US Stocks at a Crossroads….Again

October 27, 2014

Well it happened again. After taking a beating (this time the worst in two years), the S&P500 has come roaring back. The index jumped just over 4 percent. But of course, since prices went up, volume went down as it has usually done in any other week when stock prices have risen. Volatility fell back quite a bit, also as expected, but not nearly back to the ultra-complacent levels that served as a backdrop for the FED-induced melt-up over the last two years.

Us macro news, weak as ever, had little to do with this equity market action… has been the case over the last couple of years. Last week, existing home sales beat expectations. but only slightly. Initial jobless claims are hitting new cycle lows, but the very same thing happened in early 200 and mid 2007. PMI flash manufacturing came in weaker than expected. The Kansas City Fed manufacturing survey also disappointed. But leading indicators and new home sales beat consensus estimates.

The technical picture for the S&P500 is extremely interesting right now. As noted last week, given that the S&P had been somewhat oversold on the daily charts, the key tests would be the 200 day moving average and the 50 day moving average. Well very quickly, and very early last week, the S&P re-captured the 200 day moving average. Then by the end of the week, the S&P approached….but not quite crossed….the 50 day moving average.

So the US stock markets passed the first test to recovery. Prices are now sitting at the doorstep of the second test…..crossing above, and moving onward from, the 500 day moving average.

Next week, this question will be answered. If prices manage to recapture the 50 day moving average then the final test will be the return to all-time highs set in September.

But for this “coast is clear” event to happen, and for it to be somewhat sustainable, then the market internals will also have to improve. In short, this means that if prices in the index return to all-time highs, but this happens due to the narrow leadership of a sliver of key leadership stocks (rather than the broad participation of most stocks), then the recovery will be suspect, and vulnerable to abrupt reversals.

But first things first. Let’s see what happens early next week, and take it from there. All eyes on the 50 day moving average!

Equities Bruised, but not Battered

October 20, 2014

Once again, US equities suffered a week of losses. The S&P500 finished down 1% on even higher volume, meaning that this time the selling did become more meaningful. Along the same lines, volatility spiked slightly above 30 (on the VIX) for the first time since 2011. So some level of fear, albeit not true panic, did enter the US stock markets as the selling peaked last Wednesday.

Technically, the S&P500 is now a bit oversold on the daily charts. When prices fell the most, they crashed well  below the 200 day moving average, and the week’s decline was strong enough to bend the 50 day moving average to slope downward. But despite all of this, the 50 day moving average is still well above the 200 day moving average, and the 200 day moving average is still sloping slightly upward, or at worst, it’s flattened out. Again, both the 50 day must cross beneath the 200 day and the 200 day must slope downward for most technicians to call the beginning of a new bear market phase.

Now that the S&P is oversold on a short-term basis, everyone will be looking for the bounce, which—to be fair—had already begun last Thursday and Friday. The first challenge will be for the S&P to return back up to the 200 day moving average; and as of Friday, this hurdle had almost been overcome. At that point, the 200 day may act as resistance (or a ceiling over prices) because many of the investors who had spent the previous two years buying on dips to the 200 day moving average will be breaking even (ie. recouping their paper losses). Very often, due to human nature, these investors will have an inclination to get out (ie. sell) once they return back to breakeven. If this happens, then the S&P could turn back down.

If on the other hand the S&P sails upward and through the 200 day moving average, then the next and final hurdle will be the 50 day moving average. Very aggressive “dip buyers” used this average to buy, and only when or if prices return to the 50 day will they break even. At that time, once again, there will be a tendency among many of these aggressive dip buyers to get out by selling, so prices may turn down at that point as well.

Only if the S&P retakes the 50 day moving average will the coast be clear, and the road to full recovery will open up.

Finally, let’s step back and assess the overall damage from this worst stretch of selling in over two years in US equity markets. At the lowest point last week, the S&P500 only approached—but did not cross into—a 10% loss, which is the hallmark of a true correction in equity markets.

So despite all the headlines and supposed pain, the S&P500 has still not incurred a normal correction since 2011—over three full years!

Bottom line: stocks have been merely bruised. By no means have they been battered!

US Equities on the Brink?

October 13, 2014

Something very unusual happened last week. For the first time in two years, the S&P 500 touched the 200 day moving average. And the S&P 500 did not roar back up after a couple of consecutive weeks of losses.

Volume jumped, but certainly did not explode the way it would if a major risk-off event, ie a crash, were to occur. And volatility, as measured by the VIX, spiked above 20 for only the second time in 2014; but once again, this is not indicative of a panic sell-off when VIX can smash above 30, 40 (as it did in 2010 and 2011) and even 80 (as it did in 2008).

How bad was the damage? When the week ended, the S&P was down over 3%, registering its biggest weekly percentage loss since 2012.

Did something happen in the US or global economy to trigger this drop?  Not at all. In fact, very few economic reports were announced at all last week, and many were stronger than expected. Job openings, as measured by the JOLTS survey, beat consensus estimates. Initial jobless claims were lower than forecasts called for. And wholesale trade beat the estimates. For the week, only consumer credit missed expectations.

Did corporate earnings suddenly take a turn for the worse? Again, the answer is no. No major negative corporate surprises were announced.

Did anything highly unusual—a black swan event—take place to spook investors?  Also, no.

What appeared to happen was that a change in sentiment among investors started taking place. As predicted by some, with the end of the Fed’s latest QE program only a couple of weeks away—and with no other major central bank stepping in to replace the Fed’s printing—investors may be starting to batten down the hatches in preparation for much greater uncertainty, as the key driver of inflated asset prices over the last two years, the Fed’s open QE program, finally ends.

So will stocks continue to crumble?

Here’s one key indicator to watch—if stocks close below the 200 day moving average for a while, and then when they rally—as they inevitably will—the test will be the same 200 day moving average. Whereas for the last 2 full years, the 200 day acted as a rock-solid line of support (which savvy investors used to “buy the dip”), this time the 200 day may act as resistance, a type of ceiling, over stock prices and knock them back down when touched.

So if the 200 day begins to act as resistance, and stocks bounce back down when touching it, then there’s a good chance that two things will happen:  1. the 200 day will stop rising, and begin sloping downward, and 2. the 50 day moving average will cross beneath the 200 day moving average to create the “death cross”, which will be a very strong signal to many investors to GET OUT.

Until then, we must still wait. A true bear market will not start until these last conditions develop.


More Troubling Signs

October 6, 2014

Unusual, but it happened—the S&P500 fell two weeks in a row, this time dropping about 0.75% on modest volume. The consecutive weekly drop has only happened a handful of other times in all of 2014. Normally, last week would have been the time to start the rebound, but not this time. Volatility dipped to suggest that fear was not driving the sell-off, and volume was lighter than one would expect during a down week; this also suggests that investors were not rushing for the exits.

The picture drawn by technical analysis has essentially not changed very much. Sure, on a short-term (ie. daily) basis, stock prices are still showing signs of weakness—for example, prices last week dipped below the 50 day moving average and have not recovered (they closed just below). But the larger picture is still fairly bullish—the 50 day moving average is solidly above the 200 day moving average and the 200 day moving average is unmistakably sloping upward. To repeat, both these measures need to reverse for the end of this bull run to be acknowledged by most technicians.

In macro news, personal income and personal spending only met expectations. On the other hand, pending home sales massively disappointed, as did the latest Case-Shiller home price index report, the Chicago PMI and consumer confidence. Also missing expectations were PMI manufacturing, ISM manufacturing, factory orders, ISM services, and construction spending. On the brighter side, initial jobless claims slightly beat consensus estimates and nonfarm payrolls came in somewhat better than expected. In terms of jobs, what was not well reported was the fact that the labor force participation rate fell again, setting another multi-decade low. This means that fewer and fewer people who can work are actually working—and the simple fact that they’re not looking for work means that they’re technically not “unemployed”. This makes the improving unemployment rate look far better than it actually would be in the millions of people who’ve dropped out of the workforce started to look for work.

Finally, there are more troubling signs in the markets, not equity markets but commodity markets. Copper prices are continuing to creep down. Palladium prices, also used in manufacturing, took a nosedive over the last couple of weeks. Iron ore prices are near multi-year lows. And most importantly, crude oil prices a falling fast, down from almost $110 per barrel (West Texas Intermediate) to under $90 at the end of last week.

What does all this mean?  It usually suggests that a global economic slowdown is coming. Why global? Because these commodity prices are set by producers and buyers around the world, and lately signs coming out of China—-the greatest engine of global growth over the last 10 years—are suggesting that a major slowdown is possible.

So as the US economy hobbles along, and Europe’s economy stagnates, Asia’s largest economy looks like it’s about to roll over. Over the last 5 years, central bank money creation has prevented major economic, financial and market dips from mushrooming. But now that the Federal Reserve is only weeks away from ending its latest QE program, and no other major central bank stepping into its shoes to fill the QE void, global economies and markets may just have to try to stand on their own two feet.

But the latest signs from the commodities markets are hinting that these economies and markets may start getting sick without a continuous flow of central banking medicine.