BullBear Trading: Stock and Financial Market Technical Analysis

 

Here's my recent analysis originally published for BullBear Traders members on 1/15/11 and updated through 1/26/11:

 



SUMMARY

Thusfar markets have proceeded pretty much as my analysis had anticipated.  US equities are now fairly well confirmed to be in a major Wave 3 advance.  Increasingly, signals are indicating that the 10 year long lateral bear market is over.  The primary fundamental is the secular reallocation of capital from safety of bonds (and the risk of the public sector) to equities.  Other safe haven assets, such as gold and the Japanese Yen, appear ready to go into bear markets.  Notwithstanding the "sentiment surveys", market psychology is only just now turning somewhat bullish as the majority of participants gradually wake up to the unfolding bull market.  The public remains entirely on the sidelines waiting for "the crash".  The current wave could see a bit of an acceleration next week as earnings results confirm that corporations are doing well, providing investors with the excuse needed to take the plunge into stocks.  While we cannot entirely discount the bearish scenario, it is becoming stretched to nearly the breaking point.  As BullBears, we'll need to keep one eye on the mouth of the cave to see if he is stirring in his lair, but chances are pretty good the bear is in hibernation and will be for some time.

The US Dollar and the Euro continue an ongoing  epic battle royale.  I'm not betting on either at this time, but I am leaning in the direction the world reserve currency.  In addition to a good technical and contrarian case, the dollar will also be in big demand as the economic build out of 2/3 of the planet proceeds over the next decade.

Commodities look set for a C wave correction as the dollar strengthens.  I am not anticipating a bear market in commodities, but it is possible that as a group the best days are in the rear view mirror.  Individually, there is quite a range of possibilities.  Select commodities may continue in bull mode in all time frames while others go into bear mode.

Safe haven markets appear to be entering bear markets.  This includes bonds, precious metals and precious metals stocks.  The bond bear market is well along but the gold bear market is as yet unconfirmed.  There is yet hope for the gold bull, but it's fading.  There are many reasons to think that a major top is in place for gold.  I'll be detailing that in a forthcoming special report.  In the meantime I am short from 1368.

 

S&P 500

SPX is our benchmark for US and world equity direction.  It's our weathervane.  And right now it is telling us that springtime has come for stocks.  I am long multiple SPX buys off the September bottom with the last coming this week at SPX 1268.

Here's the preferred wave count:

This puts it in an ultra bullish iii of iii of (3) mode.  Note the long term bull cross of the 50 EMA over the 200 EMA.  It's a major technical event that has been entirely ignored.  Such a cross often acts as a flash point, particularly in the context of such a very bullish setup.  Even so, many pundits continue to try to call intermediate and long term tops here.

Here's a shorter term view:

Several Fibonacci projections cluster in the 1340 area.  That may be a level we can look at for a short to intermediate term top.  It may be potentially a place to take some profits or just buy the dip to add to the position.  In either case it should be a resistance zone.

Another short term view has a short term top potentially in place.

A close below 1280 might mean a correction is underway.

A much longer term view shows a potential roadmap going forward.

There is an intense cluster of Fibonacci targets in the 1315-1350 area which also corresponds with the August 2008 high and lateral price resistance from 2007, making this a likely short to intermediate term topping area.  The full wave 3 has targets at the 2007 highs.

The bearish scenario is still somewhat plausible.  Let's have a look.

The 78.6% Fibonacci retracement of the fall from the 2007 top could make a good C wave high to complete the ABC corrective Wave 2.  I'm not leaning that way because too many other factors argue for the bull scenario.  

 

Analysis

Other indices have eclipsed their 2007 highs and more are close to doing so.

Nasdaq 100 has obliterated its 2007 high and has not looked back.

 

Midcaps closed this week above the 2007 high.

 

Small caps are not far behind.

 

The Nasdaq Composite is just a few days away.

 

Consumer goods and transports are knocking on the door.

 

Big cap corporate equities worldwide experienced breakouts from reverse head and shoulders patterns.  Here's the World Leaders Index:

The big cap European stocks of EuroStoxx 50 Index are showing the same very bullish pattern breakout:

Big moves are pending in both those indices.  These are not markets that are topping but rather breaking out.

During Wave 3, investors reallocate into the new bull market away from old bull trends.  In this case there is a massive, secular shift from bonds to equities underway.  I spotted this some time ago using a variety of SPX to Bond ratio charts.  Here's the long term monthly to US 30 Year Treasury ratio:

After a 3 wave ABC corrective, it is showing clear signs of entering an impulsive 3rd wave up.  This is probably the most important chart in the financial world right now (I've been saying that for a long time now) and yet it is still almost completely off the map.  Bill Gross, the Bond King, announced some 9 months ago that PIMCO was getting out of bonds and opening up equity funds, stating plainly that bonds had topped.  Even so, until very recently very few have taken heed.

BullBear Trader Phillipe writes:

Hi Steven,

I've been keeping an eye on the SPY:TLT ratio since you brought it up as a measure of the risk appetite. Right now I'm seeing a divergence in this ratio with the MACD making lower highs while the ratio is making higher highs since mid-November. Could this be a warning of an impending correction in the markets despite the wave 3?

I hope you will be touching on this during the weekend update. Thanks for all your hard work.

Philippe

 Here's a chart to illustrate Phillipe's point:

Clearly there's the possibility of a pullback in this ratio.  The divergence may be a signal.  But does it mean that stocks could sell off or that bonds are due for a bounce?  Phillipe is looking for a possible pullback in a Wave 3 environment.  As I have been saying since September, pullbacks in this context are buying opportunities.  Most of the investing public is only just now waking up to the opportunity in stocks and the risk in bonds.  It is going to take some time for that process to unfold.  Unless there is a clear fifth wave top and unless such a signal is confirmed by multiple similar divergences in other indicators, we can't really give it much weight.  Divergences can persist for some time during bull runs and don't mean much.  They can, however, be a "Wall of Worry" item for technical traders.  It's important to stay focused on the big picture and the big trend and not look for reasons to get nervous or worried.  This is still a relatively young bull market.  In the bigger scheme of things, it's even possible we are now only in 1 of a larger scale 5.

A lot of attention has been given to such divergences of late. Bears are clinging to their view largely based on such technicals.  First, it's important to reiterate that it is quite common for indicators to show divergences or overbought conditions for protracted periods of time during a Wave 3.  In addition, much of the data involved is drawn from all issues traded on the NYSE.  A very large percentage of those issues are non-equity, fixed income bond funds.  Since bonds have been getting killed lately, indicators based on this data have been significantly skewed creating apparent divergences.  When we look at commonly used indicators calculated from NYSE Common Stock Only (CSO) data the picture can be quite different.  Let's look at the 200 EMA of Advances-Declines:

 

The lower charts, using CSO data, shows the indicator making higher highs with the index.  The upper chart, using all NYSE data, is showing divergences.  While it is true that there is still a divergence on the CSO chart from the April high, this indicator can be viewed more as an overbought/oversold indicator, which means that it is not yet as overbought as it was in April and there is still potential upside.

A look of the Wilshire 5000 Total Market Index to Dow 30 Industrials ratio chart is also shows broad market participation.

There's nothing here that confirms the potential weak breadth that certain NYSE based indicators are showing.  Note that divergences in the ratio have been present at major market turing points during the bear market.  In fact significant resistance is being penetrated and there appears to be a reverse head and shoulders formation in the chart.  The SPX to Dow ratio chart is also breaking out very bullishly:

In further support of the theme of a secular shift to Risk from Safety that I began to write about over a year ago, here's an SPX to Gold ratio chart:

Since March of 2009, stocks have outperformed gold and the ratio has recently broken out of a bottoming formation.  As long as the driving fundamental is inflation (vs. deflation) then both should rise together and gold should outperform.  This chart seems to be saying that the true underlying fundamental is a drive towards risk investment and growth.  While monetary inflation, risk, and growth can certainly coincide, they may not.  Inflationists tend to focus only on the supply side--large scale "money printing" by Central Banks--and ignore the demand side.  If, indeed, the world is entering a lengthy period of exceptional economic expansion as 2/3 of the planet is built out, then demand for the world reserve currency in the conduct of international trade and investment may outstrip supply, sending the US Dollar into a bull market.

The chart of the USD Index is showing an intense oscillation in the area above and below key long term support/resistance at the 80 level:

I've charted a very long term head and shoulders top formation (red) and a long term reverse head and shoulders bottom (blue) formation.  There's also a triangle (blue) of converging lower highs and higher lows.  This market is showing an intensifying oscillation above and below long term support/resistance at the 80 level.  Eventually it will break decisively in one direction or the other.  A look at a shorter term chart indicates that this may come sooner rather than later.

The wider oscillation has narrowed since November to a band above 79 and 81 in the direct vicinity of its 20, 50 and 200 day EMAs.  It is also the direct vicinity of its weekly and monthly moving averages as well.  This kind of "moving average convention" on all time scales is forecasting a major move soon.  Recent action would tend to suggest a downward break since price is not below all the moving averages and at the lower end of the consolidation range.

The fate of the Dollar Index should bear heavily upon the future of commodities and gold.  CCI Commodities Index appears to have completed a five wave move and may be in the middle of a correction.

The recent move up may have been a b wave with c to follow soon.  The RSI divergences tend to support this.  If USD does break out, dollar sensitive trades should correct.  Equities will probably largely ignore it.

 




01/19/11 UPDATE:

 

So we have some selling today and it could be the beginning of some kind of correction.  A close below 1284 would put me on correction alert.

The first scenario is that SPX has completed a wave i of iii top.  1264 or 1248 are good targets for the wave ii bottom.

 

The second possibility is a completed top off the July 2010 bottom.  This would be the most bearish of the prospective corrective scenarios.  I would guess we will see a slew of long term top calls off of today's corrective action.  If this is a complete 5 wave pattern from July a good target would be a retest of the April high near 1220.

 

A third possibility is that a very minor wave iii top is in place.   The last correction was a zigzag so this would likely be a shallow flat.

 

We are also seeing some significant weakness in the dollar across the board and a potentially key breakout in Euro.  DollarYen is now out of our range and we need to close that trade and wait for another opportunity.  Commodities are also weak and selling.  Gold is hovering above support but if it fails a big selloff should ensue.  Short gold, if 1259 does fail, may be the best fresh trade setup out there right now.  If it gets back above 1387-1392 then the correction/bear market has aborted and shorts need to be closed out.

 


 

01/24/10 UPDATE:

 

SPX appears to be in corrective mode and currently in a B wave up.  Here's the futures chart (note that there is an approximately 4 point difference between cash and futures market):

 

B could eclipse the recent high of fall a little short.  In either case a C wave down is very likely.  Although it will likely be a minor correction, it should bring out the top pickers and the crash callers and help to reduce a bit of the bullish sentiment in the market.  It would probably be a big buying opportunity since it would set the basis for a iii of 3 of (3) wave up.  Bulls would not want to see that second blue uptrend violated, however.  At that point we would have to get a little cautious and reevaluate the situation.

The Nasdaq 100 to Dow ratio is confirming the corrective condition of the market.

When NDX surrenders its leadership position in a bull phase, it generally indicates a corrective mode is in place.

It could take another 10 days to two weeks for the C wave to bottom out.  Traders should marshal their capital for what may be one of the very rare long entry points this year.  And I will say we will be lucky to get this C wave down; it may not even happen.  While many analysts and traders are still worrying about a crash or bear market, the real worry is whether the market will give any decent entry points at all.

If you are in, don't try to get fancy and trade in and out.  You will lose your position and regret it.  If you have yet to establish your position, the coming (hopefully) C wave down will be your best bet to get a decent entry.

Good luck and good trading!

 



 

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Comment by Stefano Zalonis on January 29, 2011 at 4:41am

Hello Steven,

& Thank you for the detailed outlook !

Meanwhile let us all have a pleasant weekend ... 

Stef.

 

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