DROP IN TEN-YEAR RATE UNDER 4% DOESN'T HELP STOCKS -- MARKET DROPS ON RISING VOLUME -- DON'T WAIT FOR A MINOR FIFTH WAVE TO SELL

TEN-YEAR T-NOTE YIELD FALLS UNDER 4% ... My article yesterday on the yield curve talked about some reasons why falling long-term rates might not be a good thing for the stock market or the economy. For one thing, falling bond yields hint at a weaker economy. For another, falling long-term rates flatten the yield curve even further which isn't good for the economy either. That helps explain why today's drop in the 10-year yield under 4% didn't help the stock market. In fact, the market had a pretty bad day. There were some other points that I wrote about yesterday that were also evident in today's trading. Energy was once again the day's strongest sector as oil prices bounced. Consumer staples and utilities also held up better than the rest of the market. And technology was the day's weakest sector. My piece yesterday pointed out why that alignment of sectors isn't good for the market, but is likely to continue.

Chart 1

UTILITY ETF REMAINS STRONG ... Back on January 20, I wrote that utilities were next in line -- behind energy and consumer staples -- to start showing some upside leadership. That's the normal rotation in a weakening market and an economy that's getting tired. On January 27 I showed the Dow Utilities breaking out to a new high. One of our readers asked why I hadn't shown a chart of the Utilities Select Sector SPDR. Well, here it is. Not only has it risen to a new recovery high, but its relative strength line has been rising since the start of January. I wrote back then that the utilities could be rising for defensive reasons. And they could be rising because of falling long-term rates. Historically, utilities and bond "prices" move in the same direction. Bond prices have been rising as yields have been falling. Another reader asked why I referred to energy stocks as defensive. That's because energy stocks usually go up as the market goes down.

Chart 2

MORE ON ELLIOTT WAVES ... One of our readers suggested that my negative comments on the market yesterday conflicted with the idea that there's still a fifth wave ahead in the market. Others have asked what to do with the Elliott wave information. I think some readers are confusing short-term swings with the big picture. The big picture is shown in Chart 3. The weekly bars show that the last upleg that began in August (from 4) is the fifth (and final) upwave in the cyclical bull market that started in October 2002. That's a bearish forecast. And one of the reasons that I suggested taking some money out of the market during January and/or rotating into more defensive sectors like consumer staples, energy, and utilities. I also explained that the Wilshire 5000 had retraced 62% of its 2000-2002 bear market which was a significant resistance barrier. I've also pointed out that the fifth wave advance has been accompanied by negative divergences in RSI and MACD lines, and that divergences in a fifth wave are especially negative. A couple of weeks back I showed that weekly MACD lines had turned negative for the first time in a year. All of that is bearish. It's the short-term trend that's confusing people.

Chart 3

A CLOSER LOOK AT WAVE FIVE ... The daily bars below give a closer look at the major fifth wave that started in August. [I'm switching over to the S&P 500 SPDRs]. That should also show five waves. I've tried to explain that I can't say for sure where the fifth wave is in this last upleg. The problem is finding a convincing wave 4. I see two possible scenarios. One is that wave 4 ended in early December (see first 4) and the fifth wave was completed at the end of December (see 5). A second view is the January decline was wave 4 and we're now in wave 5 (see second 4). That's why I wrote about the possibility of a retest of the recent high by the blue chip averages. In other words, we've either seen the top or we're in the final rally leading to the top. In either case, the best way to deal with that is to sell into rallies. One argument against a further advance is the volume pattern. Chart 4 shows that volume has been light on the recent rebound. That's not a bullish sign. Even worse, today's selling came on much heavier volume. Notice also that the SPY appears to be failing at its upper Bollinger band. That's a logical spot to do some selling. The message I'm sending is that the cyclical bull is ending -- if it hasn't ended already. Don't try to fine tune it too much. Keep your eye on the big picture which doesn't look good.

Chart 4