AIRLINES TAKE OFF -- FALLING OIL PUSHES TRANSPORTS NEAR MAY HIGH -- PRECIOUS METALS FALL WITH ENERGY PRICES -- COPPER HAS FALLEN 20% -- BASIC MATERIALS ARE UNDERPERFORMING -- BOND YIELDS BOUNCE

TRANSPORTS NEAR MAY HIGH ... One of our readers asked about the lack of upside confirmation by the Dow Transports. According to Dow Theory, a bull market rally should be confirmed by new highs in both the transports and the industrials. Those concerns are being reduced by this week's surge in the transports. Chart 1 shows the Dow Tranports surging 57 points (+1.18%) today to come within 2.6% of their May high. The transport/ industrial ratio at the bottom of Chart 1 shows that the transports have been outperforming the industrials for the last two months. Most of that buying is coming from the airlines which thrive on falling oil prices. Oil fell $2.51 (-4.3%) today to the lowest level in a year. The airline group has achieved a major bullish breakout.

Chart 1

AIRLINES TAKE OFF... An October 20 article headlined "Airlines Thrive on Falling Oil Prices" ended the first paragraph with the statement: "With crude having lost 25% of its value, airlines look like they're ready to take off". And take off they have. The catalyst for yesterday's price and volume surge was news that U.S. Airway was bidding for Delta. However, the stage was set by falling oil prices and a bullish chart pattern. The weekly bars in Chart 2 show the Airline Index (XAL) breaking out to the highest level in nearly two years. Notice that the XAL/SPX relative strength ratio is also turning up from chart support formed over the last three years. Today's plunge is oil prices is another plus for the airline group and the market. But it's hurting energy stocks.

Chart 2

ENERGY STOCKS FALL ON HEAVY VOLUME ... The major drag on the energy markets today was a big jump in natural gas inventories. That commodity fell 4.6% on the day and pulled other energy markets down with it. That caused heavy profit-taking in energy stocks and ETFs. Chart 3 shows the Energy Sector SPDR (XLE), which contains natural gas stocks, selling off (on heavy volume) from chart resistance along its 2006 highs. Its daily MACD lines are rolling over from overbought territory. The XLE relative strength ratio (which peaked in August) is falling again. The oil service group has fared much worse. Chart 4 shows the Oil Service Holders (OIH) failing a test of their 200-day moving average (also in heavier trading). The Commodity Channel (CCI) Index at the top of Chart 4 is starting to weaken from overbought territory. It looks like time to take some profits in the energy patch.

Chart 3

Chart 4

PRECIOUS METALS WEAKEN WITH OIL ... Gold stocks fell with their related stocks today in sympathy with weaker energy prices. Chart 5 shows the Gold & Silver (XAU) Index falling back below its 200-day moving average and a test of a six-month downtrend line. Its relative strength ratio is starting to fall again as well. Gold and silver prices sold off from short-term overbought conditions. Chart 7 shows the Silver ETF (SLV) backing off from chart resistance at its September high just over 130. A bounce in the dollar today (and today's weak CPI report) contributed to selling of most commodities, including copper.

Chart 5

Chart 6

Chart 7

COPPER SELLS OFF ON FALLNG CHINESE DEMAND ... Signs of weakening Chinese demand for copper has also weighed on copper prices. Chart 8 shows copper having fallen 20% from its May high and trading below its 200-day average. It hit a new four-month low today. Weakness in some industrial metals is also causing the basic material group to underperform the rest of the market. Chart 9 shows the Materials Sector SPDR (XLB) backing off from chart resistance at its May peak. Its relative strength ratio (solid line) has been falling for the last six months. The weakest stocks in that group are associated with copper and steel. Outside of agricultural markets, commodity-related investments remain on the defensive. Weakness in commodity markets is consistent with this week's PPI and CPI reports of lower inflation. That's helping to keep the stock market rising.

Chart 8

Chart 9

DOUBLE BOTTOM IN BOND YIELDS? ... Another reader asked about the possibility of a "double bottom" in bond yields. Although it may not make a lot of economic sense, bond yields jumped today (on weaker inflation numbers) and bond prices fell. [The bounce in bond yields also caused a bounce in the dollar which contributed to weaker commodity prices]. Part of the reason for today's bounce in bond yields may indeed be technical. Chart 10 shows the 10-Year Treasury Note Yield (TNX) bouncing off the 45.5% level for the fourth time in two months. It has the look of a possible short-term "double bottom" (see circles). The TNX, however, would have to rise above its October high (and its 200-day average) to reverse its current downtrend.

Chart 10