Stocks And Yields Walk Down A Familiar Path In October

The 10 year is already 25% off of the August lows as yields closed out the week at 2.23%. The stock market has calmed and has acted relatively complacent since the shortened holiday trading week earlier this month. Stocks have shaken off poor earnings from market leaders such as Alcoa, J.P. Morgan, IBM, and Apple. The market is being lead by energy plays like Chevron, Exxon, and Conoco Phillips, up 18%, 16%, and 20% respectively from the September lows. Energy makes up a large portion of the SPX, and CVX and XOM are also two large components of the Dow Jones Industrial Average. It appears that many of the underlying issues with global markets are being ignored so long as the indices can post a gain. Volume on the SPY has been almost pathetic since Columbus Day which can be telling us that the market is up on hot air. On an intraday basis, most of the volume of late has come in the 3pm timeframe and it is clear that institutions have been buying the market late in the day in order to force positive closes above key resistance areas. This is not an uncommon occurrence, however the frequency of these actions have increased exponentially over the last three weeks.

Despite this, the uptrend is monumental and must be respected. There were many investors who bet against the market in the middle of 2009 and in fall 2010 for the same reasons I have listed only to have their portfolio evaporate at the hands of low volume bear market rally which was fueled by the Fed’s POMO.

The 10 year is forming a similar pattern as it did last year leading into November. In 2010, the TNX formed an inverse head and shoulders beginning in August, which ultimately played out after the Fed began QE 2. Currently, one could make a case that there is once again an inverse head and shoulders pattern on the TNX (albeit a very sloppy one) leading into November when the Fed makes its next policy decision. At the very least it has made higher lows, and as stated previously, it is already 25% off of the 52 week low.

Ultimately, there are two reasons as to why this may be happening. The market is either expecting more intervention by the Fed, or the market is being led higher which would be a setup for a selloff following any disappointment from the FOMC. The scenarios seem simple, but the market is just floating right now and barring any type of sharp reversal in the next couple of weeks, the market does not seem like it wants to budge from its current course just yet.

There are a few mixed signals regarding market breadth, commodities, and currencies. As far as market breadth goes, the Nasdaq 100 lagged the market this week, closing negatively for a loss of 1.42%. Meanwhile the S&P 500 finished positively gaining 1.12%, and the DJIA also finished positive with a gain of 1.41%. This is an unhealthy signal for the market. In a true bull market, the Nasdaq 100 should be keeping pace (and often should be leading) with the market. The DOW is composed of dividend yielding, safety plays such as WMT, MCD, CVX, and KFT. When the DOW is leading a rally in a bear market, it is a sign that investors are not comfortable putting their money into riskier stocks. Obviously AAPL’s miss had an effect on the Composite, however, GOOG, INTC, YHOO, and MSFT all posted better than expected numbers which gave the NDX an opportunity to drive higher. Small caps are also an important indicator to watch, the Russell 2000 finished flat this week, losing just .04 points, but still well behind the DOW and S&P. Again, if investors do not feel confident enough to take on more risk-heavy plays like small caps, then it tells us that there is still an air of caution in the market, despite the solid gains made in the past 3 weeks.

One thing that is worth mentioning about the chart of the NDX is that there is the potential for a massive W-V reversal should the market pull back – maybe to the 2225-2250 area. This will have to be monitored as it lines up with the idea that the market is leading into Fed intervention for a potential move higher.

On Friday the SPX was pushed higher in the last 10 minutes of trading in order to force a close above 1230.71, which was the previous higher of the recent trading range. However, this is not a breakout. a breakout comes after confirmation, which would be a close tomorrow above Friday’s high of 1239.03. Notice how in the beginning of the month, we closed below the August low of 1101.54, but the next day the pivot low was made and so began the current rally. Confirmation completes a breakout and therefore saves a trader from making a decision that can turn out to be a costly mistake.

In any case, should the SPX confirm above 1230, it has short term resistance at 1249 and then following that it has two master levels. One is 1260, the flatline of the year, which is needless to say, an extremely important level. The final area of short term resistance is the 200 MA. Confirmation above this area could signal a structural change in the market, though I personally do not expect that to play out.

Another slightly conflicting signal is the Euro. It is not conflicting in the sense that it has made a higher low, and looks identical to the yields chart. It also has an inverse head and shoulders pattern on the daily chart that has a target of 147.75. That exchange rate would be close to the YTD high, and though the pattern is somewhat sloppy, it has to be on the table as a possible scenario.

The conflicting signal I’m referring to is that the Euro broke a major trendline over the summer and will have a mountain of a task in getting back above the triple necktie of moving averages on the weekly chart. Also, the longer term view of this chart shows that the Euro may beginning to form a head and shoulders reversal starting in June 2010. If the Euro inches higher, but hypothetically, cannot get through the weekly MA’s, a right shoulder would be in play with a neckline around 132.50.

Oil like stocks, bond yields, and the Euro has recently made a higher low which indicates short term bullish momentum. However, there is a topside trendline that was closed above this week but without confirmation. In fact, the weekly chart of oil shows a doji candle which is more of a neutral signal, and not a candle to base a breakout on. Oil has support between the 50 and 20 MA on the daily chart and a pullback may allow it to build enough momentum to break through this trendline. If oil can get above $90/barrel it should coincide with a breakout above 1230 on the SPX and the next stop will be around $95.

Copper has also made a higher low but the bounce has been only half of what other major asset classes have had. Since the most recent low earlier this month, the SPX is up 14%, oil is up 15%, the 10 year yield is up 25%, and the NDX is up 13%. Meanwhile, copper is only up 8% off of the October lows. Another key difference between now and 1 year ago when the market was leading into QE 2 is that this year copper not only broke through a major 3 year trendline in August, but copper is also near it’s 52 week lows, while this time last year it was in the process of making new 52 week highs.

The weakness in the metal is probably the best indicator that this rally has been full of hot air. Copper leads the market and is still down over 30% from its YTD high, while the SPX is down only a mere 10% from its peak in early May of 1370. The only technical upside that copper has is that after many attempts it has still failed to confirm below the 200 MA on the weekly chart. Should copper stay in this area for the next 2-3 weeks and fail to break through, it will likely catch a bid and back test $3.70-$3.75 which should coincide with a higher equity market. If however, copper confirms below the 200, it will be headed for $2.70 and the equity markets will fall with it for another test of the 52 week lows.

Overall, the next 2-4 weeks should decide where the markets are headed over the next 4-6 months. Any large intervention program would probably make for a similar scenario as the one that we had last year, though I still do not expect the market to make new highs again. Conversely, any disappointment will take the air out of this rally and the October lows will be retested again. Therefore I think that regardless of the FOMC’s policy statement, we will be headed lower over the next 12 months. The market can rally on weak volume so long as Europe stays quiet. However, Greek bond yields reached another high this week of 188% and Merkel and Sarkozy believe that they have come to an agreement to bail out the banks with 100 billion Euros. The plan is pathetic, 100 billion Euros is enough to bail out community banks, not institutions with trillions in CDS exposure like Deutsche Bank, and Credit Suisse and in addition, the longer that they take to complete the EFSF, the more the market will price it’s ratification. Be sure to have a large cash base and keep positions small as news is going to be the driver of the market for the next couple of weeks.

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Markets Still In Weak Technical Position After Mid Week Rally

The stock market still closed out the week in a weak technical position despite the reversal Monday afternoon. Most stocks are below all major moving averages and are in confirmed downtrends. Financials are leading the market lower and any bounce into key resistance can be safely played from the short side.

Volatile Options Friday, Possible Downside Targets For The S&P

Yesterday’s trading was volatile which is business as usual on the day of options expiration. The dollar index and the S&P had large intraday swings and the closing prices yesterday tell us a lot about the near term direction of the market. As you know, I am bearish on equities and have put together a few ways to play this as well as found a few downside targets that we may see the S&P hit over the next 1-3 months.

The dollar had a strong open and continued to rally in the morning session. Dollar index call options were up substantially as Jun and Sept 11 calls were trading 20-50% higher while the UUP had reached a highpoint on the day of $21.69. However, during the afternoon session the dollar collapsed and the market attempted to break positive for several hours. This trend broke down as soon as the dollar failed to make a new low and in addition it appears that at 3pm, there was a margin call on the SPY which propelled the dollar back near the highs of the day as it ended 0.7% higher.

During the dip, I purchased options for the Jun 11 $22 expiry. The premium’s are still only going for $.12 – $.14 due to the low implied volatility rating. If however UUP reaches $22 before June, this trade will become extremely profitable as the premiums for the first strike that is currently the money is going for nearly $.70, or a 500% increase. Due to the resiliency of the dollar on Friday and the current momentum that it already has had over the past 2 weeks, I think that it is likely that the next target for UUP would be the 100 MA which is currently right above $22. The last time the dollar rallied (December 2010) it rallied just above the 100 MA in almost exactly 1 month. This time, the dollar has rallied to the 50 MA in 2 weeks, so it has 2 more weeks to make a run at the 100 MA if it is to follow that similar pattern.

Looking at the dollar from a bit longer term point of view, the last big reversal in the dollar came after QE 1 ended and the market dropped on European debt concerns. Currently QE 2 is scheduled to end in one month and the problems in Europe are making headlines yet again. Last summer, UUP rallied 15% from $22.02 to $25.84. If it is to rally another 15% in the coming months, the upside target would be in the $24 range.

Some interesting data about the S&P to Dollar Index ratio – there are four major highs and lows in this ratio in the last 10 years.

March 2000 – SPX – 1,498.58 / USDX – 105.71 = 14.17

Oct 2007 – SPX – 1549.38 / USDX – 75.82 = 20.43

Feb 2009 SPX – 683.38 / USDX – 88.49 = 7.72

Mar 2011 SPX – 1370.58 / USDX – 72.64 = 18.85

The average ratio is 15.2925 and the most recent peak which was recorded just two weeks ago is 18.85. The ratio as of the close yesterday is 17.63 meaning that the ratio must fall an additional 14% to reach the mean of 15.2925.

The S&P fell 18% from its peak last year and bottomed out in early July at 1010. Assuming it loses the same percentage once again, the downside target this time would be 1124. There is support in that area from 2010 though the market will likely have to test 1226 once again before it can fall as far as 1124. These targets are hypothetical and not something that I would recommend using as a strict trading strategy, but I think that they serve as a good general model to go by as the same situations and headwinds are presenting themselves right now and at the same time of year as it was in 2010.

One way to play a correction in the S&P would be to short the S&P 500 SPDR (SPY). Using the above price targets, you could make up to 15% in just a few months. You could also buy UUP which acts inverse to the market. However, another way to gain leverage and make even more without shorting would be to buy the ProShares UltraShort S&P 500 (SDS). During the same time period that the S&P lost 15%, SDS gained 13% more for a total return of 28%. If you don’t have a margin account or you don’t like borrow, this can be a useful way to short the market and gain additional leverage without paying interest. If you don’t have the risk tolerance to use the leveraged bets, you could also buy the ProShares Short S&P 500 (SH) which is short the S&P but does not take on the additional leverage that SDS does. SH is safer, but won’t return quite as much.

Silver Snaps January Trendline, Tests 50 MA, MCP Reverses

As we move later into the afternoon session, SLV is currently trading around the $38.40 mark and has found support a few hours ago at the 50 Day MA though it has broken the trendline going back to January. Yesterday, I said it wasn’t officially a “correction” until this happened so as of now I am a believer that the trend is no longer intact, as opposed to my stance regarding the past three days of selling which despite the volatility, only represented a pullback. Due to the nature of the hyperbolic run silver has had, you can see why I would be skeptical of any losing days as silver had previously shrugged off big days to the downside with high volume. After tapping the 50 MA, expect silver to bounce tomorrow and possibly trade flat to positive on friday, but don’t count on a real rally until there is confirmation of a reversal.

Volume on SLV today is likely to once again match or eclipse yesterday’s record volume.

Notice how gold has not confirmed silver’s move… that is because silver is decoupled from the market.

The dollar has had a lift but there is resistance on UUP at $20.96, right in the area of this morning’s gap. The dollar has been flat to positive this week as I suggested it may be, in addition the S&P has been negative and has followed the suggested path I pointed out on Monday. Expect the S&P to find support at $1340 – right where the 20 MA is currently resting. A bounce off of that level would set up the rising wedge for an intermediate top of $1400.

Yesterday looked like a possible breakout for MCP (would have fooled me) but today we have what looks like a bearish engulfing reversal on volume that will likely match yesterday’s by the ending of the trading session today. If MCP closes below the 20 MA by the end of the week, the downside could be $55-$65 in which I would most definitely label it as a strong buy once again. As of right now, I’d hold common shares but stay away from options and wait for confirmation of its next move before trading this.

VIX Up 8% As Markets Reverse

The SPX lost $2 and some change after opening higher, likely due to a minor rally after the news that Osama Bin Laden had been killed. Perhaps 5 or more years ago this would have provided the market with more relief but with terror not in the headlines, most Americans digested this news without a second thought. It is fascinating how the nationalism that this country had post 9/11 has all but disappeared.

Most of the selling action took place around 3pm when major indices and commodities tumbled sharply and limped into the closing bell. The UUP engulfed friday’s candle and a very short term rally may be ahead. Regarding last week’s post, I don’t think that the dollar is ready to make a long term reversal quite yet, and as I have stated before, I expect the S&P to reach 1400 and gold to reach $1600 before that happens.

There is the potential for a rising wedge in the S&P. If the markets come down this week, that would make sense for the dollar to rally off of the lows but if this is in fact a wedge, then the dollar rally will be short lived and will have to wait until the S&P tests stronger resistance before it can make a true bottom.

Silver went down after the CME margin hike this morning and once again with the rest of the market as everything sold off heavily during the last hour. It was down over 8% on the day, but maintain its uptrend. I think it is likely to get another pop after testing the 20 MA today, but I cannot speculate further down the road as the price has been far too unpredictable as of late. I still believe that I have the fundamentals correct in the sense that it must correct for while, but that doesn’t always mean that it will.

Stocks & Currencies Pause, Commodities Continue Rally

Over the last few weeks I’ve been discussing the possibility of several significant reversals between correlations in the currency, stock, and commodities markets. I still see stocks perhaps peaking or at the very least, losing momentum until QE II runs out, the dollar index reversing on the Euro, and more strength in commodities as PIIGS nations are in need of more assistance from the ECB and as middle eastern nations revolt causing oil prices to spike.

First of, the S&P SPDR has stalled out on the unrest in Libya which has forced a lot of money out of stocks and into other assets.

We’re starting to see the divergence in the MACD and RSI as the volume increases substantially. The VIX recently increased 37% in under 3 weeks, which has not been done since June. The 50 Day MA remains intact but the market isn’t showing any buy signals yet.

The top in stocks is not at all coincidental with the price action in the currency and commodities markets. FXE is at the top of a wedge that could play out to be a 5 point reversal pattern. Note the RSI and MACD divergences as well as the decrease in volume as the price continued to run higher. Today’s activity formed a bearishly engulfed the previous candle. The previous candle also happened to be a doji, which is often the signal of a pivot point. The market still likes the euro, but it won’t be long before the PIIGS are making headlines and the strength in oil puts pressure on the American consumer which is bullish for the dollar.

Trading inverse to the euro, the dollar bullishly engulfed friday’s candle and is showing divergences on the RSI and MACD. I still think UUP is favorable below $22 and the options market has good bets if you know where to find the high volume calls.

I’ve previously stated that gold will return to the spotlight when equities peak. With strong support at $1380-$1400 and the 20, 26, and 50 Day MA’s trending higher, I see gold’s performance as a leading indicator to what lies ahead for the global markets. Gold will continue to look attractive here as uncertainty builds in the equity markets and as the Fed continues to hint at QE III.

Another commodity that has been a leading indicator of inflation is silver. Following a brief, but steep correction, it has again today made a new 31 year high and is one of the loosest cannons out of any asset. Based the volume increase, the RSI divergence, and the close above the upper bollinger band line, I’ve come to the conclusion that we’ll likely have a reversal tomorrow. It appears that the most likely scenario for tomorrow is a key reversal or a bearish engulfing candlestick. I think that this will initiate a pullback to the 20 Day MA which will be followed by continued strength in this market. In any case, I don’t see it going much lower than $33, and I’d also be a buyer as soon as it shows me a bottom.

Silver, Gold, S&P 500, Euro

Silver made yet again another post hunt brothers high as it closed at $35.50 up nearly 4% from yesterday. SLV followed, also having gains of almost 4% and closed at $34.69 – a fresh all time high – with volume above 38 million. I’ve said over the last week or two that we have been overextended and that I expect a pullback before moving higher. Needless to say the price has not slowed down at all and continues to advance at least for the time being.

The trendline that we talked about last time is still intact and the likely support level for a pullback is moving higher and higher. I said on Tuesday that $32 would be the lowest silver touches in the next couple of weeks, but I am revising that to at least $33-$34 based on the movement of the 20 Day MA.

SLV’s trendline is actually steeper than silver’s and appears to have added a permanent increase in daily volume. Spotting the top in this ETF can be acheived by watching the closing price when it is above the upper bollinger band line. This simple technique has been correct 4 out of 4 times in the last 3 months alone.

Last week I predicted a reversal on Tuesday – I am predicting the same thing for next week. I think that silver and/or SLV will gap higher and close above the upper bollinger band line on Monday, perhaps testing $36 intraday, then will gap higher again on Tuesday and close lower than Monday’s open which would initiate a pullback.

Gold finished with a piercing line candle after testing $1410 to the downside during yesterday’s and today’s trading sessions. A piercing line is a bullish reversal and I believe that should signal a bullish beginning to trading next week. Other than that, nothing new has taken place in gold so far and the trendline remains intact for now. Typically when silver reverses, gold will go with it so my sentiment here is the same as silver.

Last Tuesday I showed you the bearish engulfing candlestick on the S&P index. I am not surprised that this trend has not broken yet despite the reversal as this chart is one of the strongest in the global markets. However, it does appear to be close to support and any bad news that comes out while it’s being tested can break the trend in this bear market rally.

I’ve been discussing the potential head and shoulders pattern in the euro for a month or two now, but that chart pattern has not played out mainly due to speculation that the ECB will hike interest rates by 25 bp. I think 25 bp is a relatively small hike but the sentiment is enough to make the market flood into the euro. However, I think that the euro will fall anyway as bailouts will supercede reserve hikes. There is also a rising wedge pattern that if it’s plays out, will reverse sharply and break through $138, starting a correction. Despite this, I’m not as sold on the chart as I am the fundamentals and I’m certain that it will take headline news to initiate a reversal here.