NASDAQ AND NY COMP FALL SHARPLY - BREADTH REMAINS BULLISH OVERALL - INTEL LEADS SEMIS LOWER - SMH PULLS BACK TO BROKEN RESIST - BONDS BOUNCE ON LOW CPI NUMBERS - INFLATION-INDEXED BONDS FOLLOW GOLD

STOCKS FALL SHARPLY ... Link for todays video. Stocks came under pressure for the second time this week. All of the major indices were down on Friday with the small-caps leading the way lower. All nine sectors were down with the finance sector leading lower. Healthcare, consumer staples and utilities, the three defensive sectors, held up the best with the smallest losses. Despite a down week overall, the bigger trend remains up. Chart 1 shows the NY Composite falling below 7400 for the second time this week. Even so, the index remains above the resistance breakout at 7250. On the price chart, $NYA formed a cup-with-handle pattern and broke resistance on the first trading day of the year. Broken resistance turns into the first support level to watch. As far as the overall uptrend is concerned, the consolidation lows mark support at 7000. This level is confirmed by the trendline extending up from the August lows. A move below 7000 would call for a reassessment of the current uptrend.

Chart 1

Chart 2 shows the Nasdaq hitting the upper trendline of a rising price channel. I drew the lower trendline first and then set the upper trendline parallel from the September high. Since the July surge, the Nasdaq has been working its way higher with a zigzag advance. A series of higher highs and higher lows defines the uptrend/channel. Now that the index has reached the upper trendline, it is becoming overextended and ripe for a pullback or consolidation. The yellow zone marks the prior consolidation and current support zone. Key support is set at 2100. A break below this level would call for a reassessment of the current uptrend.

Chart 2

BREADTH REMAINS BULLISH OVERALL... The Nasdaq AD Volume Line, NYSE AD Line and NYSE AD Volume Line all recorded new 52-week highs this past week. While one can argue the need for a correction or pullback, it is hard to argue the bearish case when these key breadth statistics are hitting new higher. Chart 3 shows the Nasdaq AD Line breaking above its Sep-Oct highs in December and moving to new 52-week highs in January. Chart 4 shows the NYSE AD Line breaking to new highs in December and continuing higher in January. As with the Nasdaq AD Volume Line, it is a bit overextended from November to January, but the overall trend is clearly up. Chart 5 shows Net New Highs for the NYSE in the bottom indicator window. Net New Highs have been positive since mid July and expanded in January. There are no signs of underlying weakness here.

Chart 3

Chart 4

Chart 5

INTEL LEADS SEMIS LOWER... Despite better-than-expected earnings report, Intel (INTC) moved sharply lower on Friday and took the Semiconductors HOLDRS (SMH) with it. Chart 6 shows INTC breaking above resistance on Wednesday, but falling back into the resistance zone on Friday. Overall, the trend remains up on the daily chart. INTC held support in the 18-19 area from August to December and forged a higher high in January. With the close at 21.5 on Thursday, the stock was up over 15% from its early November low. Some sort of correction or pullback can be expected after such a move. The trendline extending up from the June low marks first support around 19.5-20. The August-November lows mark a big support zone around 18-19. The uptrend would not be fully reversed unless INTC breaks this support zone to forge a lower low.

Chart 6

Weakness in Intel weighed on the Semiconductors HOLDRS, of which Intel is the biggest component (23.28%). Texas Instruments (TXN) accounts for 19.85% and Applied Materials (AMAT) weighs 13.19%. Together, these three account for over 50% of the ETF. Chart 7 shows SMH breaking resistance in early December and forging a new 52-week high in early January. Selling pressure has since dominated the last five days. Even so, the overall trend for SMH remains up on the daily chart. Broken resistance around 26-27 turns into the first support zone to watch. We can also estimate potential support with the Fibonacci Retracements Tool. A 50% retracement of the November-January advance would extend back to 26. A 62% retracement would hit 25.5. A pullback below the 62% retracement would be deemed excessive and warrant a reassessment. Charts 8 and 9 show Applied Materials and Texas Instruments for reference.

Chart 7

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Chart 9

BONDS BOUNCE AS STOCKS FALL... Bonds attracted money as stocks moved sharply lower on Friday. Bonds also benefited from a decrease in inflation expectations as the Commerce Department reported the Consumer Price Index (CPI) for December. Consumer prices rose less than expectations, which lowered inflation expectations. Despite a bounce over the last few days, the bigger trend for bonds appears to be down. Chart 10 shows the 20+ Year Treasury ETF (TLT) breaking some key supports with the December decline and then firming around 89-90. The ETF surged above 91 today, but this looks like an oversold bounce within a bigger downtrend. Broken supports around 92-93 turn into resistance. There is also resistance around 93 from the October trendline.

Chart 10

The indicator window shows TLT with the DB Commodity Index Tracking ETF (DBC). Bonds and commodities typically enjoy an inverse relationship. Rising commodity prices increases the risk of inflation, which is bearish for bonds. Led by oil, commodities surged in late December and this weighed on the bond market. Again led by oil, commodities declined rather sharply over the last few days and this lifted the bond market. Chart 11 shows the 7-10 Year Treasury ETF (IEF) for reference.

Chart 11

INFLATION-INDEXED BONDS FOLLOW GOLD... The link between inflation expectations and bonds can be seen with the Inflation-Protected Bond ETF (TIP) and Gold ETF (GLD). As their name suggests, Inflation-Protected Bonds provide insurance against inflation. This insurance becomes more expensive when inflation expectations rise and less expensive when inflation expectations fall. Chart 12 shows a clear positive relationship between GLD and TIP in the bottom indicator window. Notice that both are rising and falling together. On the price chart, TIP found support at 103.5 and bounced in January. However, the ETF is running into resistance from the mid December highs around 105. Also note that the January advance retraced 62% of the prior decline. This is the moment-of-truth for the Inflation-Protected Bond ETF. Watch gold for clues as the ETF hits resistance.

Chart 12