HOME DEPOT LEADS RETAIL GROUP LOWER -- YESTERDAY'S RETAIL LED BOUNCE SHOWS NO FOLLOW THROUGH -- MARKET APPEARS TO BE CONSOLIDATING IN DOWNTREND -- WAVE PATTERNS SUGGEST AT LEAST ONE MORE DOWNLEG

HOME DEPOT LEADS RETAIL LOSSES ... A government report on retail spending sent that group higher yesterday. Arthur Hill pointed out, however, that the retail group is still in a downtrend. He also showed that while Wal Mart (the largest stock in the retail group) was doing much better than the Retail Holders (RTH), most other retail stocks were underperforming the RTH. That's where most of the weakness is coming from. Chart 3 compares three of the biggest stocks in the RTH to the index itself (black line). While the Retail Holders have fallen -6% over the last year, Home Depot (blue line) has fallen 29%, Lowes (green line) -23%, and Walgreen (red line) - 21%. While Wal Mart (which gained 10% over the past year) is the biggest RTH holding (19%), Home Depot is second at 12%. Home Depot's -29% loss more than offsets Wal Mart's 10% gain. The fact that retailers are among today's weakest groups suggests that yesterday's optimism may have been premature.

Chart 1

RETAIL TREND IS STILL DOWN ... Arthur Hill showed that the Retail Holders (RTH) were still in a downtrend yesterday. The declining red trendline in Chart 2 drawn over the past year's declining peaks shows that. I've also overlaid on Chart 2 Fibonnaci retracement lines which usually act as resistance barriers during bounces. The chart shows that at its highest point, the recent RTH rebound retraced 50% of its July/January downtrend. That's usually where a bounce in a downtrend starts to run into new selling. Chart 3 applies the same lines to the Consumer Discretionary SPDR (XLY). That chart shows that the XLY has recovered only 38% of its July/January decline, which is usually the first resistance barrier in a rally attempt. So far, there's little chart evidence to show that these are anything more than bear market bounces.

Chart 2

Chart 3

NASDAQ TRIANGULATING IN DOWNTREND... One of our readers asked me to show a chart of the Nasdaq market. Chart 4 shows the Nasdaq Composite Index still trading below its August low, which is a new resistance barrier. The shape of the recent consolidation resembles a "triangle" in the making which would suggest the likelihood of another downleg. That's because "triangles" are normally continuation (as opposed to reversal) patterns. There's another technical reason why a negative triangle is likely at this point. Since October, the Nasdaq has fallen in three waves, with the third wave ending in mid-January (see numbers). A triangle is usually a fourth wave, and a bear market usually takes place in five waves. That means there's a strong likelihood of one more downleg before things can start to stabilize. Notice also that the Nasdaq/S&P 500 ratio (below chart) has been falling since early November. That line would have to start rising for the Nasdaq to begin to show some market leadership. Right now, it's leading to the downside.

Chart 4

MORE ON ELLIOTT WAVES... My prior statement about bear markets taking place in five waves is based on Elliott Wave theory. Let's apply the same analysis to the daily chart of the S&P 500. Chart 5 shows the S&P declining in three waves from early October to mid-January (two down waves with an intervening rally). One of the most important Elliott rules is that a wave 4 rebound should never move above the bottom of wave 1 (1400). That's why I recently suggested that the market would have difficulty clearing the 1400 level. As long as it doesn't, there's a strong likelihood of one more (fifth) downwave before the decline from last October is complete. There's another Elliott rule which is worth keeping in mind. Wave 5 is usually at least as long as wave 1. Wave 1 fell from 1575 to 1400 (-175 points). Subtracting that 175 points from the top of Wave 4 (1400) gives a potential target to 1225. The 1225 level corresponds to the bottom formed during the spring of 2006 (Chart 6). That's the next logical support level (and target) if the downtrend resumes. In order to disturb the orderly downtrend, the S&P 500 (and the other market indexes) would have to close decisively over their late-January highs.

Chart 5

Chart 6