The E-mini S&P 500 is in the sell zone on the weekly chart. Traders can expect a pullback over t...
The Week Ahead: Fake Out or Breakout?
04/17/2015 5:00 pm EST
Many wonder if the recent market strength is a fake out or if the market’s actually ready to breakout, so MoneyShow's Tom Aspray takes a technical look at the charts from a historical point of view to determine how reliable one key indicator has been in the past.
After a generally positive week, the stock market rally stalled Thursday and the sellers have stepped back in early Friday. The major averages are down 1-1.5% by mid-day so most of the major averages are likely to be lower for the week. In last Wednesday’s session, the NYSE Composite was finally able to overcome the resistance from last July.
The other major averages have tested their major resistance levels but have not yet been able to breakout to the upside. Even though the S&P 500 is near an all time high, the market seems nervous.
As the WSJ noted in their pre-market commentary, “Traders and investors say they remain hesitant to continue boosting stocks ahead of additional earnings reports in the weeks ahead. Market watchers are expecting one of the most difficult earnings seasons in years for the first quarter.”
There’s clearly no shortage of market bears with recent comments like “According to CIA economic expert Jim Rickards, a “25-year Great Depression is about to strike America.” Others are just worried about an imminent 15-20% correction. As I discuss in the What to Watch section, the A/D line shows no signs of such a correction.
Therefore, many are wondering if the recent market strength is just a fake out or whether the market is actually ready to breakout?
As I have pointed out previously, the NYSE Advance/Decline line made another new all time high on April 6. But how reliable have signals like these been in the past?
On December 12, the NYSE A/D moved to a new high (line 1) as it surpassed the resistance from the October 2012 high. Two days later, in The Week Ahead: Stuff Those Stockings with Stocks, I recommended using any corrections to buy stocks.
The NYSE continued higher for the next six days before it turned lower. The uncertainty over the impact of the fiscal cliff pushed the NYSE down 2.5% as it dropped to its 20-day EMA. This was a classic example of buying the dip as discussed in last week’s trading lesson Four Tips for Buying the Dip. The major averages gapped higher to start 2013 and continued higher into April as the A/D line continued to make higher highs.
Another example occurred in February 2014 as the market had just undergone a 6.4% correction, which dropped the AAII bullish sentiment from 55% at the end of 2013 to a low of 28% in early February.
On February 13, the NYSE A/D line broke out to new highs (line 2) as the resistance at line d, was overcome. The NYSE was still well below its resistance, line c, and the previous high. These levels were not overcome on a closing basis until eleven days after the A/D line had broken out to the upside. The NYSE rallied almost 5% in the three months after the A/D line broke out.
These are just a few of the many examples where the NYSE A/D line has been a very good leading indicator for the stock market. Therefore, despite Friday’s drop, I expect last week’s highs in the major averages to be surpassed in the coming weeks.
One of the surprising bright spots last week was the strength of some of the large financial companies like JP MorganChase (JPM) and Goldman Sachs (GS) as both moved above the late 2014 highs. In last week’s column, I wondered whether the outlook for earnings was too negative.
The weekly chart of GS shows that the relative performance has broken its downtrend from 2013, line b. This indicates that it is finally becoming a market leader. The OBV has also broken through its resistance, line c, confirming the price action.
The weak relative performance of the DJ US Financial Index (DJUSFN) versus the S&P 500 has been holding the market back as the relative performance peaked out, line e. A break in this downtrend is needed to signal that the entire financial sector has now become a market leader.
The Euro markets have corrected from their recent highs as the Dax index has dropped over 5% from the April 10 high. This was the trigger that started Friday’s sharp decline. Concerns are building once more over the Greek debt issue as neither side seems willing to budge.
NEXT PAGE: What to Watch|pagebreak|
On the plus side, the crude oil market has been surprisingly strong as the July contract has overcome the resistance at line a, which completes its bottom formation. There were signs at the start of April—Can Crude Turn in the 2nd Quarter?—that crude oil was bottoming out. This was in contrast to the high bearish sentiment as some were recommending shorting crude oil. The major resistance level now is the 38.2% Fibonacci retracement resistance at $66.46.
The downtrend in the OBV, line c, has been broken and the weekly (not shown) is above its WMA. The daily HPI, which measures money flow, broke its downtrend at the end of March, which was the start of a strong new uptrend. The weekly HPI (not shown) has turned positive for the first time since the middle of August 2014.
The strength of the energy sector suggests that the worst of the selling in these stocks is likely over and this should be an overall positive for the stock market in the months ahead.
On the economic front, the Retail Sales finally picked up last month as they were up 0.9% after a drop of 0.5% the previous month. The rough weather’s impact on consumer spending may finally be over, but it does make the April data even more important. The long-term chart of retail sales from last week illustrates the importance of this indicator.
Last Friday’s mid-month reading on Consumer Sentiment from the University of Michigan came in at a strong 95.9. The internal numbers suggest strength in consumer activity and increased confidence in the jobs outlook. The chart shows that there was an upside breakout in late December as the resistance at line a, was overcome. This completed the continuation pattern, lines a and b.
Also on Friday, we got the monthly reading on the Leading Economic Indicators (LEI), which came in at 0.2%, reflecting moderate growth for the economy. The LEI often peaks well ahead of the start of a recession and it is one of my favorite early indicators of a bear market. It shows no signs of peaking out.
On Monday, we get the Chicago Fed Activity Index followed by Existing Home Sales on Wednesday. Then, on Thursday, we get jobless claims, the flash PMI Manufacturing Index, and New Home Sales. On Friday, we get the latest data on Durable Goods.
What to Watch
Earlier in April, it was the strength of the overseas markets that helped stabilize the US market and last week it was the selling overseas that punished stocks at the end of the week. The major averages closed with losses of over 1% as the Dow Industrials is now down for the year.
This week’s lower close will erase some of the recent positive signs from the weekly OBV studies. The daily OBV had improved over the past week, but the weekly studies are still badly lagging the price action. This is in contrast to the strong weekly and daily readings from the A/D lines.
Of course, the best signals come from when both are in agreement but that is not the case right now. As I reviewed in February’s Tell Tale Signs of a Correction, warnings of sharp corrections have come when the weekly NYSE A/D line drops below its WMA and then starts a new downtrend. This is clearly not the case now.
In last Thursday’s column, I pointed out one analyst’s negative fundamental view of Netflix, Inc. (NFLX). The point of the article was not to point a finger at any one analyst as I have had my share of wrong calls on individual stocks. It was used as an example of why I have found technical analysis to be superior to fundamental analysis.
Earlier in the week (Wall Street's Most Hated Stocks with the Best Charts) I had referred to research that demonstrated that those stocks that are least liked by fundamental Wall Street analysts have historically done much better than those they recommend.
One of the advantages of rigorous technical analysis is that it will tell you when you are wrong if you accept the signals and don’t become married to a position. For example, it would take probably 2-3 weeks or more of very weak A/D numbers right now to drop the NYSE A/D line below important support and to suggest a top was forming.
Of all the methods I follow, only the Mass Index is signaling a major trend change. To understand this fully, you should read my earlier article. The signals of a trend change from the weekly Mass Index come when the Index moves above 27 (yellow line) and then drops below the 26 level (green line).
There is no directional component with these signals, and as you can see, there have been only six signals in the Dow Industrials since 2007. The latest signal came on April 10, and it is one I am not ignoring, as I will continue to monitor this indicator.
Despite the severity of Friday’s drop, most of the ETFs that I follow have now had a weekly close below their quarterly pivots (Quarterly Pivot Table).
Based on the % of S&P 500 stocks above their 50-day WMA, the market is still in neutral territory and still shows a pattern of higher lows.
The weekly chart of the NYSE Composite shows the breakout above the resistance at line a, and the close back below it, line a. On a close above last week’s highs, the weekly starc+ band is at 11,484 with the quarterly projected pivot resistance at 11,527.
The 20-week EMA is at 10,905 with the quarterly pivot at 10,828. The monthly pivot support for April is at 10,833, so this is where the current pullback could end. There is more important support in the $10,659-19,759 area.
Once the final numbers are in for last week, the weekly NYSE Advance/Decline will likely turn lower, but should close the week well above its uptrend, line c, and the rising WMA. The weekly OBV has also turned down but is barely above its WMA. A drop below the March and January lows would be a sign of weakness with longer-term support at line d.
NEXT PAGE: Stocks|pagebreak|
The Spyder Trust (SPY) tested the key resistance, line a, on last Wednesday and Thursday but then gapped lower Friday. It may close below its 20-day EMA ay $208.35 and is not far above its daily starc- band. The daily uptrend is now just under $206, line b, with the quarterly pivot at $204.90. The monthly projected pivot support is at $204.16.
The S&P 500 A/D line made a slightly higher high on April 10 and retested this level last week before turning lower. It is still above its WMA. The next important level of support is at the twin lows from March.
The daily OBV has turned lower after recently moving back above its WMA. It is still well below its long-term downtrend, line e.
The SPDR Dow Industrials (DIA) was also hit hard Friday as it is now getting close to the quarterly pivot at $176.58. The daily starc- band is at $176.26 with the monthly pivot support at $174.57.
The resistance in the $180-181 area was tested last week as the high was $181.51. A strong close above this level would be an upside breakout with the daily starc+ band at $183.56.
The daily Dow Industrials A/D line has been able to move through its downtrend from late 2014 (line g) and its WMA is still rising. It could be tested this week if the selling continues on Monday.
The daily OBV was finally able to move through its downtrend, line h, last week and its WMA is also now rising.
The PowerShares QQQ Trust (QQQ) has lagged the other averages on the recent rally as it failed well below the March highs. It is now getting close to the quarterly pivot $104.63 which was tested early in the month. The monthly projected pivot support is at $103.50, which also corresponds to good chart support.
The key resistance is still at $109.20, line a, with the daily starc+ band now at $109.49. The quarterly projected pivot resistance is at $114.67.
The daily Nasdaq 100 A/D may drop back below its WMA with Friday’s close. It is still well above the longer-term support, line c, and the late March lows.
The OBV has dropped back below its WMA with next good support at the March lows.
The 20-day EMA at $106.73 now represents very short-term resistance.
The weekly chart of the iShares Russell 2000 (IWM) shows the spike to new highs last week and the lower close. There is first good support at $121.54 and the breakout level, line a, with the quarterly pivot at $121.39.
As was the case for the SPY, QQQ, and DIA, the IWM also triggered a low close doji sell signal on Friday. There is initial resistance now at $125.30 and then at $127.13 with the daily starc+ band at $128.37.
The weekly Russell 2000 A/D is still in a clear uptrend with support at line f. It is also well above its WMA which is still clearly rising.
The weekly OBV has turned lower but it did break through long-term resistance, line g, in March.
NEXT PAGE: Sector Focus, Commodities, and Tom's Outlook|pagebreak|
The iShares Dow Jones Transportation (IYT) turned lower last week as it just rallied back its declining 20-week EMA and its quarterly pivot at $158.47. The projected pivot support at $151.97 was tested the previous week and will need to hold on a further decline.
The weekly technical studies are declining and are negative once more as both closed below their WMAs. The daily studies are trying to bottom out but they need a sharp rally from the previous lows to bottom out.
The sector ETFs hit the skids again last week as many gave up their gains. Despite the gains in some of the big banks, the Sector Select SPDR Financial (XLF) is down 2.5% for the year. The Select Sector Industrials (XLI) is also down, while the Sector Select Technology (XLK) is up just slightly, losing over 1.3% last week.
The Sector Energy (XLE) continues to hold up well, gaining 3% for the year.
The Select Sector Consumer Staples (XLP) is now only up 1.2% for the year.
The SPDR Gold Trust (GLD) was down slightly for the week, while the Market Vectors Gold Miners (GDX) was a bit higher. No signs yet of a completed bottom from the weekly technical studies but the daily studies are slightly positive.
The Week Ahead
The market really got smacked on Friday but most of the averages did close above the day’s lows, but all the S&P sectors were lower for the day. This week should be interesting as—if the earnings continue to come in better than expected—it would surprise many who are on the sidelines.
We should get a good idea of whether this was just a pullback or the start of a more significant correction early in the week. If the market can rebound sharply by mid-week and close higher, it would be positive.
It has certainly been a choppy year for the stock market, but I think a further decline will be a good opportunity to buy some of the sector ETFs that have positive relative performance analysis. Some of the specialized ETFs like the iShares US Home Construction ETF (ITB) is up to 8% for the year.
For those who are not in the market, I continue to like a dollar cost averaging approach in a one of the broadly based Vanguard ETFs and Monday would be a good time to make your first investment.
Don't forget to read Tom's latest Trading Lesson, Four Tips for Buying the Dip.
Related Articles on MARKETS
Fed Chair Jerome Powell, former Fed Chair Janet Yellen and former Chair of the FDIC Sheila Bair, hav...
Crude oil is getting a boost on trade deal hopes as well as a week of optimism that global central b...
We called this market exhausted at our major three-star resistance at 2603-2609.50 says Bill Baruch,...