Pause in Equity Bounce!

April 28, 2014

The S&P500 slipped a tiny fraction of one percent last week, mostly due to a sell-off on Friday. Volume for the week overall was very light, meaning that there was no strong conviction behind the selling. And volatility inched up only slightly, which also means that investors were far from getting worried.

Despite the minor dip, or more accurately, because the dip was so small, the technical picture for the S&P500 has not changed much. It’s still extremely overbought, not far from its upper Bollinger band on the daily charts and almost touching this band on the weekly charts. Prices are not only comfortably above the 200 day moving average, but they’re also still above the 50 day moving average. And most importantly, since the 200 day moving average is still sloping upward—as it has been since 2011 the last time we’ve seen a serious correction—the bull market cycle is still in effect.

US macro data, while light in terms of the number or releases, was mixed last week. Existing home sales just beat expectations, but they’re notably off last year’s levels. In other words, the strong rebound in the US housing market since mid 2012 is now showing signs of slowing down. The Richmond Fed manufacturing survey beat consensus estimates, as did durable goods orders—both headline and ex-transportation. But initial jobless claims missed….they jumped unexpectedly. And both the Kansas City Fed manufacturing survey and PMI flash services missed estimates.

Interestingly, the S&P500 is not acting like it did for most of 2012 and all of 2013. Since reaching the mid-1800’s in late December 2013, it has essentially gone nowhere since then……and it’s now almost May. It appears that the strong upward momentum that powered the S&P higher for one and a half years has weakened.

One way this can be seen is in the slope of the 200 day average. While it’s still upward sloping, as mentioned above, it’s clear that the slope (upward) is not as steep as it used to be.

Could this be a prelude to a more serious correction? While nobody knows for certain, it is true that all major corrections will bend this moving average—first to a flat slope, and then—if the correction is more serious—to a downward slope.

So this recent, multi-month pause in the pace of the rise in the S&P is noteworthy. Many technicians would describe it as a drawn out topping process, a process that often leads to more severe price drops.

And if prices fail to advance much further, then the 50 day moving average will start to pinch into the 200 day moving average. At that point, if the 50 day crosses below the 200 day, we would have a problem, a problem called the “death cross” which would cause many technical traders to exit their long positions until the death cross is reversed (via a “golden cross”).

The next few weeks should be very interesting!

Delayed Bounce in US Equities

April 21, 2014

Instead of bouncing in the prior week, US equities roared back last week, gaining 2.7% by Friday’s close. Volume was very light, but part of this can be explained by the holiday shortened week. Volatility was slammed back down, but not quite down to 2013 lows when complacency was ruling the equity markets. The VIX index closed on Friday at levels that were about 30% higher than those 2013 lows. This means that many investors are more nervous than they were last year, despite the higher equity prices this year.

Technically, the S&P500 has returned to an overbought condition on both the daily and the weekly resolutions. With last week’s bounce, prices have moved back up to the upper Bollinger bands. But interestingly, several momentum indicators are not matching the exuberance in prices. MACD and RSI are both much lower than they were at most recent peak prices. This is a negative divergence, and often implies that prices could follow weakening momentum…..down. Next week will be the deciding factor—if prices keep rising briskly, then this negative divergence will disappear. On the other hand, if prices reverse course and start dropping, then the negative divergence will have been an accurate early warning sign that prices were about to slip.

In US macro news, retail sales beat estimates, but this was done simply because consumers continued to raid their savings. This is fine in the short run, but will come back to haunt households who will not have enough savings for retirement….or will be forced someday to slash consumption to build savings back up. Consumer prices, both headline and core, rose twice as fast as predicted. The Empire State Manufacturing Survey plunged. The Housing Market Index disappointed, as did housing starts. Industrial production beat consensus estimates. Initial jobless claims seem to be approaching the 300,000 level, and the Philly Fed Survey beat estimates.

But the bottom line is this—the US economy is still limping along, crawling forward more than growing, and certainly not anywhere near achieving escape velocity.

So the 200 day moving average was not tested last week. Instead, the S&P500 inched back up over its 50 day moving average.  But recent highs have not been taken out. And this will be the real test for everyone conditioned to buy the dip, which they did again. This week, and perhaps next week, will be the time when these investors will expect to be “rewarded” for their steadfast commitment to buying at or near the all-time highs….on minor dips.

Someday this will strategy will fail, and when it does it will fail spectacularly. Because so many investors have been drawn into following this strategy, when it fails, the exit doors will not be large enough to accommodate everyone scrambling to get out.

But as usual, nobody knows when that day will arrive.

Equities—Serious Correction Straight Ahead?

April 14, 2014

This starting to get interesting. Instead of bouncing up as was usual for the last one and a half years, the S&P500 dropped almost 2.7% last week. The NASDAQ went down even more. Volatility jumped notably—the VIX index rose to about 17 after spending most of the prior week below 15. And volume also rose, suggesting that there was some conviction behind last week’s selling.

All that said, the S&P is off only about 4% from its most recent highs. Not good, but certainly not a serious correction. For now, this is merely a scratch.

Technically, the S&P remains very overbought on the weekly charts, while on the daily charts, last week’s sell-off alleviated this condition, but only slightly. Breadth indices weakened a good deal. The McClellan Oscillator fell to one year lows. New highs minus new lows hit zero. And the percent of stocks above their 50 day moving averages fell to only 39% by Friday’s close. So the damage to market internals looks even worse than the 4% drop in price, suggesting that the equity markets—beneath the surface—are weaker than they appear.

US macro data continues to disappoint. Wholesale trade figures missed expectations. Import prices were much higher than predicted; this will put pressure on corporate earnings. Producer prices, both headline and core, were much higher than expected; this will also put pressure on earnings. But initial jobless claims were better than expected. Interestingly, almost all US recessions start around the time initial jobless claims reach their lows of the cycle. This could possibly be happening….right about now.

Last week, we noted that if the S&P500 was going to revert back to form—the form that has defined it for the last 18 months—then it was going to have to bounce back markedly by last Friday’s close. Instead, the S&P lost almost 3 percent. It’s now trading visibly below the 50 day moving average and the next stop can be—and will probably be—the 200 day moving average at about 1,765.

It’s likely to test the 200 day, because it failed to march on to new highs last week. And that’s where this will get very interesting. The S&P500 has NOT tested (truly closed below) the 200 day moving average since late 2012. In many ways, then, this test is overdue.

For the bull market run that started in 2009 to continue, the S&P will have to find its footing at or around the 200 day moving average. This is were many, if not most, long-oriented trend traders will draw the line. Because if the 200 day doesn’t hold, then many of them will get out, which will almost guarantee an even greater sell-off, a sell-off that could accelerate because the Fed is now tightening by methodically cutting back its QE program.

Either way, a more serious correction is now more likely. Simply moving down to the 200 day moving average will mean that the S&P will be down about 7% from its highs.

And if the 200 day doesn’t provide a firm foundation, then a 10-15% sell-off becomes a distinct possibility…..for the first time since 2011.


Is “Buy the Dip” No Longer Working?

April 7, 2014

In a roller coaster week, the S&P500 finished up slightly; it rose 0.4% on light volume. Volatility dipped again a bit, returning back to the lows of 2013. But the weekly rise was anything but smooth and uneventful. While stocks crept up in the first half of the week, they ended the week with a violent sell-off on Friday.

Despite the Friday sell-off, technically, the S&P is still in a firmly established uptrend. Prices are over-bought as the continue hugging the upper Bollinger band on the weekly charts. While not as extended, price are also stretched on the daily charts. But market internals are weakening. For example, the percent of stocks above their 150 day moving average is falling, even as the price of the index rises. Also, the new highs minus the new lows index is just about zero, which is usually not something you’d see in a healthy rising market.

In terms of US macro news, the news was almost uniformly poor. At the start of the week, Chicago PMI missed badly. The PMI manufacturing index also missed, as did ISM manufacturing. Initial jobless claims were worse than expected. International trade was far worse than expected. And ISM services also missed. The big disappointment of the week was the payrolls report which came in weaker than expected. Headline unemployment (U-3) also did not dip as predicted. And average hourly earnings showed zero growth.

More and more economic experts, many from the Fed itself, are coming to the conclusion that while QE did help to boost investors’ asset prices, QE did very little to stimulate the real economy, the economy on Main Street. Over four years after the so-called “recovery” began, the US economy has not only failed to reach escape velocity, but it’s actually looking like it’s weakening further.

Finally, something interesting happened in US equity markets, but in small caps (Russell 2000) and tech-oriented businesses (NASDAQ composite). Over the last year and a half, whenever the S&P500 touched or dipped below its 50 day moving average, soon after, it bounced and bounced big….rising for several months and setting new highs.

But last week, something different happened with the Russell and NASDAQ. Each dipped below its respective 50 day moving average sometime near the end of March. But this time, each index—for the first time in almost two years—failed to rally for several months and failed to set a new high.

Usually, this is a bad omen for the entire US stock market, because these indices reflect the fortunes of smaller and more economically sensitive firms, and the failure in both of the above indices is a warning that the entire stock market, dominated in value by the S&P500, might be facing a more serious correction.

For the last year and a half, buying the dip—especially at the 50 day moving average—has been a winning investment and trading strategy…each and every time it happened.

But this time it failed, in two major indices.

This could mean that “buy-the-dip” may no longer work. We’ll know in a week, because for this to strategy to be re-affirmed, the Russell and the NASDAQ must come roaring back immediately.

Otherwise, we should all prepare for a more serious correction.