DOW AND S&P 500 FIND SOME SUPPORT -- FINANCE AND BROKERS REMAIN WEAK -- CORRECTIONS VERSUS TREND CHANGES -- NYSE STOCKS ABOVE 200-DAY -- A MIRROR START FOR THIS DOWNTREND
DOW AND S&P 500 TESTS SUPPORT... Today's Market Message was written by Arthur Hill. John Murphy will return tomorrow. - Editor
After sharp declines late last week, the Dow and S&P 500 are finding some support from their February lows. Both broke key support levels in January with sharp declines. These broken supports turned into resistance in February. The S&P 500 and Dow failed to break back above broken support in early February and again in late February. These failures reinforce resistance around 1400 for the S&P 500 and 12750 for the Dow. Even though both show signs of firming at their February lows, we should keep in mind that the bigger trend is down. The 50-day moving average moved below the 200-day moving average and both moving averages are falling. Advances are uphill affairs that must fight the bigger downtrend. For this reason, support from the February lows is just potential support and the odds favor a break to new lows.
Chart 1
Chart 2
FINANCE SECTOR REMAINS WEAK... The finance sector remains the Achilles heel of the market. In particular, the Finance SPDR (XLF) and the Broker Dealer iShares (IAI) are testing their January lows and showing relative weakness. On Chart 3, XLF gapped down in early February and again last week. Both gaps held as the ETF continued lower after each gap. I am marking resistance at 28, which stems from the falling 50-day moving average and the late February high. The bottom indicator shows the price relative, which compares the performance of XLF to the S&P 500. This indicator broke below its January low to confirm relative weakness. Chart 4 shows the Broker Dealer iShares (IAI) with a similar situation (gaps, resistance and relative weakness). In fact, IAI is even weaker than XLF over the last few weeks. Notice that the price relative decisively broke to new lows over the last few days. With banks and brokers forming the backbone of the financial system, relative weakness in these two is a grave concern for the market overall. A sustainable advance is unlikely until these two turn around.
Chart 3
Chart 4
NO ORDINARY DECLINE... It is sometimes difficult to distinguish between sharp corrections and trend-changing declines. Uptrends consist of higher highs and higher lows. Even with a sharp correction, a security should hold above its prior reaction low to keep the series of higher lows intact. This is the nature of an uptrend-higher highs and higher lows. Two steps forward (up) and one step backward (down). The opposite is true for downtrends, which consist of lower highs and lower lows.
Chart 5
Chart 6
Using the NY Composite as an example (Chart 6), we can see that the index forged a reaction low in August and a higher high in October. As of October, the uptrend was still intact. The index then experienced a sharp decline that broke the August low in January. Contrary to prior declines, this decline did not hold the prior reaction low. As such, we should consider it more than just a correction. It was a trend-changing event. This decline established the first reaction low of a new downtrend. More importantly, the index is likely to break this low before the downtrend runs its course.
NYSE STOCKS ABOVE 200-DAY ... We can also use indicators to differentiate between sharp corrections and trend-changing declines. Chart 7 shows the NY Composite over the last 5 and a half years. The green line shows the percentage of NYSE stocks above their 200-day moving averages. This indicator dipped into the 40-60 range at least six times during the bull market (green arrows). In each case, the market rebounded after moving into this zone. The July low broke below 40% for the first time and the January low broke below the July low. The percentage of NYSE stocks above their 200-day moving averages even dipped below 20% in January. This is no ordinary decline. Like the break below the August low, this was a trend-changing event. The 40-60 zone that offered support during the bull market will now act as resistance. Notice that the indicator met resistance at 60 in early October (red arrow). You can click on this chart to see the settings and save it to your Favorites.
Chart 7
BOTTOMS VERSUS TOPS... While looking at the five-year bull run, I was struck by the inverse similarities between the April 2003 breakout and the January 2008 break down. The yellow areas show the start of the bull market and the beginning of the bear market. The first big trend reversal started with two lows around 4700-4800 and a resistance breakout in April 2003. There was a consolidation just above the resistance breakout and then a continuation higher. Thus began the bull market.
Chart 8
The next big trend reversal started with two highs around 10200-10300 and a support break in January 2008. The index consolidated just below the support break over the last few weeks. Look for a move below consolidation support to signal a continuation lower. The bull market lasted 5 years and carried the NY Composite from 4600 to 10300. That's over 100% in five years, which is not a bad bull run at all. Remember the two steps forward and one step backward analogy? A 50% correction (one step backward) would carry the index back to around 7500.
