December 15. 2013

Market Review

Last week all three major U.S. averages ended in negative territory. For the week the Dow Jones Industrial Average dropped 1.7 percent to 15,755.36. The S&P 500 also dropped 1.7 percent to 1,775.32 during the week, its biggest decline since August. Both the Dow and the S&P 500 were down for the second week, the first series of such losses since early October. The Nasdaq Composite declined 1.5 percent from the week-ago close, ending at 4,000.98, its first week of losses in five. All key S&P sectors finished in the red for the week, dragged by health care. The Chicago Board Options Exchange Volatility Index (VIX), the gauge of S&P 500 options known as the VIX, climbed 1.4 percent to 15.76.

Short-Term Technical Condition

Having a look at our short-term oriented technical picture of the market, we can see that the readings of our short-term trend- as well as breadth indicators have continued to deteriorate! On Wednesday, the Trend Trader Index has flashed a bearish short-term trend scenario, after the S&P 500 had been trading in a quite strong uptrend mid October. Given the fact that both envelope lines of the Trend Trader Index have slightly started to build a bearish rounding top, we have received even more confirmation that the current weaknesses is definitely part of a bigger top building process rather than being a short-lived consolidation period. This can be also seen, if we have a closer look at the Modified MACD, which has picked up strong bearish momentum and still remains in a free fall with widening gap, indicating more weaknesses ahead! In addition, the gauge of the Advance-/Decline 20 Day Momentum Indicator has broken below its bullish threshold last week and is, therefore, not confirming the current level from the S&P 500. In general, it is not unusual that our entire short-term trend indicators are trading in bearish territory, if the market is taking a healthy breather. As already mentioned last week, a consolidation period is considered to be healthy one if it is being accompanied by an improvement in short-term market breadth, indicating that the market internals are strengthening.

Unfortunately, short-term market breadth does not look rosy at all, as the Modified McClellan Oscillator Daily still remains bearish and has hit a new low last week, indicating an outright weak tape structure at the moment. Moreover, there have been a quite a lot of stocks which have hit a new yearly low, whereas the number of stockss which are hitting a fresh 52 week’s high have decreased significantly. For that reason, our reliable High-/Low Index Daily has flashed a bearish crossover signal last week, which is another indication that market breadth is faltering, although the S&P 500 is still trading at quite high levels! The same is true if we have a look at the percentage of stockss which are trading above their short-term oriented moving averages (20/50), which have slightly turned bearish last week, indicating that more than 50 percent of all NYSE-listed stocks have broken below their short-term oriented uptrend.

From a contrarian point of view, the technical picture of the market does not look rosy at all. Smart Money has not bought into the current weaknesses, whereas the WSC Capitulation Index has shown significant strengths last week, giving no-clear signal for now. Moreover, the crowd looks a way too complacent in our point of view, as there are hardly any hedging activities visible if we focus on our option- and dumb money indicators (Daily Put/Call Ratio All CBOE Options, Odd Lots Purchases/Nyse Volume, Global Futures Put/Volume Ratio and the Global Futures Dumb Money Indicator). On the other hand, the market is quite oversold (Advance-/Decline Index Ratio Daily) and given the fact that some of our short-term oriented contrarian indicators (Market Timer Index, Global Futures Trading Index and the Large Block Index Oscillator) have flashed a buy signal last week, we would not surprised to see another strong but corrective rally attempt, before the bears might spoil the new year’s party.

Mid-Term Technical Condition

The mid-term uptrend of the market has continued to deteriorate, since the gauge of our Global Futures Trend Index has been strongly pushed into the bearish consolidation area last week and is, therefore, not confirming the current levels from the S&P 500! In such a scenario, the upside potential of the market remains capped and we would be quite surprised to see further sustainable gains ahead, as long as the gauge of this reliable indicator remains depressed. However, right now the mid-term uptrend of the market looks damaged, but has not been completely broken yet, since the WSC Sector Momentum Indicator has not shown any signs of weaknesses so far, indicating that most sectors within the S&P 500 are still in a mid-term oriented up-trend. According to our Sector Heat Map, consumer discretionary, industrials, and healthcare are/remain the strongest sectors right now, whereas utility is highly likely to continue to underperform the market, as its relative strength score is trading far below from the relative strengths score of the S&P 500.

More importantly, mid-term oriented market breadth has started slightly started to deteriorate, which is another indication that the upside potential of the market is quite capped at the moment. Especially, the Modified McClellan Oscillator Weekly has showed a clear bearish gap recently after we have seen quite encouraging bottoming out signals over the last couple of weeks, indicating that the market internals are weakening. Moreover, the percentage of stockss which are trading above their mid-term oriented moving averages (100/150) have reached their lowest levels within weeks, although their gauges are still quite bullish for the time being. The same is true if we have a look at the Upside-/Downside Index Weekly and the Advance-/Decline Index Weekly. Both indicators remain bullish from a pure signal point of view but their bullish gauges kept declining for the week. Especially the amount mid-term advancing issues have dropped significantly, which is a quite serious signal for market technicians. Normally, bearish or extreme weak readings within those indicators have mostly led to a stronger correction in the past and, therefore, we keep a close eye on the Upside-/Downside Index Weekly, which still looks quite bullish right now in comparison to the Advance-/Decline Index Weekly. Right now, it is still a bit too early to call for an upcoming correction as most of our mid-term oriented breadth indicators still remain bullish. Moreover, there is no top without a (distributing) top-building process/formation. In general, a classical top building process can take a couple of weeks whereas the first stronger pullback (3-6 percent) is just part of a larger distribution top. Afterwards the market usually strongly bounces back (above or slightly below) to its former high, although most of our short- to mid-term oriented trend- as well as breadth indicators are already faltering/turn bearish! If this is the case we have a final confirmation for an intermediate market top. Nevertheless, it could be also possible that the market just strongly gaps down, but this only happens in rare circumstances. Especially, if we consider the seasonal effect, as the last days of year is not a usual time for a stronger correction. Therefore, it might be possible to see a stronger drawdown beginning from late December/early January into Q1, as basis for the next bigger buying opportunity.

Long-Term Technical Condition

The long-term up-trend of the market remains intact so far, since our entire long-term oriented trend indicators have not turned bearish yet (WSC Global Momentum, Global Futures Long Term Trend Index and the WSC Global Relative Strengths). If we have a closer look at the WSC Global Momentum Indicator, we can see that 68 percent of all global markets remain in a strong up-trend, indicating that the global bull-market still remains in force. Nevertheless, the gauge of this indicator has slightly started to decrease over the last couple of weeks, which is another indication that global equities have started to weaken. In addition, we can see the current consolidation phase had also a quite strong impact on long-term market breadth, since the number of stockss which are hitting a fresh low on a longer time frame have started to rise, the Modified McClellan Volume Oscillator Weekly is losing momentum, plus the amount of NYSE listed stocks which are trading above their 200 day simple moving average have came down a bit recently. However, right now, most of our long-term oriented market breadth indicators are far away from being bearish and, therefore, our long-term bullish view has not changed so far!

Bottom Line

The bottom line: with deteriorating indicators all across the board, we strongly believe that the market is running into an important top within the next couple of weeks and, therefore, the upside potential of the market remains capped. Although, the short-term outlook is bearish, a stronger volatile bounce (towards 1,820/1,840) is still possible and, therefore, we would advise our short-sellers, to use close stops or to wait until we receive more bearish crossover signals within our mid-term oriented market breadth indicators to get the final confirmation. Conservative should place a safety stop-loss limit around 1,720 just in case the market does not follow a typical path of a top-building process. Moreover, if we see further bearish crossover signals within our mid-term oriented breadth indicators, we will have the ultimate confirmation that it is time to take the chips from the table and to wait for a better technical environment. Stay tuned!