DARK CLOUDS AND SHOOTING STARS TAKE SHAPE - REVIEWING TUESDAYS SURGE ON LOW VOLUME - NASDAQ AND NY COMPOSITE BATTLE THEIR 200-DAY AVERAGES - CONSUMER DISCRETIONARY SECTOR SHOWS RELATIVE WEAKNESS - BONDS PLUNGE ON SUPPLY CONCERNS

DARK CLOUDS OVERHEAD... Link for todays video.

The S&P 500 ETF (SPY) and the Dow Diamonds (DIA) opened strong and closed weak on Wednesday. Charts 1 and 2 show both giving back more than half of yesterdays big gain with long red candlesticks. In fact, SPY and DIA almost formed dark cloud cover patterns. These are bearish candlestick reversal patterns that form with a long white candlestick followed by a red candlestick. A red filled candlestick means the close was below the open and the close was below yesterdays close. A dark cloud cover requires the open of the red candlestick to be above the prior days high. DIA and SPY opened strong, but the open was just below yesterdays high. Even though a strict-interpretation dark cloud cover pattern did not form, the spirit of the pattern is there. Consider what this candlestick is telling us about todays price action. After Tuesdays big advance and long white candlestick, buying pressure continued on Wednesday with further gains in the morning. However, selling pressure soon entered the picture and increased significantly in the afternoon to push prices sharply lower. The bulk of todays decline occurred from 1 to 4 PM. The inability to follow though on Tuesdays surge showed diminishing buying pressure, while the sharp afternoon decline showed a significant increase in selling pressure. This is the third such decline since DIA formed a bearish engulfing pattern on May 8th. Both DIA and SPY formed lower highs over the last few weeks and a falling flag could be taking shape. Right now though, the bears have a short-term edge as long as the flag falls. A move above flag resistance would break the fall and reassert the March-May uptrend.

Chart 1

Chart 2

QQQQ AND IWM ALSO GIVE UP GAINS... While on the subject of candlesticks, todays price action produced two more bearish candlestick reversal patterns in the Nasdaq 100 ETF (QQQQ) and the Russell 2000 ETF (IWM). Chart 3 shows QQQQ with its second shooting star in as many weeks. These form with a long upper shadow that represents the intraday high. In other words, QQQQ surged above 35 during the session, but fell back by the close and ended the day well below its intraday high. This candlestick depicts a failed intraday rally. Also notice that QQQQ closed near its low for the day. IWM also moved higher in early trading, but fell back by the close and ended near its low for the day. Chart 4 shows IWM with a harami over the last two days. These form when the body of the second candlestick is inside the body of the first candlestick. Only the open and the close are used to form the body. Harami are similar to inside days because they represent indecision that can sometimes foreshadow a short-term reversal. Both shooting stars and harami require confirmation with further weakness.

Chart 3

Chart 4

BIG SURGE ON LOW VOLUME... The Nasdaq and the NY Composite scored big gains with Tuesdays surge. While this surge was certainly impressive from a price standpoint, it was not impressive from a volume standpoint. Volume is typically more important to advances than declines. As fuel, increasing volume is needed to feed a rally. A low volume rally is like a fire without air: it can only burn for so long. Chart 5 shows the Nasdaq with volume and key breadth stats. Tuesdays volume was below average and well below the levels seen in late April and early May. There also were fewer Net Advances ($NAAD) on Tuesday than last week (red arrow). This reflects fewer upside participants than last week, which is a negative sign. On the positive side, Tuesdays Net Advancing Volume ($NAUD) was higher than last weeks (green arrow). This shows leadership from the large-caps that usually dominate the most active list on the Nasdaq. This includes Apple, Dell, Intel, Microsoft, Cisco, Applied Materials and Oracle.

Chart 5

Chart 6 shows the NY Composite with volume and key breadth stats. As with the Nasdaq, the NY Composite surged on Tuesday, but volume did not and finished well below average. Volume was also well below the levels seen in late April and early May. In fact, upside volume has not been above average since May 8th when volume exceeded 3 billion shares. Low upside volume over the last two weeks is negative. The next indicator windows show Net Advances and Net Advancing Volume with lower highs (red arrows). Participation in Tuesdays surge was less than that seen during last weeks surges. In fact, notice that Net Advancing Volume peaked on May 8th and formed lower highs over the last two weeks. Before leaving these two charts, it is also worth noting that both the NY Composite and the Nasdaq are battling their falling 200-day moving averages. The Nasdaq surged back above its 200-day moving average on Tuesday, but the NY Composite remains below its 200-day moving average.

Chart 6

CONSUMER DISCRETIONARY AND TECH LAGGING ... Chart 7 shows the S&P Sector SPDR Perfchart from April 30th until May 27th. The percentage figures represent over (positive) and under (negative) performance versus the S&P 500. For example: the S&P 500 is up 2.32% during this timeframe, but the Consumer Discretionary SPDR (XLY) is down 1.98%. This means that the Consumer Discretionary SPDR is underperforming the S&P 500 to the tune of -4.3% (-1.98% - 2.32% = 4.30%). So far in the month of May, the consumer discretionary, technology and industrials sectors are showing relative weakness. These were the sectors that led from early March until early May. However, they are now showing relative weakness and this is negative for the overall market. In particular, it seems ominous when the most economically sensitive sector (consumer discretionary) shows relative weakness.

Chart 7

BONDS GET SLAMMED... US Treasuries declined sharply as supply concerns gripped the market for the fourth straight day. In last Thursdays market message, I showed a headline snapshot from CBSMarketWatch. These headlines showed the Fed buying just over $7 billion of Treasuries, while the Treasury was selling over $100 billion worth. The Fed represents a portion of demand and the Treasury represents supply. You do not need a calculator to figure out that the supply-demand imbalance here. Of course, the Fed is not the only buyer. There may be some good news though. With todays $35 billion auction, the Treasury is only left with another $26 billion worth to auction tomorrow. Year-to-date, the Treasury as raised over $700 billion by selling bonds. It is truly a staggering amount that has the bond market nervous, very nervous. Chart 8 shows the 20+ Year Treasury ETF (TLT) moving just below its November low today. Chart 9 shows the 7-10 Year Treasury ETF (TLT) breaking descending triangle support last week and moving below its 200-day moving average. Both have been in a free-fall the last four days. As a result of the bond market free fall, interest rates have moved sharply higher. Chart 10 shows the 10-Year Treasury Yield ($TNX) moving above 3.6% (36) for the first time since early November. Rising interest rates translate into higher borrowing cost for the US government, which will further exasperate the current deficit. In addition, a rise in interest rates could affect an economic recovery, especially in interest sensitive industries, such as homebuilders.

Chart 8

Chart 9

Chart 10