The Biggest Threat for Long-Term Bulls

12/27/2011 12:19 pm EST

Focus: STOCKS

Price Headley

Founder and Chief Analyst, BigTrends.com

With important technical levels nearby, the markets are likely to stay below resistance but comfortably within the recent range, although wild price swings continue to threaten the case for long-term bullishness.

After a rough start on Monday, it was nothing but buying last week, as Santa Claus brought his usual bullishness. Granted, volume was light, and the rally was largely due to the fact that there just weren't too many compelled sellers.

But still, the recent strength undid a great deal of the damage inflicted two and three weeks ago. As a result, the bulls are (1) back within striking distance of a legitimate breakout, and (2) further away from floors that, if moved under, would likely spark a more intense selloff.

We'll flesh out the details below, right after a closer inspection of the macroeconomic numbers.

Economic Calendar

Well, surprise surprise; the construction market isn't as bad was first assumed. Housing starts soared to an (adjusted) annual rate of 685K last month, easily topping the expected rate of 627K. Building permits issued jumped from an annual rate of 644K to 681K. 

Granted, most of the improvement stemmed from new multi-housing development, but it’s progress nonetheless. New home sales ticked upward from 310K to 315K, which isn't red hot, but again, it's progress.

Even existing homes are looking a little more marketable. The NAHB Housing Market Index pushed upward from 19 to 21, and though the National Board of Realtors still has egg on its face (thanks to years of overstated sales activity), existing homes sold at a rate of 4.42 million in November, up from October's annual rate of 4.25 million.

While real estate and construction are looking healthier, the nation's factories and productivity are not. The GDP growth rate for Q3 was revised downward from 2.0% to 1.8%. Durable orders soared 3.8% in November, but only because of cars. Taking autos out of the equation, orders were only up 0.3% last month, well off October's growth pace of 1.5%.

The average consumer isn't looking a whole lot healthier, though. Incomes grew at only 0.1% last month, versus an expected 0.2% increase. Spending also grew at a tepid 0.1% in November, short of the anticipated 0.3% increase.

The rest of the details are below. Overall, though, the health of last week's economic numbers would be given a grade of B-; or maybe a C+.

The economic calendar for this week and last week’s revisions:

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As for the coming week, we've got a lot less in store. The only items we're really interested in aside from the continued saga of new and ongoing unemployment claims—which are still inching lower—are Tuesday's consumer confidence (Conference Board), and Thursday's pending home sales.

The former is expected to move higher again, from 56 to 58, matching last week's uptick in the Michigan Sentiment Index. The latter should have grown by 0.6%, an impressive number really, given October's stunning 10.4% increase.

NEXT: See Latest Chart Action for S&P 500

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S&P 500

We're going to switch the normal order of our chart analysis this week, starting with the weekly chart of the S&P 500 (SPX) (SPY), and then a look at the daily chart.  We're doing this because the weekly chart, a “bigger picture” viewpoint, will add a needed perspective for the near-term outlook.

In a nutshell, the weekly chart has actually been progressing as we'd basically expect it to within a cyclical bull market. (Yes, we said that. We're in a bull market.) 

The August pullback was horrifying, and though faster than we normally see pullbacks unfurl, the total depth of the cut wasn't anything odd. Once the bleeding was stopped, that lower 20-week Bollinger band (blue) did its job, pushing the index back into bullish mode and letting it gain more than 17% from the early-October low. It's just been a very erratic bullish mode.

Perhaps more important, the SPX is fast approaching a known potential resistance area: the upper 20-week Bollinger band at 1301.7.

The upper Bollinger band isn't inherently a bearish pivot point. In fact, most of the time since early 2009, the upper band hasn't pushed the market lower, but has rather served as a guidepost, tracing the market's string of higher highs. 

We only point it out now to let you know there's a possibility of the market hitting that ceiling at turning tail, right at a point in time when it seemed like a breakout was underway. As was said though, the odds favor continued bigger-picture bullishness now that the S&P 500 has fought its way back above all of the key moving average lines.

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We can also see on the weekly chart just how far and how fast the CBOE Volatility Index (VIX) (VXX) (VXZ) has fallen over the last few weeks. This is another bearish red flag in that the move was not only excessive, but also pulled the Volatility Index down to its lower Bollinger band (which is usually where the downtrends have stopped).

Ideally (for the bulls), the VIX's lower band line won't actually act as a springboard for a bounce, but rather, start to act as a guidepost and gently let the VIX drift lower, mirroring the S&P 500’s gentle brush with its upper Bollinger band. There's a lot of tension with the VIX right now though, so let's tread lightly.

With the daily chart of the SPX, we can see the index has made its way back above the 200-day moving average line (green). It's not cleared the key resistance level of 1268 though (red, dashed), which has been a major ceiling since early November.

As nice as it normally would be that the SPX has hurdled the 200-day average line, at this point, it's not rally that big of a deal in the grand scheme of things. Aside from being overextended already, the 1268 level is the bigger deal, and beyond that the upper 20-day Bollinger band (brown) at 1278 and falling is an even more telling make-or-break line.

The market is on the right track, but it could take some time and a few swings to really make our way above this collection of technical ceilings. In the meantime, the key to long-term bullishness will be for the S&P 500 at the very least to keeping finding support at the 20-day and 50-day averages at 1234.

Anything in between 1234 and 1270 is limbo land.

NEXT: Telling Signals on SPX Daily Chart

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It's also on the daily chart we see a slightly more bullish angle with the VIX; it's crossed under its 200-day moving average line at 25.74. Though it still runs the risk of pushing up and off its lower 20-day Bollinger band, this is a great sign of overall net progress in terms of investor confidence/comfort. 

We'll just be curious to see where the VIX hits a ceiling again the next time it's really tested. That 25.74 line really needs to be a resistance area for the bulls to have complete hope. We'll have to cross that bridge when we come to it, though.

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Bottom Line

Though in a bullish mode, the market's biggest risk to further bullishness (or even bearishness) is the erratic swings it's been making.

Were we not in a mental "all-or-nothing" mode and could make better-paced moves, trend spotting would be much easier. As it stands right now, though, violent swings in both directions are making it tough to trust stocks. 

Last week's 3.7% pop is a prime example. The potential profit taking is already in place, and with a couple of key technical ceilings dead ahead, it's going to be very tough for the SPX to get past the 1270 area. It just needs a better-paced upward move if any rally is going to be sustained.

By Price Headley of BigTrends.com

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