SMALL-CAPS AND TECHS LEAD BROAD RALLY - MATERIALS, INDUSTRIALS AND TECHNOLOGY LEAD SECTORS - INTEL, APPLIED MATERIALS AND MICRON LEAD SEMIS - TOPS USUALLY EVOLVE AS A DISTRIBUTION PROCESS - DEALING WITH THURSDAY'S DATA SPIKES
SMALL-CAPS AND TECHS LEAD BROAD RALLY... Link for today's video. Stocks moved higher for the third day running with solid gains in all of the major indices. Small-caps led the way higher as the Russell 2000 ETF (IWM) gained around 3% on the day. Chart 1 shows IWM finding support near the 62% retracement and broken resistance in the 64-66 area. The ETF surged back above 71 today and is up almost 10% over the last three days. The indicator window shows the price relative, which compares the performance of IWM to the S&P 500 ETF (SPY). Small-caps continue to lead large-caps and this reflects a healthy appetite for risk.
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Chart 1
Chart 2 shows the Nasdaq 100 ETF (QQQQ) reversing just below the 62% retracement mark around 45.62. With the move above 48, the ETF is up almost 7% in the last three days. Large techs are not performing as well as small-caps, but they are doing well enough. IWM and QQQQ are nearing their first resistance test. Broken support around 72 turns into a resistance zone for IWM and broken support around 49 turns into a resistance zone for QQQQ.
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Chart 2
MATERIALS, INDUSTRIALS AND TECHNOLOGY LEAD SECTORS... All nine sectors were up on Wednesday with three up more than 2%: the Materials SPDR (XLB), the Industrials SPDR (XLI) and the Technology SPDR (XLK). The defensive sectors were the weakest today as the Healthcare SPDR (XLV), Consumer Staples SPDR (XLP) and Utilities SPDR (XLU) posted the smallest gains (under 1%). Relative weakness in the defensive sectors and relative strength in a few offensive sectors shows a return to risk. Despite a gain in the Dollar today, materials benefitted from strength in chemicals, coal, precious metals, mining and steel. Chart 3 shows the Materials SPDR finding support above the February low with a bounce this week. Also notice that 14-day RSI became oversold in early May, just as it did in late January. This week's bounce establishes a reaction low at 31 to base support. Failure to hold this bounce and a break below channel support would be bearish. Chart 4 shows the Market Vectors Steel ETF (SLX) also finding support above its February low and bouncing this week. The trendline extending up from the late October lows confirms support at 57.5. Failure to hold this week's bounce and a close below this level would be bearish.
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Chart 3
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Chart 4
INTEL, APPLIED MATERIALS AND MICRON LEAD SEMIS... All components of the Semiconductors HOLDRS (SMH) were up on Wednesday. Chart 5 shows the ETF hitting a new 52-week high above 30 a few weeks ago. The decline to 27 retraced around 62% of the prior advance and found support just above the July trendline. So far, a higher low has formed and the trendline has held. The decline to 27 may look drastic, but it is still within the realm of a bigger uptrend.
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Chart 5
Within the semiconductor group, chart 6 shows semiconductor equipment maker Applied Materials (AMAT) surging over 3% with good volume. Chart 7 shows Intel (INTC) surging over 3.5%. Volume was above average, but the lowest of the month. Watch support at 22 for signs of failure. Chart 8 shows DRAM and flash memory producer Micron (MU) holding support from its February lows.
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Chart 6
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Chart 7
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Chart 8
TOPS USUALLY EVOLVE AS A DISTRIBUTION PROCESS... Even though this took place in April, the list of industry group ETFs recording new 52-week highs last month was quite impressive: Homebuilders (XHB), Retailers (XRT), Regional Banks (KRE), REITs (IYR), Transports (IYT), Internet (FDN), Networking (IGN), Semis (SMH) and Software (SWH). This is not a weak list. The fact that these key industry groups recorded new 52-week high last month suggests more strength than weakness. Homebuilders, Retailers and Transports are part of the important consumer discretionary sector. Chart 9 shows the Retail SPDR (XRT) hitting a new 52-week high above 44 last month. Internet, Networking, Semis and Software cover technology pretty well. Chart 10 shows the Internet ETF (FDN) hitting a 52-week high above 28 a few weeks ago. Regional Banks and REITs represent the finance sector. Chart 11 shows the Regional Bank SPDR (KRE) hitting a new 52-week high above 29 last month. I would not expect a market top when these industry groups are hitting new 52-week highs. More likely, a market top will be signaled when half of these fail to exceed their prior highs and show relative weakness. This did not happen in April. This assessment also jibes with my interpretation of the NYSE AD Line in the Market Message on April 30th. Basically, last month's 52-week high in the NYSE AD Line showed broad participation in the current advance. Major tops are usually preceded by some sort of divergence that reflects narrowing participation in the advance. There is usually some sort of distribution process that causes tops to evolve. This is why double tops, head-and-shoulders patterns, diamonds and other bearish reversal patterns form. Sure, we could see a rare inverted V top, but historical evidence suggests that a top will evolve and not just appear.
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Chart 9
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Chart 10
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Chart 11
DEALING WITH THURSDAY'S DATA SPIKES... Spike lows from last Thursday skewed many charts. While we cannot make data adjustments for trades that actually occurred, we can choose price plots that will smooth these spikes. The simplest, and perhaps most effective, means is to view close only charts. This is also known as a line chart. In general, I prefer candlestick or bar charts, but some situations call for an adjustment. It is also possible to focus just on the open-close when looking at candlestick or bar charts, but this can be confusing. Very short moving averages can also be used to smooth the data. A 3-5 day simple or exponential moving average will filter out the day-to-day fluctuations quite well. Chart 12 shows the Nasdaq 100 ETF (QQQQ) with a 5-day EMA and a 10-day SMA. Chart 13 shows QQQQ as a line chart (close only).
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Chart 12
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Chart 13
On the line chart, QQQQ remains in an uptrend overall with support in the 45-46 area. Support in this area stems from the channel trendline and last week's reaction low. Notice that QQQQ found support near the 62% retracement and formed a higher low. With this week's bounce, a reaction low formed at 45.41. A close below 45 would break last week's low and the channel trendline. This would be quite negative because it would also fill Monday's gap. Even though a gap is not visible, we know prices gapped up on Monday. Because a trend in motion stays in motion, higher prices are expected as long as the uptrend holds. This rationale jibes with Dow Theory, which asserts that the trend is in place until proven otherwise. Furthermore, neither the length nor the duration can be predicted. It will go until it reverses. Charts 14 and 15 shows the S&P 500 ETF (SPY) and Russell 2000 ETF (IWM) with similar characteristics.
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Chart 14
