The Week Ahead: Don't Get Fooled Again
03/13/2015 5:10 pm EST
Though many investors are convinced higher rates are always negative for the stock market, MoneyShow's Tom Aspray takes a technical look at previous market declines—on concerns over higher rates—that still provided good opportunities to buy market leading stocks.
The stock market correction started after the very strong jobs report on March 6. It paused last Thursday when stocks rebounded sharply. The resumption of selling on Friday indicates that the market decline is not yet over. We could still form a v-shaped bottom next week but it will take several consecutive sharply higher days like last Thursday to complete the market's correction.
The widely attributed reason for the market's decline is the belief that the FOMC will change the wording of their announcement next week. This—many feel—will increase the odds of a rate hike in June.
The stock market turned around just after the FOMC announcements last December and January, so we could see a repeat of this Wednesday. Each of the market declines—on the concerns over higher rates—has provided a good opportunity to buy market leading stocks. So, my message to investors now is don't get fooled again.
Many investors are convinced that higher rates are always negative for the stock market. In a 2013 article, Rob Brown, the chief investment strategist for United Capital Financial Advisers LLC, looked at those 16 periods of economic expansions (12 months or longer) since 1919 when interest rates rose the most. He found that “81% of the 12-month windows of most rapid interest rate increase delivered positive S&P returns.”
Furthermore, he pointed out that “when interest rates are rising most rapidly during an economic expansion, this also corresponds with significant economic growth and increasing corporate profits and generally occurs in the middle of economic expansion phases (as opposed to at their end).”
If you compare the monthly charts of the S&P 500 and the yields on the 10-year T-Notes since 1998, you can come to the same conclusion. In October 1998, the S&P 500 completed its correction (Tell Tale Signs of a Correction) and by November had rallied to new highs for the year.
By January 1999 (line 1), yields were in a clear uptrend as they had risen from a low of 4.42% to 4.68%. They continued to rise until January 2000 as they peaked at 6.82% before turning lower. The S&P 500 continued higher until August 2000, line 2. During this period of generally rising rates, the S&P 500 rose from 1250 to 1500, a gain of 20%.
After the bear market, the S&P 500 had started a new uptrend by April 2003 and it rallied until 2007, line a. During this period, the yields were also in an overall uptrend, line b, as they rose from a low of 3.52% in May 2004 to a high of 5.13% in June of 2006.
In November 2012, the S&P 500 had just made a new monthly high for the bull market and the T-Note yield was 1.60%. The market corrected sharply in late 2012 on fears of the fiscal cliff, which also presented an excellent buying opportunity (Stuff Those Stockings with Stocks). Over the next thirteen months, yields almost doubled, rising to a high of 3.20% in December 2013 while the S&P 500 gained over 30%.
Certainly, I do not think that the prospect of higher rates or concerns over the Fed's language is a reason to alter your portfolio. If the Fed does decide to lower rates this summer—which I think is very unlikely—it will mean higher corporate earnings and a stronger economy, which still makes stocks the favored investment.
Of course, the very strong dollar has contributed to the low interest rate environment as billions have followed into the US bond market, which has been a long time favorite of global investors. The monthly chart of the dollar index futures shows that it peaked in July 2001 at 121.29.
From the low in April 2008, the dollar index stayed in a wide range despite sharp rallies in both early 2009 and early 2010. The dollar index finally broke out from the nine year trading range, line a, in September 2014.
It has traded above its monthly starc- band for the past four months, so it is getting overextended.Â The 50% retracement resistance at 96.37 has been overcome so the next target is the 61.8% Fibonacci resistance at 102.27. This is just 1.6% above current levels. The monthly and the weekly technical studies did confirm the breakout in the dollar index.
The monthly OBV turned positive in August 2014 as it broke through its downtrend, line b. The Herrick Payoff Index (HPI) shows that the money flow was strongly positive in September as it moved above four year resistance, line c. It has recently accelerated to the upside. As I pointed out last week (see chart), it has also been a very helpful tool in determining the direction of crude oil and gold.
As the US dollar has soared, the emerging market currencies have been hit very hard. The weakest has been the Brazilian real as it is down 29% since June 20, 2014. The Swedish krona has been as weak as the euro as both are down 22%. Sweden—like many other countries—has also recently cut their interest rates.
NEXT PAGE: What to Watch|pagebreak|
Last week's sharp decline in Retail Sales was taken positive by the stock market as traders hoped it will make the Fed less likely to raise rates. The chart shows the recent plunge in the retail sales over the past ten months, while the weekly payroll data has continued to improve. If these numbers do not start improving as the weather warms up, it could weaken the economic recovery. The recent data suggests that consumers are building up their savings instead of spending.
This week we have a full economic calendar with the Empire State Manufacturing Survey, Industrial Production, and the Housing Market Index on Monday. This is followed by Housing Starts and the start of the FOMC meeting on Tuesday.
On Wednesday afternoon, we get the FOMC announcement and Fed Chair Janet Yellen's press conference. On Thursday, the Philadelphia Fed Business Outlook Survey will be released, with quadruple witching on Friday.
What to Watch
The heavy selling continued last week, which was not surprising after the drop on March 6 when many of the short-term indicators turned negative. The bearish sentiment has picked up some with the AAII bullish sentiment at its lowest level since last August. The CNN's Fear and Greed Index is now back in Fear territory.
The lower close Friday will likely increase the concern as investors review their portfolios over the weekend. The decline has taken several sectors back to the breakout levels.
For example, the iShares US Home Construction ETF (ITB) was featured along with Lennar Corp. (LEN) on March 4. ITB had a low of $26.53 last week just below the initial buy level at $26.56, but LEN has not dropped low enough yet. Our buy level in one of the airlines favored by a momentum mutual fund was also hit.
Without more than a one day bounce, there is not enough data to be confident about how low the correction will go. The Spyder Trust (SPY) could hold the $204 level or drop back to the $202.50-$203 area. Of course, a decline to the $200-$201 cannot be ruled out, but would expect to see a 1-2 day rally before we drop that low.
As I said last week, there are no indications that we will see a sharp 15-20% correction at this time as the warnings signs are not in place now. Some of the weekly volume indicators that are getting closer to important support to the close this week will be important.
There are many stocks that are just tracing out normal corrective patterns and three IBD Top 50 stocks formed bullish reversals before last Thursday’s rally. We have still quite a few open buy orders but need confirmation of a new uptrend before adding too many new positions.
The % of Nasdaq 100 stocks above their 50-day MAs has declined further with the five-day MA down to 59%. It could drop as low as the 40-45% area before the correction is over. This would be a test of the uptrend, line a.
The NYSE Composite is already getting close to the projected pivot support at 10,658 and the quarterly pivot at 10,597. The chart support, line a, and the starc- band are also in the same area. A weekly close below 10,400 would be more negative as it could set the stage for a drop to the 10,000 area.
The daily NYSE Advance/Decline tested its uptrend, line b, last Wednesday before turning higher on Thursday. The A/D numbers were pretty weak on Friday so it is possible that this support will give way in the next few days. The weekly A/D line (not shown) is still well above its rising WMA.
The daily OBV is now below its WMA but is still above more important support.
The McClellan oscillator dropped to -190 last Tuesday and then turned higher. It needs to move back above the zero line and the resistance at line c, to turn positive.
NEXT PAGE: Stocks|pagebreak|
The Spyder Trust (SPY) closed the week just above its daily starc- band as it has retraced 50% of the recent rally. There is next support at $202.50-$203 with the monthly projected pivot support at $201.60. The weekly starc- band is at $200.32 with the quarterly pivot at $199.42.
The daily S&P 500 A/D line dropped below its WMA on March 6, but moved back above it last Thursday. It will turn lower Friday but should still be above last week’s low. There is even stronger support at line a.
The daily on-balance volume (OBV) has dropped further below its WMA and is now close to a zone of stronger support at line c.
There is first resistance now at $207 with the 20-day EMA at $208.58.
The SPDR Dow Industrials (DIA) dropped down to test the daily starc- bands early last week before rebounding. The daily starc- band is now at $174.61 with the monthly projected pivot support at $173.45. The quarterly pivot at $171.85 is 2.8% below current levels.
The Dow Industrials A/D line turned higher last week, but it had dropped sharply prior to the jobs report. It will turn down after Friday’s numbers are in, but is still well above the support at the February lows.
The daily OBV violated its WMA after the jobs report and is still in a short-term downtrend. The OBV has next support at the uptrend, line e.
The PowerShares QQQ Trust (QQQ) is already down just over 4% from its high as the minor support at $106 was broken last week. The daily starc- band is at $104.10 with the breakout level, line a, in the $103.50 area. The still rising 20-week EMA is at $103.56. The monthly projected pivot support is at $102.43.
The daily Nasdaq 100 A/D has held up quite well on the decline and moved back above its WMA last Thursday. It is not far below its all time high. The A/D line has long-term support at line c. The daily OBV does act weaker as it is further below its WMA, which is now flat.
The 20-day EMA is at $106.61 with stronger resistance in the $107.70-$108 area.
The iShares Russell 2000 (IWM) dropped to its lower starc band early last week before rebounding sharply on Thursday as it led the other main averages. It also held up better on Friday as it closed back above its flat 20-day EMA.
The $120 level held on a closing basis with the rising 20-week EMA now at $118.46. The monthly pivot support is at $116.85.
The daily Russell 2000 A/D line dropped below support last week before rebounding in impressive fashion. The resistance from the December and February highs, line f, has now been overcome. This will bear close watching early this week as the A/D line has held above its flat WMA. It is much stronger than the A/D lines on the other major averages.
The daily OBV has turned down after testing its downtrend, line f, but is still above its rising WMA.
NEXT PAGE: Sector Focus, Commodities, and Tom's Outlook|pagebreak|
The iShares Dow Jones Transportation (IYT) was down just slightly last week and held up better than most of the sector ETFs. It is still down just over 2% for the year. The daily studies improved last week as the relative performance analysis is positive and the OBV is neutral.
Many are raising concern with the recent failure of the Transports to make new highs recently with the Dow. As I pointed out in last Monday’s Diverging Transports Not a Concern yet..., these divergence can last for quite a while as they did in 2012.
IYT has been a market leader for much of the bull market so I will be watching it closely for signs that its correction is over.
Most of the sector ETFs gave up much of their yearly gains in the past week. Only the Select Sector Utilities (XLU) and Select Sector Energy (XLE) have had a Friday close below their quarterly pivots.
The Sector Select Technology (XLK) was up 2.6% last week but now is just up 0.4%. Others like the Select Sector Consumer Staples (XLP), Sector Select SPDR Financial (XLF) and Select Sector Industrials (XLI) are negative for the year.
The Select Sector Material (XLB) is also still positive for the year up2.3%but is well below the recent highs. The Sector Select SPDR Financial (XLF) was actually up slightly last week but is still down for the year.
The yield on the 10 Year T-Note pulled back last week after closing on jobs Friday at 2.24%. They settled this week around 2.11%. The short-term uptrend in yields is still intact though a drop below 2.00% is still likely in the coming weeks.
Precious Metals & Crude Oil
Both of these commodities were discussed in Friday morning’s column Two Weak Markets Still Dropping as the daily money flow analysis still indicates that both can move even lower.
The Week Ahead
It was a fairly rough week, though it was an encouraging sign that most of the major averages closed well above the intra-day lows on Friday. The Dow was down over 230 but closed down 145 points. The Spyder Trust (SPY) hit a low of $204.58 but closed the day at $205.83.
The market is still in a short-term corrective mode which makes this week important. The better than expected relative strength of the small-cap stocks and the Dow Transports is an encouraging sign.
I don’t mean to sound like a broken record, but continuing to focus on stocks with positive monthly RS and OBV analysis is still the best strategy. These stocks still show normal corrective patterns and positive charts. Several which have hit our buy levels in late January or in the last week are now are above their correction lows.
One of the two overseas ETFs I mentioned last week did reach its initial buy level while the other has held up much better.
As was the case last week, I still do not think now is the time to make any significant changes in your portfolio. Those who are underinvested could still do some selective good risk/reward buying. If you are in bonds, there is no clear reason yet to modify your bond portfolio until there is more evidence of a bottom. The precious metals still appear to have more downside potential.
Don't forget to read Tom's latest Trading Lesson, Avoiding Bear Markets.