ENERGY AND MATERIALS SECTORS LEAD THE WAY LOWER -- COMMODITIES TUMBLE AS DOLLAR REBOUNDS -- THE DOW AND SHORT-TERM INTEREST RATES -- NEW LOWS STILL OUTPACING NEW HIGHS

XLE AND XLB GET SLAMMED... Today's Market Message was written by Arthur Hill. John Murphy will return tomorrow. - Editor

The Energy SPDR (XLE) and the Materials SPDR (XLB) led the market lower on Wednesday. This is no doubt due to sharp declines in oil, copper, gold, silver and commodities in general. These declines were brought about by a bounce in the U.S. Dollar Index ($USD) and concerns that a slowing U.S. economy will affect demand. XLB was holding up quite well in February-March, but never broke above resistance from its October-December highs (Chart 1). The ETF forged a lower high in late February. Also notice that the 50-day moving average moved below the 200-day moving average for the first time since October 2006. On Chart 2, XLE broke support with a sharp decline in January, but rallied back towards resistance in February. The ETF did not quite make it though and formed a lower high in late February. With a sharp decline over the last three weeks, XLE broke below its 50-day and 200-day moving averages.

Chart 1

Chart 2

EURO TAKES A HIT AS DOLLAR REBOUNDS... The Euro Trust ETF (FXE) declined sharply as the U.S. dollar rebounded over the last two days. Even though the bigger trend remains down for the U.S. Dollar Index ($USD), it was ripe for a bounce after becoming severely oversold. Chart 3 shows the Euro Trust ETF (FXE) stalling on Monday with a big doji just below 158. This was followed by a bearish engulfing on Tuesday and further weakness on Wednesday. The big trend remains up, but the ETF was ripe for a pullback after becoming overbought. For targets, broken resistance around 150 turns into support. In addition, a 50-62% retracement of the February-March advance would call for a correction back to the 150-152 region.

Chart 3

Chart 4

COMMODITIES WILT WITH DOLLAR REBOUND... Even though the rebound in the U.S. dollar is just a couple days old, the commodity-related ETFs took big hits over the last few days. John Murphy noted on Tuesday that an oversold bounce in the dollar could trigger profit-taking in overbought commodities. These ETFs have been on a tear the last few months and were ripe for some sort of correction or pullback. Chart 5 shows the Commodity Tracking Fund (DBC) gapping down on Monday, stalling on Tuesday and falling further on Wednesday. Broken resistance and the rising 50-day moving average mark support around 33-34.

Chart 5

The Base Metals PowerShares ETF (DBB) peaked in early March and declined over 10% from its highs (Chart 6). The ETF never recovered after gapping down on Monday. Despite weakness again on Wednesday, DBB may find some support soon from a pair of key moving averages and broken resistance.

Chart 6

With a sharp decline over the last two days, the streetTRACKS Gold ETF (GLD) is down around 10% from Monday's high (Chart 7). Despite this sudden drop, support may be at hand from the rising 50-day moving average and broken resistance. The next support level is around 87.54 from the February low. A lot depends on what happens to the dollar and other commodities.

Chart 7

And finally, the United States Oil Fund ETF (USO) tumbled from overbought levels the last three days (Chart 8). The ETF became overbought after surging from 68 to 88 (~30%) in less than two months. USO broke resistance around 76-78 in the process and this resistance zone becomes support.

Chart 8

SHORT-TERM RATES AND THE DOW ... Even though short-term rates declined sharply over the past year, a long-term bottom in stocks could still take time. Chart 9 shows the Dow Industrials with the 3-month T-Bill Yield ($UST3M) over the last 10 years. As a measure of short-term interest rates, movements in the 3-month T-Bill Yield roughly correspond to the fed-funds rate. The sharp decline in 2001 coincided with cuts in the fed-funds rate. The advance from June 2004 to July 2006 coincided with increases in the fed-funds rate.

Chart 9

What can we learn from this chart? First, the Fed can move fast. The Fed furiously cut rates in 2001 as the 3-month T-Bill Yield fell from around 6% to 1.75% in a year. Currently, the 3-month T-Bill Yield fell from around 5% to 1% in less than a year. This decline is just as sharp as 2001. Second, lower rates do not immediately translate into higher stock prices. The Dow surged above 10500 as the 3-month T-Bill Yield initially fell below 2%, but this rally faded and the Dow declined below 8000 in October 2002 (orange area). The 3-month T-Bill Yield remained below 2% into 2003, but the Dow did not forge a higher low until early 2003.

BREADTH SURGES ON TUESDAY... Whenever there is a big move in the stock market, I always check breadth to determine the extent of participation. A broad advance features strong breadth, while a narrow advance comes with weak breadth. Chart 10 shows the NYSE Composite with key breadth stats: AD Net ($NYAD), AD Volume Net ($NYUD) and Net New Highs ($NYHL). AD Net equals advances less declines. AD Volume Net equals the volume of advancing stocks less the volume of declining stocks. Net New Highs equals new 52-week highs less new 52-week lows.

Chart 10

For AD Net on the NYSE, moves above +2000 and below --2000 appear to be significant (exceptional buying pressure versus exception selling pressure). From December to early March, AD Net did not exceed +2000, but dipped below --2000 a least six times. There was much more exceptional selling pressure over this timeframe. AD Net did manage to move above +2000 last Tuesday (11 Mar), and this past Tuesday (18 Mar). These are the first strong signs of exceptional buying pressure since late November. Despite two strong days, Net New Highs remain in negative territory and the bulls are not out of the woods just yet. You can click this chart to see the settings and save it to your Favorites.

Chart 11

Chart 11 shows a similar pattern with the Nasdaq breadth statistics. For AD Net, I set the bullish threshold at +1500 and the bearish threshold at --1500. AD Net did not exceed +1500 from December to mid March. Even with the surge on 11 Mar, AD Net fell a bit short and did not confirm the NYSE. However, AD Net did surge above +1500 this past Tuesday. As with the NYSE, new 52-week lows are still outpacing new 52-week highs. Except for a couple of days around Christmas, Net New Highs have been negative since late October. This shows that the more speculative issues of the Nasdaq remain under pressure. You can click on this chart to see the settings and save it to your Favorites.