STOCKS MOVE LOWER XLE FAILS AT RESISTACNE OIH GAPS DOWN BONDS DECLINE ON SUPPLY CONCERNS RATES SURGE XHB TURNS UNDERPERFORMER DOLLAR GETS WHACKED AGAIN GOLD AND SILVER SHINE

BROAD DECLINE ON WALL STREET... Link for todays video.


Stocks moved lower on Thursday after S&P warned that they may cut their outlook for the United Kingdoms sovereign debt. While it is certainly a plausible excuse, I have my doubts. As a credit rating agency, S&P is hardly known for being ahead of the curve. S&P moved after the fact on Enron, Worldcom, GM and Citigroup. Just to name a few. The problems plaguing the UK are nothing new and already priced into their stock and bond (gilt) markets. From a US perspective, we only need to be concerned with facts: stocks were down today. More importantly, todays weakness reinforces the prospects for a correction, which John Murphy and I have been talking about the last two weeks. Chart 1 shows the Nasdaq 100 ETF (QQQQ) peaking below its early May high and moving below 34. The first target zone (support) for this correction is around 31-32. Support in this area stems from broken resistance and the 38% retracement. The bottom indicator window shows 5-period RSI peaking around 60 and moving back below 50. Notice that the 40-50 zone acted as support during the uptrend. Should a correction unfold, I would expect the 50-60 zone to act as resistance over the next few weeks. Chart 2 shows the Russell 2000 ETF (IWM) with similar characteristics.

Chart 1

Chart 2

ENERGY STOCKS LEAD LOWER... Despite a sharp decline in the Dollar on Thursday, oil moved lower and this weighed on energy related stocks. Broad market weakness also contributed to weakness in the sector. Chart 3 shows the Energy SPDR (XLE) meeting resistance from the Nov-May highs around 52.5. This looks like a stiff resistance zone. After hitting resistance in early May, XLE declined with an uptick in volume last week (red arrows). This weeks bounce was on lower volume and the ETF is down sharply today. Looking at the uptrend since early March, the March trendline and early May low combine to mark support around 47.5. Todays gap is negative and a break below support here would reverse the 2-3 month uptrend.

Chart 3

OIH GAPS DOWN ... Chart 4 shows the Oil Service HOLDRs (OIH) with a pair of bearish candlestick patterns in May and a gap down today. First, a big bearish engulfing formed in early May (long red candlestick). Second, a shooting star candlestick formed two days ago (red arrow). The long upper shadow shows a failed intraday surge or an intraday reversal. Todays gap and decline confirm the shooting star. It is also worth noting that OIH formed a lower high last week, while the US Oil Fund ETF (USO) formed a higher high. OIH did not keep up with oil in May. It is a small discrepancy, but the oil service stocks have been known to lead the commodity. As far as the next support zone for OIH, broken resistance and the 38-50% retracement zone mark potential support in the upper 80s.

Chart 4

BONDS FALL ON SUPPLY CONCERNS... With jobless claims higher than expected and a weak stock market, bonds opened higher on Thursday morning. However, this small pop quickly faded as investors turned their attention to supply concerns. I was perusing the headlines at CBSMarketWatch today and came across back-to-back headlines that captured the supply-demand conundrum facing bonds traders. Notice that these headlines are within 2 minutes of each other.

Chart 5

As you can see, the Fed purchased just over $7 billion of Treasuries, but the Treasury will sell over $100 billion worth next week. That is $10 of selling for every 74 cents of buying. With more sellers than buyers out there, it is little surprise that bonds moved sharply lower today. Chart 6 shows the 20+ Year Treasury ETF (TLT) with a large falling wedge taking shape. TLT got a pretty good bounce last week as stocks fell, but bonds did not benefit from weakness in stocks today. Even though this wedge is potentially bullish as a corrective pattern, the trend is currently down as the correction extends. Wedge resistance resides around 100-101 and it would take a move above this level to reverse this downtrend. Chart 7 shows the 7-10 Year Treasury ETF (TLT) with a descending triangle, which is a bearish pattern. A break below support would signal a continuation lower. What would it take to move bonds higher? Further weakness in the stock market could push money towards bonds. An increase in the Fed purchase program would also be positive. And finally, any news of economic weakness would benefit bonds. These are fundamental reasons though. Keep your eye on the chart for actual proof of buying pressure.

Chart 6

Chart 7

RATES MOVE HIGHER... With the fall in bonds today, the 10-Year Treasury Yield ($TNX) moved back towards its early May high. Chart 8 is the inverse of TLT. Instead of a falling wedge, a rising wedge is taking shape. Broken support around 33-34 turns into resistance, which is also confirmed by the 62% retracement mark. A rising wedge is typical for a counter-trend move or bounce within a bigger downtrend. Even though resistance is nigh, the current trend is up for interest rates. Chart 9 shows the interest rate sensitive Homebuilders SPDR (XHB) breaking down in May. After a sharp decline at the beginning of the month, the ETF bounced back above 12.5 on Monday. This bounce was short-lived as XHB broke down again over the last two days. The price relative shows how XHB went from an outperformer to an underperformer over the last few weeks.

Chart 8

Chart 9

DOLLAR TAKES ANOTHER WHACK... Inflation worries weigh on the greenback. As noted in detail on Wednesday, inflationary pressures appear to be building in the markets. Even though the Inflation-Protected Bond ETF (TIP) is also down sharply today, it hit a new high on a relative basis. Chart 10 shows the Inflation-Protected Bond ETF (TIP) relative to the 20+ Year Treasury ETF (TLT). Notice that this price relative moved above 1.05 this week.

Chart 10

Chart 11 shows the Dollar Bullish ETF (UUP) sinking towards its December lows. The Dollar moved higher in January-February as a safe-haven during stock market weakness. The March-May advance in stocks detracted from this safe-haven status. Now, the Dollar is getting hit by inflationary pressures because inflation dilutes the purchasing power, and hence the value, of the currency. With the Dollar moving sharply lower gain, the Gold ETF (GLD) and the Silver ETF (SLV) moved sharply higher.

Chart 11

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