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January 18. 2015

Market Review

In last week’s comment we highlighted the fact that we expected to see further sharp swings in both directions as the market remained in a tug-of-war for the very short-time frame. Moreover, we mentioned that we remained outright cautious as the current consolidation period could easily turn out to be corrective in its nature! In fact, after several extreme volatile sessions, stocks finished lower on the week, down about 1 percent. Although major U.S. benchmarks remained within 4 percent of their all-time or multiyear highs, the technical picture of the market continued to deteriorate, especially on a mid-term time frame. Therefore, major troubles might be at hand soon!

Short-Term Technical Condition

From a pure price point of view, the short-term trend of the market clearly turned bearish last week as the S&P 500 closed 42 points below the bullish threshold from the Trend Trader Index. Moreover, our reliable Modified MACD continued to gain more bearish ground last week, indicating that further down-testing is likely. Nevertheless, from a pure structural point of view, the short-term oriented trend of the market has not completely turned bearish as both envelope lines of the Trend Trader Index were still holding up quite well and, therefore, they appear to be quite flattish at the moment. The same is true if we focus on the Advance-/Decline 20 Days Momentum Indicator as its gauge remains bullish on low levels. As already mentioned last week, during a consolidation period it is not quite unusual to see a lot of bearish or even fast changing signals within short-term oriented trend indicators as there is no specific trend within a broad based trading range. Therefore, short- to mid-term market breadth is a key area of focus to evaluate if a given consolidation period is just part of a healthy breather or the beginning of a more significant correction.

Unfortunately, short-term oriented market breadth had to take a hard hit during the last couple of trading sessions as most of our tape indicators have started to weaken, wiping out most of the bullish divergences we saw last week. Especially the number of stockss hitting a fresh yearly high decreased fairly, while the number of stockss dropping to a fresh yearly low has started to increase. This is telling us that the current sideways trading is not really constructive in its nature anymore as the market internals have started to weaken. Therefore, the High-/Low Index Daily started to weaken, although the indicator itself still remains bullish from a pure signal point of view. Moreover, the McClellan Volume Oscillator Daily showed a widening bearish gap, whereas the Modified McClellan Oscillator Daily turned clearly bearish, indicating an outright weak tape structure at the moment. This can be also seen if we have a closer look at the percentage of stockss which are trading above their short-term oriented simple moving averages (20/50) as both indicators clearly turned bearish last week. As a matter of fact, the underlying trend participation looks outright weak-kneed at the moment!

The situation from a pure contrarian point of view remains quite mixed and, therefore, further volatility can be expected on a very short time frame. The option market is getting increasingly supportive, whereas Smart Money continued to sell into strength. As a matter of fact, the WSC Capitulation Index is still indicating a risk-off environment as it measures the momentum of the SMFI, which is definitely bearish at the moment. Normally, the CBOE Option Put-/Call Ratio Indicator tends to be more short-term oriented, whereas the SMFI tends to be quite correct on a mid-term time horizon! Therefore, we think further volatile sessions might be possible, before major troubles might be due! Above all, on Monday the market triggered a Hindenburg Omen, which is a quite rare bearish technical signal. Basically, when it occurs, the market should be at risk for a correction within the next 30 days. According to our research, this pattern occurred 63 times since 1966. Since then in 26.9 percent of all cases, the market faced a maximum loss, exceeding the 5 percent range within the following 30 days!

Mid-Term Technical Condition

From a pure signal point of view, the mid-term oriented up-trend of the market remains intact as the WSC Sector Momentum Indicator has not shown any signs of weaknesses so far. This indicates that that most sectors within the S&P 500 are per definition still in a mid-term oriented up-trend and according to our Sector Heat Map, health care and utilities are the strongest industries for the time being. Nevertheless, we can already see some major signs of exhaustion, as the Global Futures Trend Index lost more bullish ground last week. As a matter of fact, the gauge from that reliable indicator is now just trading shy above its 60 percent bullish threshold! Last week, we mentioned the fact that this indicator was clearly key area of focus as readings below 60 percent (together with bearish mid-term market breadth) are an early indication for a major correction. Moreover, as long as the gauge from the Global Futures Trend Index keeps trading within its bullish consolidation area and does not simultaneously show some signs of positive momentum, the upside potential of the market should remain limited as well. Therefore, the risk/reward ratio is outright depressed at the moment!

Above all, mid-term oriented market breadth showed also major signs of exhaustion last week and is, therefore, hardly confirming the current mid-term oriented uptrend of the market at the moment. As a matter of fact, the current consolidation period looks now definitely corrective in its nature, indicating further troubles ahead! Especially, the recent decline in mid-term oriented up-volume caused a bearish crossover signal within the Upside-/Downside Volume Index Weekly. This is another confirming signal for that a major pullback will be at hand soon. The same is true if we focus on the Advance-/Decline Index Weekly, which turned almost bearish last week and is, therefore, definitely not confirming the current mid-term oriented trend of the market. Such a broader non-confirmation can also be seen if we focus on the percentage of stockss which are trading above their mid-term oriented moving averages (100/150). Both indicators continued to lose bullish ground last week and, as a matter of fact, they flashed a bearish signal (150) or are about to do so (100). In addition, we can see that the underlying tape momentum has not shown any signs of strength yet, as the Modified McClellan Oscillator Weekly remains quite bearish from a pure signal point of view.

Long-Term Technical Condition

From a pure technical point of view, the long-term oriented up-trend of the market remains intact as the Global Futures Long Term Trend Index has not turned bearish yet. Nevertheless, we can see that the global bull market remains quite selective as only 28 percent of all local equity markets around the world (all quoted in USD) remain within a long-term oriented up-trend for the time being. From a pure asset allocation point of view, U.S. equities remain the place to be as they are still leading all other risky markets in terms of relative strength. More importantly, long-term oriented market breadth remains bullish biased as apart from the Modified McClellan Volume Oscillator Weekly, our entire long-term tape indicators (High-/Low Index Weekly and percentage percentage of stockss which are trading above their long-term oriented moving averages) remain bullish. As a matter of fact our long-term bullish outlook has not been changed so far.

Bottom Line

Last week, we received further confirmation that an intermediate price top is place. As a matter of fact, we think that the recent consolidation will definitely turn out to be corrective in its nature and, therefore, the risk of a fast paced correction remains outright high at the moment. For that reason, we are extremely cautious for the short-term to mid-term! As we cannot rule out a fast paced pullback at the moment, it would make sense to place/keep/adjust stop loss limit around 1,990. Another reason for that stop limit is the fact that we would like to see some negative price action first, before conservative members should reduce their equity exposure significantly. Aggressive traders should sell into strength, if the S&P 500 drops below 1,990 and should increase their exposure if we see further down testing below 1,970. Stay tuned!