POSITIVE CHART DIVERGENCES SHOW MARKET IMPROVEMENT -- SECTOR ROTATIONS SHOW CONSUMER DISCRETIONARY STOCKS OUTPLACING STAPLES -- STOCKS SEE MINOR PROFIT-TAKING ON LOWER VOLUME

POSITIVE DIVERGENCES... I made mention yesterday of the fact that several of our technical indicators were looking more positive. I'm referring primarily to "positive divergences" that have shown up during the most recent first quarter price drop. Here are two that I've shown before. I'm using weekly charts because they carry more significance than dailies. Chart 1 shows a positive divergence between the S&P 500 price bars and the 14-week RSI line. [A positive divergence exists when prices hit a new low and an indicator doesn't. That's especially true when the RSI is in oversold territory below 30]. Chart 2 shows a similar positive divergence between the S&P and weekly MACD lines. In fact, the weekly MACD lines have turned postive. [That can be seen more clearly by the histogram bars moving over the zero line]. Those are the most notable divergences that have appeared since the bear market started, and suggest that the current rally has some legs. Those positive divergences take on more meaning if the market has completed a major five-wave decline as I suggested in my March 13 message. The most likely upside target is the January high. What the S&P does from there will determine if this is just another bear market rally or something more lasting. There are other positive signs as well.

Chart 1

Chart 2

BULLISH PERCENT INDEX TURNS UP ... The NYSE Bullish Percent Index measures the percent of NYSE stocks that are in point & figure uptrends. Generally speaking, readings above 70 are overbought while readings below 20 are oversold. The BPNYA gave a big negative divergence during October 2007 (red line) and helped warn of a major market top (which I pointed out at the time). The line declined below 10% during October before turning up sharply. The good news is that the first quarter decline held above its October bottom. That's another positive divergence.

Chart 3

RECENT SECTOR ROTATION IS POSITIVE... There are also signs of improvement showing up in various sector rotations. Chart 4 is a ratio of the Consumer Discretionary SPDR (XLY) divided by the Consumer Staples SPDR (XLP) since the start of 2008. The ratio shows the relationship between a defensive group (XLP) and one that does better when investors are more optimistic (XLY). The XLY:XLP ratio has fallen steadily since the middle of 2007 as investors fled discretionary stocks (which include retailers and homebuilders) and moved to the relative safety of consumer staples. What's notable in Chart 4 is the fact that the March ratio is low is much higher than the November low (another positive divergence). The last positive divergence took place last spring (first green arrow) and resulted in a 15% rally from mid-March to May. This upturn looks more impressive. None of these indications guarantee a final bottom. A lot more work needs to be done before than can be determined. The weight of these chart signs, however, suggest that the market is ripe for a more meaningful rebound.

Chart 4

STOCKS PULL BACK ON LIGHTER VOLUME... Stocks suffered some minor profit-taking today. Although I would have preferred some upside follow-through from yesterday's strong up day, no real chart damage was done. Chart 5 shows the NYSE Composite Index dipping 2%. The good news is that it remains above its 50-day moving average and volume was relatively light. The S&P 500 also remained above its 50-day line and the 800 level. It would probably take a close below last Friday's intra-day low at 4822 in the NYSE (766 in the S&P 500) to negate yesterday's strong price action. Daily MACD lines still show an upward bias.

Chart 5