DOW REVERSES EARLY LOSSES -- RUSSELL 2000 BREAKS RESISTANCE -- REITS LEAD THE REBOUND -- VORNADO AND SIMON LEAD REITS -- GOLD EDGES LOWER AS THE DOLLAR EDGES HIGHER -- CHINESE STOCKS TAKE A HIT -- CHINA ETF CLOSES STRONG

DOW CLOSES ABOVE 13600... Today's Market Message was written by Arthur Hill. John Murphy will be back tomorrow. - Editor

The Dow started the day weak, but firmed in the first hour and advanced throughout the day. The key average gained over 100 points and closed above 13600 for the first time ever. Despite a clear uptrend and no signs of weakness, the Dow remains overbought and looks ripe for a correction or consolidation. RSI has been above 70 for 24 of the last 28 days. The indicator first moved above 70 on 20-Apr and has remained strong the last seven weeks. The move back above 70 reflects both strength and overbought conditions. The overbought conditions argue for caution, while continued strength argues against turning bearish too early.

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IT AIN'T OVER UNTIL IT'S OVER... The trend is in place until proven otherwise. Prior to the February decline, the Dow advanced from mid July 2006 to mid February 2007 (seven months). The current advance is a mere three months old. RSI moved above 70 in early October 2006 and the Average did not pullback until mid February 2007, a full four months later. This advance may not last as long, but there is clearly some power behind the move and the bulls are not going to disappear overnight.

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RUSSELL 2000 TOYS WITH RESISTANCE... The Russell 2000 broke above resistance at 835 early last week, but got cold feel and fell back by the end of the week. Despite last week's failure, the index is making another bid to break above resistance this week and small-caps are showing resilience. The chart pattern at work looks like a sharp advance from March to April and then a consolidation that lasted around five weeks. The advance exceeded the February high and the index clearly shows more strength than weakness. This consolidation represents a rest in the ongoing up trend and the breakout at 835 signals a continuation higher. The bulls are in the driver's seat right now and it is up to the bears to prove the bullish cast otherwise. What would that take? First, the breakout would have the fail. Second, IWM would have to move below the March trendline. Third, IWM would have to break below the mid May low at 810. We should expect higher prices until the bears start proving the bullish case otherwise.

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REITS REBOUND... REITs have been top performers over the last two days. The REIT iShares (IYR) surged over 3% on Tuesday and is up over 2% today. Wednesday marks the third straight gain and volume has been above average all three days. Looking at the price chart, IYR broke consolidation support with a sharp decline in mid May and dipped below 80 last week. The dip below the 200-day moving average did not last long and the ETF surged back above 85 over the last three days. Despite this big move, the REIT iShares (IYR) is running smack into a resistance zone from the prior consolidation (gray oval). In addition, there is resistance in this zone from the February trendline and the 50-day moving average. IYR is not quite out of the woods just yet and a resistance breakout is needed to reverse the four month downtrend.

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SIMON AND VORNADO LEAD REITS HIGHER... Simon Property Group (SPG) and Vornado Realty Trust (VNO) are the two biggest components of the REIT iShares (IYR). Not surprisingly, both moved sharply higher the last three days and played a big role in the REIT rebound. SPG broke rising wedge resistance in early May and declined to its 200-day moving average last week. This key moving average held and the stock bounced back above 107 this week. Despite this rebound, the stock remains well below its declining 50-day moving average. VNO broke its 50-day moving average in early March, consolidated for a few months and then broke its 200-day moving average in mid May. These moving average breaks did not last long as the stock surged back above both this week. VNO is trading back in the consolidation zone and more work is required to forge a resistance breakout.

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GOLD AND DOLLAR FORM OPPOSING FLAGS... The US Dollar Index and StreetTracks Gold ETF (GLD) have gone their separate ways over the last few weeks. The US Dollar Index bottomed in late April and worked its way higher the last few weeks. The advance looks like a rising flag and these are potentially bearish patterns. Bear flags slope up and represent corrective rallies. The index became oversold in late April as RSI moved above 50 and the advance over the last few weeks alleviated this oversold condition. The bulls have a slight edge as long as the flag rises. Look for a move below the lower flag trendline and mid May low to confirm the flag and signal a continuation lower.

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In contrast to the US Dollar Index, the StreetTracks Gold ETF (GLD) has a falling flag working over the last few weeks. Bull flags slope down and represent corrective pullbacks. The ETF peaked in mid April and declined over the last 5-6 weeks. GLD broke support at 66 and this level turned into resistance last week. The bears have the edge as long as this flag falls. Look for a move above the upper flag trendline and resistance at 66 to reverse the flag and put the bulls back on track.

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CHINESE STOCKS TAKE A HIT... The Shanghai Composite ($SSEC) dropped 6.5% on news that the Chinese government will triple taxes on trading to curtail speculation. Unsurprisingly, weakness extended to the China Xinhau 25 ETF (FXI) in early trading as it pierced the 50-day moving average. The ETF recovered after a weak open and managed to close above the 50-day. This recovery is quite impressive and it will be interesting to see how the Shanghai Composite ($SSEC) reacts tomorrow.

FXI has been moving lower for two weeks now and On Balance Volume broke to its lowest level of the year. On Balance Volume was popularized by Joe Granville in the early 60s. This classic indicator measures buying and selling pressure by adding volume on up days and subtracting volume on down days. OBV hit a new high in early May and this affirmed strength in the China Xinhau 25 ETF (FXI). However, volume expanded with the decline over the last few weeks and OBV moved below its Jan-Mar lows. Granville theorized that volume follows price and OBV points to lower prices for the China Xinhau 25 ETF (FXI). OBV is taking a back seat to price action today and I would wait for a close below the 50-day before thinking bear.

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