StockCharts Blogs - ChartWatchers

McClellan Oscillators Remain Bullish

The McClellan Oscillators moved from bearish to bullish with the July surge in stocks. Basically, the McClellan Oscillator is the 19-day EMA of Net Advances less the 39-day EMA of Net Advances (advances less declines). As the difference of two moving averages, this indicator oscillates above/below the zero line like MACD. Based on recent observations, a thrust above 50 is viewed as bullish for the stock market, while a thrust below -50 is viewed as bearish. Even though this breadth indicator is not perfect, it's level can help determine overall market direction and underlying strength.

Click this chart to see more details.

Click this chart to see more details.

The Nasdaq and NYSE McClellan Oscillators both turned bearish in mid June with thrusts below -50. Both stayed in bear mode until mid July. The NYSE McClellan Oscillator was the first to turn bullish with a thrust above 50 on 15-July. Also notice that the NY Composite broke above 6000 on 15-July. The Nasdaq followed suit a week later with a move above 50 on 23-July. Even though both oscillators slipped back this week, they remain comfortably in positive territory and bullish overall. Click here to read more on the McClellan Oscillator and Summation Index.

DOLLAR SELLS OFF AS EURO HOLDS SUPPORT

It looks like you can throw out most of what I wrote last Friday. I was expecting a deeper market correction after most market indexes broke short-term head and shoulder "necklines" (and daily EMA lines turned negative). I also wrote about the possible threat from a rally in the CBOE Volatility (VIX) Index. It turns out I was wrong on both counts.  Stocks rallied strongly and the VIX touched a new low.

Although some readers have asked if the current rally could be just another "right shoulder", I'm somewhat doubtful. A retest of the June high at 956 looks more likely. The fact that the technology-dominated Nasdaq market has already exceeded that high is also influencing a rising market. That doesn't rule out the possibility for a market correction later in the summer or the autumn. This week's upturn, however, has postponed that possibility for the time being.

I also wrote that a dollar rally would most likely coincide with a stock pullback. The reverse happened. The dollar dropped as most foreign currencies rose (except for the yen). Chart 1 shows the Euro bouncing off chart support near 137.5 and its 50-day moving average. The Euro has the biggest influence on the dollar. The Euro has also had a positive correlation to stocks since March. The week's bounce kept its March uptrend intact which helped stocks as well. The Japanese yen (which rallied the previous week on safe haven buying) pulled back this week as stocks bounced. Chart 2 shows the XJY retesting its neckline near 106. A close back below that support line would be positive for stocks.

Chart 1

Chart 2

BREAKDOWN BECOMES BEAR TRAP

Last week I presented an alternate scenario to the head and shoulders breakdown and projected decline:

"While the bearish case seems strongest at this point, a bullish outcome is not impossible. Bullish forces have weakened, but it is not at all clear that the bear market has resumed. A more positive analysis of the situation could be that there has been a two-month rally from the March lows, followed by a two-month correction/consolidation. The neckline violation could be the end of the correction and a bear trap. I present this outcome because I have seen it happen before, and it is not yet out of reach; however, I don't think it is likely."

Well, I didn't think it was likely, but that is what happened. I don't feel too bad about that because our Thrust/Trend Model is still on a medium-term buy signal, proving once again that the timing model is smarter than I am. But being wrong can also impart useful information. Since the bearish formation ultimately resolved in a bullish direction, we can assume that bullish forces are in command, and that the rally will continue.

So now, with the head and shoulders pattern having evaporated, we need to attempt to apply another context to the price pattern. The most obvious at this point is that the decline from the June top was a correction/consolidation for the advance off the March lows. I have drawn lines to define the top and bottom of the declining trend channel, which looks a lot like a flag formation hung on a lazy flag pole. There has been a strong breakout above the top of the channel.

 

The concern at this point, "Is the breakout really just a blowoff?" The June top has not yet been exceeded, volume on the breakout was unimpressive, and short-term indicators are very overbought. Below is a chart of the CVI (Climactic Volume Indicator) and STVO (Short-Term Volume Oscillator). Both have reached climactic levels, but as usual we are left to decide if it is an initiation climax or an exhaustion climax (blowoff). My opinion is that it is an initiation climax, because it has occurred after a price consolidation, rather than at the top of an advance. Also, most medium-term indicators are not overbought.

Using flag pole as a measuring stick, I estimate a possible upside price target of 1200. Assuming that price is in the ball park, our long-term model, which is still bearish, will be switching to bullish very soon. Until then, I will still assume that the long-term is bearish, but I thought it worthwhile to point out that we are nearing a tipping point.

Bottom Line: The violation of the head and shoulders neckline has proven to be a bear trap, and my opinion is that the rally from the March lows is resuming. My upside price target is about 1200 on the S&P 500. I have to say that this doesn't make any sense considering what I think I know about the economy, which is why I try to ignore fundamentals in favor of the charts.

Riding Out the Summer Doldrums

As the summer doldrums set in, we've seen quite a bit of back and forth in the various capital markets, with prices not moving far from where they were just 2-months prior. However, last week was important for the Gold Miners (GDX) we believe, for a very simple, yet elegant weekly "key reversal" higher has formed. Moreover, this pattern occurred from the 60-week moving average, which in the past has provided reasonable resistance and support. However, the 14-week stochastic has yet to turn up in confirmation; but we would expect it to do so from roughly neutral levels - which would posit that GDX will trade from its current $38.64 level upwards towards $45-to-$57.50.

As an aside from this chart, we'll further note that the daily Gold Miners/S&P 500 Ratio (GDX/SPY) is forming a rather bullish pennant pattern, which if comes to fruition would suggest that GDX will outperform SPY by roughly 2-to1 in the months and year ahead.

Thus, given the mixture, we are clearly constructive on the Gold Miners, and would certainly consider being long at current levels. Our risk point would be a bit more than -10% lower to $34.

Good luck and good trading,
Richard

Semiconductors Continue As Relative Leaders

This first chart really says it all:

 Semiconductors are trying to break out on a relative basis.  They're trying to do it at a time when the major indices are attempting breakouts of their own.  A combination of a relative price breakout in semiconductors while at the same time breaking out across our major indices would be very bullish for equities, arguing for much higher prices.  Will the breakouts occur?  Tough question.  We'll need a catalyst.  Intel Corp (INTC) provided the boost necessary to jumpstart the SOX and send it to test previous highs.  The chart below shows us the nice price action in the semiconductor group over the past several trading sessions:

 The USD tracks the Dow Jones U.S. Semiconductor Index (DJUSSC) at a 200% clip.  The DJUSSC was up 16.74% from the low on July 8th to the high on July 16th.  The USD, designed to double those returns, posted gains of 35.69%.  That was actually slightly more than double.  It's the beauty of compounding returns.  Anytime you can identify a trend in an index, playing that trend with juiced ETFs makes perfect sense so long as you understand the leveraging nature of the beast.  When underlying indexes are in trendless periods, moving back and forth, these juiced ETFs are DEADLY.  The only time you want to hold juiced ETFs is when the trend is moving in the direction you're looking for.  When the trend stops, you must move to the sidelines.

On Wednesday, July 22nd, at 4:30pm EST, my partner John Hopkins and I will be having a LIVE webinar specifically designed to uncover the secrets of successfully trading juiced ETFs.  It is a FREE webinar.  We'll spend plenty of time detailing when you want in and when you want out of these highly volatile ETFs.  The longer you hold, the more "slippage" you'll experience as the juiced ETFs are specifically designed to follow at a 200% clip so long as a trend is in place.  Once the trend changes, all bets are off.  If you'd like to register for this FREE event, click here.

The bulls have been in charge since the March lows.  Specifically, the NASDAQ has barely cleared a key 38.2% Fibonacci retracement level from the October 2007 high down to the March 2009 low and is now approaching significant gap and price resistance levels as illustrated below:

 It is going to be very interesting to see whether the bulls can maintain control of the market as we enter into the worst period of the year historically (mid-July through late September).

Happy trading!

Majority of Stocks Still Above their 200-day SMAs

It is hard to argue with the bulls when the vast majority of Nasdaq and NYSE stocks are trading above their 200-day SMAs. Over 66% of Nasdaq stocks are trading above their 200-day moving averages, while over 77% of NYSE stocks are trading above their 200-day moving averages. There are two important parts to this indicator: absolute level and direction. Despite some stalling over the last 6 weeks, the overall direction is up for both breadth indicators. There have been pullbacks along the way, but the overall trend since late March is up. The bulls are in control as long as this uptrend holds. 

Both indicators moved above the critical 50% threshold at the end of May. There was some market weakness in late June and early July, but the moving average percents held above 55%. In fact, both established support at 55% with bounces in late June and early July (green arrows). This looks like an important support level for the indicator. The bulls are in good shape as long as both hold above 55%. A move below this support would argue for a correction or consolidation period in the market.

Consumer Discretionary Stocks Get Rocked

Non-farm payrolls declined 467,000 for June, which was worse than expected. Stocks took the news hard with a broad based decline on Thursday. The major indices were down 2-4% on the day, while all sector ETFs were down over 2% with the Consumer Discretionary SPDR (XLY) leading the way lower. On the chart, XLY is on the verge of breaking support from its mid-May lows. With a double top taking shape, a break below this support level would target further weakness towards 19. The height of the pattern is subtracted from the support break for a target. As the most economically sensitive sector, relative weakness in the consumer discretionary stocks is not a good sign for the overall market - or the economy. This sector includes retailers, auto manufacturers, restaurants and homebuilders.

CORRECTIVE MOVE OR SIGNIFICANT DOWNTREND?

I believe it's the former.  Thursday's selloff after the June Employment report was a bit scary, particularly if you're only looking at the magnitude of the point losses.  But, in my opinion, no key support levels have been violated.  That means the beginning of next week will be worth watching.  We have been in the midst of an uptrend for the last few months and we are still in it.  We have a series of higher highs and higher lows off the March lows that has not been broken - yet.  Therefore, I say we play the trend at hand, which still is higher.

There were plenty of warning signs recently as to a short-term top - VIX hitting support, negative divergences on the daily MACD across the major indices, overbought conditions, light volume on early June highs, lack of participation from key sectors that led the rally since March, like financials and consumer discretionary stocks.   Those warning signs did, in fact, lead to a short-term top.

This begs the question - is the bullish move off the March lows over?  To be honest, that's a tough call.  I'd place about a 60-40 chance on the major indices putting in higher highs during July.  If it happens, it will most likely happen within the next two weeks as historical indications tell me that this period is the strongest in July, except for perhaps the last couple trading days of the month.  Once we get past mid-July, all bets are off as we enter the third most bearish period historically in the market.  Dating back to 1950, there's a one week period in July, just past the mid-point, where the S&P 500 has produced annualized LOSSES of 36%.  That trails only bearish periods in September and October.

The market has a lot of reasons over the next few months to sell off.  Historically, the worst time period of the year is from mid-July to late-September.  Since 1998, the S&P 500 has gained more than 1.5% during this period only once - in 2006.  On the flip side, we've seen losses in the range of 5%-16% during 5 different years.  Clearly, the historical trend has been towards losses during these summer months.

I can make a solid case for both bulls and bears, which is why it will be difficult to trade near-term.  If you're right, you can make some nice money.  But with the risk/reward up in the air, doing too much makes little sense at this time.  First, here are a couple charts that are quite bullish in my opinion:

On the bears side is the following:

For the very near-term, I'm buying the bulls argument (but not aggressively so) and will remain on the long side.  If key price support levels (primarily May lows) fail to hold, I'll grow much more cautious.  Further out, I'm a student of history and I tend not to argue with trends that stand the test of time.  Therefore, I'll remain cautious throughout the remainder of the summer, looking only for the best opportunities in terms of risk/reward.  You can click here to review our alert performance over the past several months.

Those who are ultra-conservative should probably be sitting in cash at the moment or long with one finger on the sell button.  Enjoy the holiday weekend!

Happy trading!

TECHNICAL ANALYSIS 101 - PART 10

This is the tenth part of a series of articles about Technical Analysis from a new course we're developing. If you are new to charting, these articles will give you the "big picture" behind the charts on our site. if you are an "old hand", these articles will help ensure you haven't "strayed too far" from the basics. Enjoy! 

(Click here to see the beginning of this series.)

Volume Confirmation

In an uptrend, volume should expand as the prices move higher and contract as the prices pull back.  As long as this pattern continues, volume is confirming the uptrend.  The opposite is true for downtrends.  Volume should expand as prices decline and contract during rallies to confirm a downtrend.

Negative divergences can occur if new price highs in an uptrend take place on declining volume.  This type of volume activity is an indication of diminishing buying pressure.  If the volume also begins to pick up on price pull backs, prices may begin consolidating or reversing into a downtrend. 

The same concept is true for positive divergences in downtrends.  If volume begins to contract on new price lows but expands during rallies, prices may begin consolidating or reversing into an uptrend.

 

This is the end of our section on Trends and trendlines.  Next time, we'll dive into some of the fundamental price patterns that result from when two trendlines are in effect at the same time.

DEFENSIVE ROTATIONS DURING JUNE

A sign that investors have turned more negative over the last month is the rotation out of economically-sensitive groups (like consumer discretionary and energy stocks) and into defensive groups (like utilities, consumer staples, and healthcare). Chart 3 shows relative strength lines for those five groups (versus a flat S&P 500) since the start of June. The downturn in the Discretionary SPDR (XLY) performance in early June is consistent with views that retail spending is being held hostage by rising unemployment numbers (which were borne out yesterday). The downturn in energy (XLE) is consistent with weaker commodity prices owing to a strong U.S. Dollar. Three of June's best performers are defensive staples (XLP), healthcare (XLV), and utilities (XLU). All of those rotation shifts are consistent with a much-needed correction in a market that's risen too far too fast. While stocks and commodities fell together during June, money has moved back into Treasury bonds and the U.S. Dollar.

GOLDEN CROSS

About a week ago the S&P 500 50-SMA (simple moving average) crossed up through the 200-SMA. (See chart below.) This is known as a "Golden Cross" because it is interpreted by many as a sign that the market is turning long-term bullish. Of course, this generated enormous optimism among the market cheerleader crowd, most of whom do not use technical analysis unless it supports their position. On the other hand, a highly regarded economist/market analyst blew his stack that anyone could be so lame-brained to use such a simple event to imply that the market was about to go ballistic. Since both sides of this argument regarding a technical event are offered by people who are fundamental analysts, I thought it would be useful to present a technician's point of view.

First of all, a 50/200-SMA crossover means nothing to this technician because I use exponential moving averages, and a golden cross has not yet occurred on the 50/200-EMAs. (See my article of June 19.) Second, if we were to get a 50/200-EMA golden cross, it would be an important event, but it would not be a sign to pile back into the market with both feet.

A golden cross applies only to the price index where it occurs. With the S&P 500 it means, based upon price movement, the broad market is turning positive, and, in technical terms, we will have entered a long-term bull market. At that point we would shift our emphasis away from shorts and toward longs. We would start assessing indicators and setups based on the assumption that we were in a bull market.

Sure, false signals are generated, but we can only act on what we know. In this case we would begin to look for medium- and short-term setups for long positions. If the LT buy signal fails, chances are that good setups will not be very common, and good position management will limit losses. A golden cross is not useless, nor is it a signal to throw caution to the wind. It is really an information signal, not an action signal.

The next chart shows the current market conditions using EMAs. Note that we are still awaiting the golden cross. More immediate to our attention is the fact that a fully developed head and shoulders pattern has formed, and Thursday's decline appears to be setting up challenge to the neckline. If the pattern executes (the price index violates the neckline), the minimum downside target is about 810.

If the pattern fails to execute and prices rally off the neckline, it will tell us that medium-term bullish forces are still in effect.

 

Bottom Line: The golden cross is a positive sign and gives us information about the market's condition and trend. If it occurs, don't overreact or ignore it. There is currently a head and shoulders pattern that is on the verge of violating its neckline. If that happens, it would be a pretty good sign that the rally is over.