low at 1812.29. So far the short term rally does look pretty strong and the heavy, panic selling last week does suggest we will see a rally that goes further and lasts longer.

The prevailing wisdom from the financial pundits is to sell on a rally but most are looking for the current rally to top out soon and not go much higher. I think a more complex 2-3 week rally is a clear possibility. A short term pullback from the $193.50-$195 is likely to set the stage for a rally to the $198-$200 area.

Though the recent drop does not seem like the first phase of a new bear market those who have now decided that they are too heavily invested in equities should consider reducing their equity exposure on a rally.

Because Wednesday’s drop was so severe there were no new buy signals until Friday’s close. There should be some short term opportunities for traders on the long side this week in technology, health care and consumer staples. If you want specific entry/exit advice on ETFs you might check out the Viper ETF Report .

 

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Time To Squeeze The Short Oil Speculators?

Posted by on Jan 23, 2016

Time To Squeeze The Short Oil Speculators?

Given the accelerated selling in the stock market this week with the Dow down another 500 points mid-session Wednesday stock holders are clearly past the white-knuckle stage. With just 116 stocks advancing and 3077 declining mid-day Wednesday the selling had clearly reached panic levels. The ability of the Spyder Trust (SPY) to close over 2.5% above the low and the positive close by the iShares Russell 2000 (IWM) are encouraging signs.

The slide in crude oil has been relentless with sentiment very negative as many strategists continue to lower their forecasts. According to Saxo Bank  “Speculative short bets are now more than 40,000 lots higher than the last peak in August which was followed by a 25% price jump in a matter of days”.

Also it is worth noting that long positions in crude oil by non-commericals hit a 12 year low in the latest COT data. I have been closely following crude oil for over 30 years and in the late 1980’s I was asked to give a full day seminar for energy traders in Singapore. One point I emphasized with traders then and still find very important now is the action of the open interest. So why is it important?

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The daily chart of the continuous crude oil contract shows that it just “kissed” the 20 day EMA in late November and December before dropping sharply. On the decline from the November high crude lost 20%.

  • Since the December high crude oil had dropped 28% as of Wednesday low.
  • Crude is currently 15% below its 20 day EMA which is one of the largest gaps since August.
  • If the current decline is going to match the drop from May 2015 high to the August 2015 low then the downside target is $26.50 of just $1 above the week’s low (see chart)
  • As noted earlier the sentiment basis the COT data has reached an extreme last seen at the August lows.
  • The open interest has been rising but has recently turned lower suggesting some on the short side are getting nervous. Similar action was seen on August 19th which was just four days before the low.
  • The Herrick Payoff Index, which uses open interest, volume and price, is also starting to diverge from prices.
  • Basis the April contract it will probably take a move above the $31.60 level to really squeeze those who are short crude oil.

The crude oil ETFs like the SPDR Oil & Gas Exploration (XOP) have been leading the market lower as it is down over 20% YTD.

  • It came close to the daily starc- band Wednesday as it had a low of $22.06. The low in 2008 was at $21.28 with a March 2009 low at $21.47.
  • It closed 7.6% above the day’s lows on Wednesday which is indicated by the long tail on the candle chart.
  • Next resistance at $25.50 with the declining 20 day EMA at $27.46.
  • It may have been be a selling climax on Wednesday as volume was triple the three month average.
  • No signs of a bottom from the daily, weekly or monthly OBV.

What to do? Given the high level of bearish sentiment and oversold extremes that I discussed in last weekend”s column “Is Bullishness Low Enough Now?” a good stock market rally is increasingly likely.

The open interest analysis of crude oil makes it ripe for a short covering rally. With the heavy speculator short position in crude and low level of commercial long positions it would not take much to trigger a sharp rally in crude. This will the very negative sentiment and could take the United States Oil Fund (USO) back to the $10.50-$11area. I will Tweet a chart later today of USO and will be updating my analysis on Twitter.

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The Week Ahead: Three Questions Investors Should Answer

Posted by on Jan 9, 2016

The Week Ahead: Three Questions Investors Should Answer

The global stock markets have certainly gotten the world’s attention after just five days of trading in 2016. Even the very strong job report on Friday just triggered a brief bounce as stocks ended the week on the lows

Most investors will be looking at their brokerage or 401k accounts this weekend and trying to figure out what they should do with their investments in 2016. I was certainly not expecting this severe a decline but it does not change the approach I feel investors should take with their investments.

Portfolio decisions in 2016 are especially difficult in 2016 after the relative flat performance in 2015 by the S&P 500 and the 6.8% decline in junk bond ETFs like the SPDR Barclays High Yield ETF (JNK). Even the Barclays U.S. Aggregate Bond Index was only up a paltry 0.80%.

There are three questions I think investors should ask themselves this weekend. First let’s look at last week’s market action.

WA1-8a

The S&P 500 tracking Spyder Trust (SPY) lost 5.8% this week. This interesting chart and data from Factset/JPMoran Chase Asset Management indicates that since 1980 the S&P 500 has had “average intra-year drops of 14.2%” with positive annual returns in 27 of 35 years. This implies we could lose another 8.4% and still have a 75% chance of finishing higher.

During Monday’s trading session many commented that this could be the worst first day of the year since the 1.8% drop 1932. By the close the S&P 500 was down 1.5%. Still this was the worst first week of the year.

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On the first day of trading in 2001 the S&P 500 was down 1.8% but as the chart shows this drop was followed by a sharply higher close the next day and a rally of 8.5% by the end of the month. In 2001 the market was in a solid downtrend unlike 2016 and the S&P 500 just tested it’s downtrend in 2001 before moving much lower.

The current decline I think needs to be viewed in terms of the long term monthly charts. The chart has support from the 2014-2015 lows (red line) at 1885. The 2015 summer lows were at 1867 which is 2.8% below last Friday’s close. The still rising 40 week MA is at 1849 and the last time it was tested was in 2010. The October 2014 low at 1814 which is about 5.6% lower.

The completion of the major monthly trading range, lines a and b, in May 2013 still has long term significance. To those not comfortable with technical analysis this may seem farfetched but the upside targets from this range are in the 2500 area. When IBM completed its monthly trading range in 2010 my upside target was in the $160-$170 area. It eventually moved to $200.

The first question is ask yourself is whether last week’s market’s decline caused you to sell any holdings that you had planned to hold all year?

If the answer is yes then that is a sign that you had too large a % of your portfolio in stocks. Some are comfortable with 70% in stocks during such a decline while others are scared into selling with only 30-40%. Everyone has a different comfort level so decide what yours is and act accordingly. Don’t decide to change your allocation if the Dow opens 400 points lower one day.

If you have raised some cash I would suggest you wait before investing it in something new. As I discuss later I think the next 3-5 weeks will tell us more about 2016.

The Economy

The sluggish action of the stock market in 2015 and the current market drop reflect the mixed view that analysts and investors have on the economy. Some feel that are in or are starting a recession while others feel the economy is still healthy.

Each week I review many of the economic indicators and in my work the Leading Indicators (LEI) is the best at warning of a recession. It rose 0.4% in November and December’s data will be released on January 22nd. It typically tops out well ahead of a recession as it turned lower twenty months before the last recession and ten months before the 2000 recession. Typically bear markets warn of a recession.

The second question investors should answer is what economic indicators will you use to determine your outlook for the economy?

WA1-8c

As I have been noting since last spring the data has been mixed which explains the differing views. The data on the consumer has been generally strong. One measure is the Conference Board’s Consumer Confidence which was strong last month at 96.5. Let’s look at how it performed during past recessions.

Prior to the 1990 recession the Consumer Confidence broke support, line a, well ahead of the recession. This measure of the consumer stayed strong from 1993 through 2000 when it also dropped below its support (line b).

During the recovery from the 2000 recession the Consumer Confidence was much weaker as it peaked at 111.9 before dropping sharply in late 2007. It is currently well above the long term uptrend from the 2010 low, line d. However the steep, shorter term support, line e, is not far below current levels. I will be watching it in the months ahead.

WA1-8d

Most of the negative economic news has been from the manufacturing sector. This is reflected in the ISM Manufacturing PMI Composite Index which dropped below 50 over the past two months. if you want to explore this data more closely go to the St Louis Fed site.

Prior to the 1990 recession the index dropped below 50 in May 1989 several months after it dropped below support, line a. From January 1993 through 2000 it was much choppier as it moved above and below the 50 level several times. Finally in November 2000 it dropped below the prior lows, point 2. This was four months before the start of the recession.

Before the 2008 recession the support in the index was broken in 2005 and it did not drop below the 50 level until December 2007 as the recession was starting. The ISM Index formed lower highs in 2014 which is not a positive sign and neither is the recent drop below the 2012 low. It needs to see a sharp rebound in the next few months in order to reverse it’s negative trend.

The calendar this week is light with most of the data coming on Friday including; PPI, Retail Sales, the Empire State Manufacturing Survey, Industrial Production, Consumer Sentiment and Business Inventories. The mid-month reading on Consumer Sentiment could take quite a hit after last week in the stock market.

Interest Rates & Commodities

WA1-8e

It was another ugly week for crude oil as it lost another $4 a barrel for the week. Despite the high level of bearish sentiment and heavy short position the rallies have been very brief. The bad news is that it is still well above the weekly starc- band which is now at $28.79. The daily studies are oversold so a bounce back to the $40 level would not be surprising in the next two months.

Gold was up 4% for the week and the Spyder Gold Trust (GLD) has next strong resistance in the $107.50-$108.50 area. The Market Vectors Gold Miners (GDX) had a good week as it overcame the daily chart resistance at $14.73. There is next resistance in the $15.45-$16.50 area. The daily OBV still shows a bottoming formation and volume was strong on last Thursday’s surge.

The yield on the 10 Year T-Note closed down 1% for the week at 2.13%. The weekly and daily technical studies are starting to favor lower yields. A drop below the 1.900% level would be a sign of even lower yields.

The final question investors should answer is if you are planning to make changes to their portfolio after last week’s action. I hope the market wrap section will help you develop a well informed portfolio plan.

Market Wrap

The 20+ point rally in the S&P futures after the surprisingly strong jobs report dissipated in the first two hours of trading and the selling continued all Friday. The Russell 2000 dropped the most losing 7.9% for the week followed by a 7.5% loss in the Dow Transports. The S&P 500, Dow Industrials and NYSE Composite all lost around 6% as it was the worst weekly decline since September 2011. There were 2502 declining stocks with just 725 advancing.

According to AAII only 22.2% of individual investors are now bullish and in this week’s survey we could see a drop below 20%. The bearish % jumped 14.6% to 38.2%. During the August-October 2011 correction the bearish% came close to 50%. The CNN Fear and Greed Index closed the week at 17 well in fear territory as it was neutral a week ago. At the August 2014 lows is was in single digits.

All of the major averages are very oversold as the NYSE Composite and Spyder Trust (SPY) both closed the week 5% below their 20 day EMAs. Last Thursday and Friday the averages also closed below their daily starc- bands and the SPY even closed below its weekly starc- band.

Many were looking for the start of an oversold rally on Friday but the failure of the market to rally soured the sentiment even further. Nevertheless the odds still favor a strong rally this week.

WA1-8f

The daily chart of the NYSE Composite shows that it closed below the support from the August and September lows, line b. The weekly starc- band is now at 9412 with further support in the 9250 area. A rally should reach at least the 9880-9940 area and could test the 20 day EMA at 10043.

The NYSE A/D line closed 1.5% below its 21 WMA but is still slightly above the December lows. The bullish divergence support, line c, is now a more important level to watch. The McClellan oscillator closed the week at -204 but is also above the long term support at line d.

The Spyder Trust (SPY) looks weaker technically than the NYSE Composite with next support in the $190 area. There is additional support at $188.62 and then at $185.82 which was the late September low.

There is first resistance in the $196.50-$197.40 area and then at $200. The declining 20 day EMA is at $201.40. It would take a close back above the $208 area to reverse the technical damage.

The S&P 500 A/D line has plunged and is now as far below its WMA as it was in late August. It looks as though the A/D line is ready to test the September lows, line f. The daily OBV is acting weaker than prices as it has formed lower lows, line g.

WA1-8g

The tech and biotech sectors were hit hard last week as the PowerShares QQQ Trust (QQQ) lost 7%. The weekly starc- band is now at $102.58. There is more important support now at $98 but the QQQ did hit a panic low of $84.28 on August 24th. There is first resistance at $108 with the 20 day EMA at $110.31. The gap from the open last Monday has resistance at $111.84. A daily close above $114.25 is needed to reverse the technical damage.

The Nasdaq 100 A/D line has reversed sharply from the late 2015 high as it has dropped well below the November-December lows. The more important support now stands at line c and a drop below the 2015 lows would be a clear sign of weakness.

The iShares Russell 2000 is getting close to the August 24th low of $101.67 with the uptrend from the 2012 lows now at $100. The Russell 2000 A/D line has dropped below the August lows and is now close to the lows from October 2014.

What to do?

Given the technical damage and the deeply oversold status of the market the expected rebound is likely to last more than 2-3 days and the averages could even make it back to their 20 day EMAs. In my opinion it is more likely that the rally will ultimately stall as the averages will then see another wave of selling before a bottom could be completed. The A/D numbers will need to be watched close on the rally.

I think the S&P 500 could drop to the 1845-1870 area before the correction is over. If the rally is short lived an important low could be formed sooner.

There are no signs yet of a recession so the monthly chart formations are likely part of a broad continuation pattern that will ultimately set the stage for a move to new highs. This outlook could change later in the year if the earlier discussed economic data deteriorates further.

One cannot totally dismiss the possibility that the markets will now rally sharply enough to complete weekly bottom formations. This would mean a test of the all time highs but it would likely take a very strong earnings season, especially for the financials along with stabilization in China and the crude oil markets.

My smoothing analysis of the S&P 500 stocks below their 50 day MAs has reached one of the lowest levels since 2011. This is supported by the analysis of Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch. His work shows that 88% of the global equity markets are trading below their 200- and 50-day moving averages. They are both signs of a very oversold market.

If you have decided to reduce your equity exposure you should get a good opportunity in the next week or two to sell down to your comfort level. Of course there are few non-equity investment opportunities that look attractive so money market looks best.

Those who are looking out a few year the equity markets are clearly the best place to be even if we see another decline of 5% or so in the first quarter. A dollar cost averaging plan in a low cost ETF or mutual fund where you have no transaction fees is preferred.

At the end of 2015 there were signs from the monthly charts that the large cap stocks, contained in ETFs like the SPDR Dow Industrials (DIA) or Vanguard Large-Cap ETF (VV) are starting to outperform the S&P 500. often in teh latter stages of a bull market the large caps do perform the best

The bottom line is that you should have a first plan of action for what is likely to be a volatile earning’s season and be sure you stay with your plan.

Editor’s note: If you like Tom’s analysis of the A/D line and want specific entry/exit advice on ETFs check out Viper ETF Report his premium newsletter.

Stock traders might take a look at Tom’s Viper Hot Stocks report which is updated twice a week with specific signals on the Nasdaq 100 and IBD top 50 stocks.

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