COMMODITIES BOUNCE AT WEEK'S END -- JAPANESE ISHARES REGAIN 50-DAY LINE -- BIOTECH BREAKOUT -- WHY I LIKE MACD LINES

CRB INDEX STAYS OVER 200-DAY LINE... Earlier in the week we showed the Reuters/Jefferies CRB Index bouncing off its 200-day moving average. After dipping back on Thursday, it rallied again at week's end. Thirteen of the nineteen commodities in the CRB bounced on Friday with most of the leadership coming from energy and metal markets. Crude oil gained more than $2 and gold climbed $10. That gave a boost to stocks tied to those commodities. As a result, gold and energy shares were among Friday's top gainers. International markets with some ties to commodities led Friday's global gains. That included Australia, Brazil, Canada, and Japan. Japan iShares have regained their 50-day line.

Chart 1

EWJ REGAINS 50-DAY LINE ... After bouncing off its mid-January low near 13.25, the Japan iShares (EWJ) have regained their 50-day moving average. That's a positive sign that the worst is behind it, and that it's ready to join other foreign ETFs that are already trading over that support line. The EWJ:S&P 500 ratio is also starting to bounce again. The EWJ is getting help from a bouncing Japanese stock market (which has also regained its 50-day line) and a bouncing yen. Chart 3 shows that the yen is starting to bounce again after a weak January. That helps the EWJ because it's quoted in dollars. That means that a bouncing yen increases the value of the EWJ. The EWJ may also be getting some help from a bouncing gold market. Gold and gold stocks recently bounced off their 50-day lines and continue to gain ground. I've written before about the recent link between those two markets because their rise implies that Japan's deflationary era has come to an end. That explains recent comments from Japan about a looser monetary policy which is behind this week's rebound in the yen.

Chart 2

Chart 3

BIOTECH BREAKOUT ... Biotech stocks were also one of Friday's strongest groups and continue to show market leadership. I recently showed the Biotech iShares (IBB) testing its 2006 high. It broke through that on Friday and is now nearing a test of its early 2004 peak. The main catalyst behind Friday's IBB breakout was Biogen Idec which achieved a bullish breakout of its own.

Chart 4

Chart 5

WHY I LIKE MACD LINES... In a recent article on the value of moving average lines, I wrote that they weren't necessarily my favorite indicator. Naturally I was asked what was. Right at the top of my list is the Moving Average Convergence Divergence (MACD) lines. For those of you who don't what they are, they are a combination of two exponentially-smoothed moving average lines. [Although I generally prefer arithmetic moving averages, the MACD system uses EMA lines which are bit more sensitive to price changes. Please consult the Chart School for a more in-depth explanation of how the MACD lines are constructed]. My purpose here is to show how the lines are interpreted and to explain why I like them so much. For one thing, they work extremely well on monthly and weekly charts which is where I always start my analysis. That's because those longer-term charts determine the major trend of the market. Take the monthly bars in Chart 6. The two MACD lines are plotted over the monthly bars of the S&P 500. Only two crossings (signals) have taken place in nearly six years. A major sell signal in 2000 and a major buy signal in 2003. The blue bars on the MACD chart are histogram bars that provide another way to view the signals. [The histogram plots the difference between the two MACD lines. Buy and sell signals are given when the zero line is crossed]. I've plotted the MACD histogram bars by themselves below Chart 6. I actually prefer that view. Crossings above and below the zero lines coincide with MACD crossings. [See red and green arrows]. The monthly histogram bars came dangerously close to a sell signal in late 2005, but none was given. In fact, the histogram bars have strengthened at the start of 2006. What I like about the long-term signals is that they're infrequent and generally reliable. Let's look at the weekly signals in Chart 7.

Chart 6

WEEKLY MACD SIGNALS ... I've overlaid the MACD lines on weekly bars of the S&P 500 for easier comparison. Since early 2004, six intermediate-term signals have been given by the crossing of the two MACD lines. The red arrows show the sell signals and the green arrows the buy signals. The most significant sell took place in the first quarter of 2004 and lasted about six months. The last signal was a buy that took place during the first week of November. That buy signal is still intact. And therein lies one of the reason why it's important to use weekly charts. Despite the recent short-term downside correction in the S&P, the weekly MACD lines stayed positive. Weekly signals are more frequent than monthly signals, but much less frequent than daily signals. Six signals over a span of two years means that the average weekly signal lasted four months. That's right in the middle what I consider to be an intermediate-term move (three to six months). While the monthly and weekly charts set the major direction of the market, daily signals are used for short-term timing.

Chart 7

DAILY MACD SIGNALS... Chart 8 overlays daily MACD lines on the S&P. Signals on daily charts are meant for short-term timing purposes. After giving a buy signal last October, two short-term sells were given in early December and in mid-January. The last signal given was a buy signal about a week ago. That puts the daily lines back in sync with the weekly lines. I like to use weekly signals to filter daily signals. If the weekly signal is positive, more importance is given to daily buy signals and less importance to daily sell signals. That means that the recent buy signal in the S&P is given more weight than the recent sell signals. Chart 8 shows another reason why I like this indicator so much. In addition to giving reasonably reliable buy and sell crossover signals, it also has some aspects of an oscillator. Notice, for example, that the early January high in the S&P price bars wasn't confirmed buy the MACD lines (purple arrow). That created a short-term negative divergence. Chart 8 also shows that the histogram bars change direction before the moving average lines. Notice the double top in the histogram in late November (red arrow), which was a couple of weeks before a negative crossover in the MACD lines. Notice the double bottom in the histogram in early February (green arrow)which preceded the latest buy signal. I find that the MACD system gives us the best of both worlds -- a good trend-following system that also warns in advance of positive and negative divergences. The fact that it works well in all time dimensions only adds to its value. Right now, all the MACD lines are pointing north.

Chart 8