STOCKS FALL SHARPLY ON INCREASING VOLUME - FINANCIALS LEAD LOWER - RETRACEMENT CLUSTERS MARK RESISTANCE FOR KEY SECTORS - DOLLAR SURGES AS STOCKS DECLINE - GOLD FOLLOWS EURO LOWER - BONDS BENEFIT FROM WEAKNESS IN STOCKS

SELLING PRESSURE INTENSIFIES... Video Link (click here) Wall Street was hit with heavy selling pressure ahead of Fridays employment report. All major indices were down over 2%. Small-caps led the way with the Russell 2000 lost over 3%. All nine sectors were down with the Materials SPDR losing almost 4% and the Financials SPDR losing over 4%. Charts 1 and 2 show the Nasdaq and the NY Composite falling sharply with increasing volume. Both are down six of the last seven days. In addition, the Nasdaq traded above average volume on five of those down days. The NYSE traded above average volume the last two days. This is clearly the most selling pressure seen since the June-July correction. This correction lasted four weeks, notice that volume did not expand. The current volume expansion shows an increase in selling pressure that could signal an extended correction period ahead.

Chart 1

Chart 2

FINANCE SECTOR PACES DECLINE... As noted above, all nine sectors were lower on Thursday with the Financials SPDR (XLF) leading the way down. Chart 3 shows XLF loosing over 4% with a long red candlestick. Notice that the ETF opened weak with a gap down and closed weak. Selling pressure stretched the entire day. The next support zone is around 13.5 from the 38.2% retracement mark and the August-September lows. A break below these lows would argue for a deeper retracement towards the 62% mark around 12.50. The bottom indicator window shows RSI moving below 50 and to its lowest level since July. Momentum is the weakest since the June-July correction. Chart 4 shows weekly bars over the last three years. The March-09 to September-09 advance retraced 50% of the September-08 to March-09 decline. As noted with other charts last week, the 50-62% retracement zones can mark resistance. Also notice that broken support from the spike lows in July-September 2008 turns into resistance.

Chart 3

Chart 4

RETRACEMENT RESISTANCE ABOUNDS ... Last week I showed long-term resistance for the Russell 2000 ETF (IWM) and the S&P 500 ETF (SPY). In particular, I showed a technique for using retracement clusters. Sometimes there is more than one move that seems worthy of the Fibonacci Retracements Tool. Therefore, I sometimes apply the Fibonacci Retracements Tool to two declines and look for overlap to reinforce a resistance level. In addition, I am also looking at broken support levels that can turn into resistance. Looking through the weekly SPDR charts, I came across three with Fibonacci retracement clusters and resistance from broken support. The Technology SPDR (XLK), the Consumer Discretionary SPDR (XLY) and the Healthcare SPDR (XLV)** all hit such resistance zones in September. Even though the trend since March remains up, all three are way overextended after huge moves. With these resistance zones at hand, this looks like as good a spot as any for a pullback or a correction.

Chart 5

Chart 6

Chart 7

DOLLAR EXTENDS ITS BOUNCE... The US Dollar Index ($USD) is trying to make it two weeks in a row. Early April was the last time the US Dollar Index advanced two weeks straight (green arrow). Jawboning from the European Central Bank President Trichet put downward pressure on the Euro and upward pressure on the Dollar today. Chart 8 shows weekly bars with a falling wedge extending down from the March high. Even though the upper trendline is steep, a break above would be the first positive sign in months. Before leaving this chart, it is worth noting the inverse relationship between stocks and the Dollar. This inverse relationship is in play today. Chart 9 focuses on the falling wedge with daily bars from February to September. The wedge does not look as steep now. I am marking trendline resistance at 78. A break above this level would provide the first signs of a trend reversal in the greenback. The bottom indicator window shows RSI bumping its head against the 50-55 area again. This area marked momentum resistance from July to September. A break above 55 would turn momentum bullish and also increase the odds of a trend reversal. Notice that RSI would likely break 55 if the index breaks 78. A trendline represents downside momentum and a break signals a change in momentum.

Chart 8

Chart 9

GOLD FOLLOWS THE EURO... Unsurprisingly, the Gold ETF (GLD) followed the Euro ETF (FXE) lower today. Yes, we still need to watch the Dollar and the Euro for clues on gold. Gold is negatively correlated to the Dollar and positively correlated to the Euro. Chart 10 shows the Euro and gold moving together for most of the last five months. There was a 3-4 week period of decoupling (yellow area), but this relationship got back on tract in mid July. At around 57%, the Euro is the single biggest component in the US Dollar Index. Therefore, the direction of the Euro dictates the direction of the US Dollar Index. As an aside, it is interesting to note that the Euro-Gold decoupling occurred when the stock market corrected in June-July.

Chart 10

BONDS ATTRACT MONEY... Money moving out of stocks found its way into the bond market. Chart 11 shows the 20+ Year Treasury ETF (TLT) exceeding 100 with todays intraday high. TLT has been trending higher since mid June. The yellow area marks a potential resistance zone from the February-March consolidation. The red dotted line marks the middle at 103. It is also possible that a rising price channel evolves. I drew the lower trendline first and the upper trendline extends to the 102-103 area over the next few weeks. In the bottom indicator window, the red line is the Commodity Tracking Fund (DBC) and the blue line is the 20+ Year Treasury ETF. Notice the inverse relationship here. DBC peaked in early August and declined the last two months. TLT bottomed in early August and moved higher. Bonds could also be rising on the prospects for lower inflation. Chart 12 shows the 10-Year Treasury Yield ($TNX) breaking below its July low. The 10-Year Treasury Yield peaked around 4% in June and has been falling the last three months. Interest rates often decline ahead of economic weakness.

Chart 11

Chart 12