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TECHNICAL IMPRESSIONS

Gold and stocks have traded in the same direction since late 2005. However most recently, from late June to the present this relationship seems to have changed. While it may be too early to make such a call with a high degree of certainty, it appears that gold has decoupled from stocks. Whereas gold has resumed its uptrend, stocks have faltered. Since the normal relationship is for gold and stocks to be negatively correlated, maybe this inverse relationship is returning to its historic norm. If this is indeed happening, it is likely to hurt stocks’ performance in the intermediate term. The market has been liquidity driven, and this liquidity has been apparent in strength in gold expressed in US dollars, and concurrently rising stock prices. When gold, stocks, and commodities were hammered in early May, it was clearly due to a loss in worldwide liquidity because everything that traded on a public exchange simultaneously dropped sharply in price. However, over the last couple of weeks, while gold has risen, the performance of US stocks has been lackluster. If liquidity cannot pump this market, then what can? Or worse yet, if gold were to correct from its current levels, this would hurt stocks even more.

The monthly gold chart below shows that the bull run in gold beginning in mid-2005 went for about 12 consecutive months. Gold then corrected for 2 months and in July, it resumed its bullish run. While continuation of the bullish action in gold would speak volumes about the strength of the gold bull market, it would also appear that the correction in gold is not over. Logic would suggest a correction of a 12 month bull would last longer than 2 months. The monthly slow stochastics which suggests an overbought condition in gold seems to also confirm this logic.

Shorter term, gold has corrected almost 62% of the drop off of its high, and it seems unlikely that such a vertical rise, followed by a similarly vertical fall would be followed by an equally vertical rise that takes it to (or even near), new highs without some meaningful bumps along the way.

The July action in the un-hedged gold bugs index ($HUI) suggests that gold may indeed correct. The ratio $HUI to gold ratio is dropping and this relationship seems confirmed by the slow stochastics indicator. While not 100% dependable, the $HUI tends to lead gold.

Consumer Capital Goods

It is important that unlike the long term trading range market, today’s stock market seems to have bearish technical patterns which (finally) seem to be working. There are increasing instances where it pays to sell into weakness. Here are a few examples.

Of the six companies featured a few weeks ago that produce leisure equipment requiring consumer loans, three have broken key technical support levels. An additional company, K2 Inc, is in a consistent downtrend and has decisively broken down below its 10 week moving average this week.

Semi-Conductors

The semi-conductor index, as represented by the Ishare ETF, has apparently broken the technically important 55 level. While it could still be a whip-saw, one cannot rule out the possibility that something in the stock market has finally changed for the worse.

The action in the Nasdaq 100 suggests something in the US stock market has changed for the worse. The Nasdaq 100 appears to have broken an important 2-1/2 year trendline. When such wedge patterns are completed, they generally don’t waste much time hanging around old trendlines. The relative strength line in the top pane shows the Nasdaq 100 as a worthy bear market laggard.

Bonds

Something appears to have changed in the stock/bond relationship. Whereas bonds have rallied for three weeks, stocks have failed to rally in concert with bonds. Now the 10-year note yield sits on its 10-week moving average, and its momentum (RSI indicator) appears to be weak. Will the 10-week moving average act as support? Or will the loss of RSI momentum be meaningful? Stay tuned!

The long term technical position of the 30-year note interest rate adds some more perspective and drama to the fact that bonds are in an important technical juncture. The beginning of the bear market in 30-year interest rates corresponded to the beginning of a secular bull market in stocks. And now we may be at the start in a secular bull market in 30-year interest rates. This is likely to bring about a secular bear market in stocks, unless of course, this time it is different.

Today’s Market

The market put in a very ugly day as practically all major US and international indices were down on higher trading volume than yesterday. SAP which has a P/E of 30 and a dividend of 0.7% reported a sales shortfall. I tried to read the press release, but I’m short on time tonight and gave up after the third “pro forma.”

In any case, as stated above, once technical wedge patterns are completed, the price action tends to not hang around too long around the trendline. And that is how the Nasdaq 100 acted today. At mid-morning, it made a gallant effort to get back to neutral, but then failed and finished near its worst level of the day. In the long and intermediate term, there are warnings everywhere that the bear market is likely to be upon us. Here’s one that is perhaps not as obvious. While this is not in any way a recommendation to buy or sell, the Prudent Bear Fund (BEARX) made a new 52-week high yesterday and was up again today. While many of the US market indices probably peaked in May, BEARX put in its bottom in early ’06. Turns out, bullish long term charts are not impossible to find in this market.

Hit particularly hard today were retailers such as department stores. J.C. Penney, Federated, Sears, and Target were all down on high volume. These stocks are on a watch list for entering from the bearish perspective.

Notable capital consumer stocks were once hit hard today. Polaris (PII) reported quarterly results that confirmed its completion of a bearish right triangle pattern. The measurement principle suggests that the stock will see 20 versus today’s close at 39 and change. Brunswick (BC) also was pummeled. While the bad news is finally out in this sector, only the charts are signaling bad news for the department stores and US consumer.

Transportation stocks dropped over 3%. The transports made, but did not complete a double top and they crashed decisively through their 50-day moving average. But that’s OK for long term investors because they can enjoy their 0.41% dividend. Stocks for the long run, baby! Oh yes. Gold was up and stocks were down. Another day of decoupling.

Martin Goldberg

Copyright © 2006 All rights reserved. Martin F. Goldberg, MS, P.E. Market Analyst Expert Page Commentary Archive Email

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