Usually, I like to do a market report on current events and drivers that influence the market; however, right now I want to focus on some technical developments. I believe some of the recent technical developments are just as important as some of the news headlines we’ve been hearing over the past two weeks. Some of those developments include: the breakdown of the euro, the breakdown of the Shanghai Index, the breakout in the U.S. dollar, the decline of gold, the rollover of the stock indices, and the continuing decline of the CRB Index.
Which came first: the headline or the technical development? A chart can’t predict news, but I think it can influence the reaction to news, whether bullish or bearish. Take today for example. We had a plethora of bullish economic news out of the U.S. that includes the following:
- Jobless claims fell substantially to 366k during the 12/10 week period.
- Empire State Manufacturing Index (December period) up to 9.53 versus consensus of 3.
- Philadelphia Fed Survey (December period) up to 10.3 versus consensus of 5.
- Strong Spanish bond auction.
- Better than expected results for European and Chinese flash PMIs (though both below 50 spelling out contraction)
With that kind of news, the market should be soaring. In a bull market environment, we’d see 2500 advancing issues or more on the NYSE. At the time of this article, I show the S&P 500 up 5 pts and only 1832 advancing issues and 1,100 declining issues. That’s terrible breadth (participation). There must be something else afoot here. There is…
We broke below the 50-day moving average yesterday for the S&P 500 and came two points from reaching it this morning – and failed. The 50-day moving average is acting as resistance to today’s advance. Unfortunately, we now need to add the 50-day moving average to the other four resistances I discussed on Monday, 12/5, “Confluence of Resistance”. And so we must not only follow headlines and potential catalysts, but also technical analysis. In a market as volatile as this one, we can still find rhyme and reason in the charts.
Recent Technical Developments
Stock Indices
Since I’m already talking about the 50-day moving average affecting the rally today, let’s talk about the S&P 500, the Dow Jones Industrial Average, and the Nasdaq. The stock indices are rolling over from the Joint Central Bank intervention on 11/30 and the “hope rally” leading into the ECB and Euro Summit meetings last week. The market was disappointed with the action from the ECB and the Summit, describing a lack of “bazooka” to combat the Sovereign Debt crisis there. It’s especially a problem when Moodys and Fitch say they’re not impressed and we have yet to hear from the Standard and Poor’s regarding the downgrade notice on 15 European nation credit ratings they gave on 12/5.
Getting back to the 50-day moving average, notice that the Dow Jones Industrial average is still above it? The large-cap stock index is outperforming the larger S&P 500 index which tells you that investors continue to flock towards blue-chip or “quality” equities and they’re hiding in the Dow Jones Industrial Average from market weakness. I’ll tell you where else they’re hiding, utilities and healthcare. While those are good defensive sectors, they are beginning to look rather crowded. Utility valuations are starting to trade at significant premiums in respect to many large-cap growth names, but I digress. If the Dow Jones Industrial Average can stay above its 50-day moving average, that’s a potential bullish divergence. The Dow Jones Transport and the Dow Jones Utility index are all still trading above their 50-day moving averages.
As far as Dow Theory is concerned, the potential is there for the Industrials and the Transports to be putting in a lower high – in tandem. While you may consider the Industrials to have already put in a secondary high during July, the Transports were hitting fresh highs at that time. What is worrisome is it appears that both averages are struggling to stay above the June correction (former support) and that’s to be expected as previous support now becomes resistance and a source of supply to the market. The longer we stay below those levels, the more “bearish” this market is acting.
Currency Breakouts Meet Supply and Demand Zones
Some technical developments, like the drop in the euro this week, are the headline in and of themself. The breakdown in the euro below .31 on Tuesday sent shockwaves through commodities. Merkel had rejected the notion of raising the upper limit funding on the European Stability Mechanism (ESM) –coupled with the disappointment from the ECB and the Summit from last week – sent the euro over the edge. As the euro broke down, the U.S. dollar broke out above . The move in these two currencies triggered stop losses and heavy liquidations in commodity and commodity stocks over the past few days.
Although the correction in gold and the euro are overdone in a short period of time, the breakouts can’t be taken lightly and prudence should be exercised if we face a deleveraging wavelike the one the commodity market faced in 2008. Looking at the charts in gold, the dollar, the euro, and the CRB, I can’t make that conclusion yet with significant support and resistance zones that have not been violated.
While the break above 80 on the U.S. dollar index confirms a new rising uptrend according to classic technical analysis, we still have a supply zone (resistance) between 81.44 and 81.15, the November 2010 and January 2011 highs respectively. Vice versa, we have a very significant demand zone (support) for the euro between 1.297 and 1.287, the November 2010 and January 2011 highs respectively.
Currencies Affecting Commodities
The rising dollar greatly affects the price of commodities priced in dollars. You can draw a direct correlation between the breakout in the dollar from its base in early September to the top in gold.
On Tuesday, the Iranian military exercises probably held oil up from a selloff like we saw in gold, but on Wednesday, we saw the drop that needed to come as a result of a rising dollar. Looking at gold, the selloff looks overdone. In a trending market, things can get way overdone, but eventually, we’re going to see a bottom pretty soon in Gold. The 14-day RSI is at 27.65 and anything below 30 is oversold. So gold is below the 200-day moving average, big woop. It’s been there before (2003, 2004, 2005, 2006, 2007, 2008, and 2009); so that’s not saying much about the bull market in gold over the past decade if that’s your argument why the bull market in gold is ending.
The CRB index is a broad weighted index full of commodities (see weightings). So if gold and oil are falling due to a rising dollar, we’re likely going to see the same for commodities as a whole. The CRB index has been in decline since quantitative easing 2.0 came to an end. The decline has been predictable without any gyrations. Lower highs have been followed by lower lows. We are near a significant support level, where commodities rallied in October as well as in November of 2010. This also matches up with a 61.8% retracement of the “quantitative easing 2.0” trend. If we break 290, then a drop down to 250 becomes a much higher probability. The RSI momentum indicator is higher than it was at the October bottom, so there’s also the possibility of bullish divergence; however, the CRB would have to rally from this level first before I could make such a statement. It is something to keep an eye on. With the possibility of seeing 250 if 290 breaks, this is a significant technical development to watch.
Shanghai: The Barometer of China
If you want to know who’s buying the products found in the above chart, then we need to look no further than the Shanghai Stock Exchange Composite. The politicians stepped away from a major policy meeting this week and concluded they don’t need to step up the accommodation policies yet. The “locals” are selling their own economy as depicted in the chart below and they probably have a better idea than you and me. The flash Purchasing Managers Index (PMI) came out today for China and it was better than expected but still below the breakeven level of 50, ticking up from 47.7 to 49. What if the actual PMI rises above 50 at the final reading scheduled for December 30th? If it’s a lot and better than expected, I think you could get a rally in commodities. If it breaks down hard, expect a big move down in commodities. I don’t know what the reading will be, but this is something to keep an eye. Know that this will be a significant driver in commodities at the month-end and in January as it’s telling us China is on the cusp of expansion versus contraction – one or the other.
Conclusion
So these are the areas where I see some significant technical developments. Some of them are making the headlines themselves instead of merely reacting to headlines. The U.S. continues to show growth in the economic indicators. While some groups may be greatly affected by the Thailand flooding and availability of hard drives (we heard from Intel on this on Monday), other areas are thriving. The overhang on this market is obviously Europe given strong U.S. economic indicators and earnings from companies, and that is why I continue to focus on European developments there on the Financial Sense Newshour. European flash PMI ticked up to 47.9 while new orders and employment ticked up within the index as a good sign, but that needs to get above 50.
Despite European Central Bank accommodative policies, huge bailout funds, and joint central bank dollar liquidity surprises, technical resistance levels are holding since December 5th. What’s concerning, is that the major indices have failed to break and stay above the June lows as well as the 200-day moving average. The technical developments recently do not look positive for equities, though there are areas that have seen solid demand in utilities and healthcare. If the market rolls over for sure, then expect these hideouts to be exited as well. I don’t see any major catalysts in the near future, so I expect economic indicators and technical analysis to be the main drivers of the market. At least until the next earnings season and “hope rally” leading into the next European Leader Summits.
