DOW DOWNTREND IS CLEAR WITH SHORT EMA -- DOW THEORY MOVES INTO BEAR MODE -- KEY SECTORS REMAIN IN DOWNTRENDS -- BREADTH INDICATORS HAVE YET TO REVERSE COURSE -- DOLLAR FINDS SUPPORT NEAR RETRACEMENTS -- GOLD AND SILVER TEST IMPORTANT SUPPORT ZONES
DOW DOWNTREND IS CLEAR WITH SHORT EMA... A short exponential moving average offers the best of both worlds: price smoothing and sensitivity. May and June were volatile months for the stock market. The Dow moved within a 1400 point range in May and an 800 point range in June. Over the last seven days, the Dow moved from 10136 to 9614 and back to 10136. Basically, we saw two 500 point swings in seven trading days. Separating the noise from the trend can be a daunting task with such volatility. Chart 1 shows the Dow Industrials as a 5-day EMA to filter out recent volatility. A 63-day EMA has been added for reference. The indicator window shows the 1-day Rate-of-Change, which is the percentage change. This is another form of volatility. Notice how the Rate-of-Change dipped above 2% and below 2% numerous times since early May. Move outside of the -2% to 2% range were rare from August to April. On the price chart, a falling wedge is taking shape. These patterns sometimes denote a correction within a bigger uptrend. However, they are clearly bearish as long as they fall. In other words, the trend is down as long as the wedge falls. The 5-day EMA of the Dow needs to clear the April trendline first and the June high to reverse this downtrend.
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Chart 1
DOW THEORY MOVES INTO BEAR MODE... Chart 2 shows the 5-day EMA and 63-day EMA for the Dow Transports. A falling wedge/channel is also taking shape here. With a lower high in June and lower low in July, the trend is clearly down. Also notice that the Average broke the trendline extending up from the November low. It is also worth noting that both the Dow Industrials and Dow Transports formed lower highs and lower lows. This confirmation constitutes a Dow Theory sell signal. Both established reaction highs in June and both need to exceed these highs to put Dow Theory back on a bullish signal. The indicator window shows the Dow Transports relative to the Dow Industrials. As the more economically sensitive of the two, it is bullish when the Transports outperform the Industrials and bearish when they underperform. The Dow is quite diverse with stocks from the finance, healthcare, technology, materials and industrials sectors. Even though the airlines, air freight, railroads and trucking make up the Dow Transports, the transports are much more one dimensional. The Transports outperformed from February to April. Performance flatted in May-June and then turned down the last few weeks.
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Chart 2
KEY SECTORS REMAIN IN DOWNTRENDS WITH XLY RELATIVELY WEAK... The next four charts cover four offensive sectors that are key to broad market performance. Instead of bars or candlesticks, these SPDRs are shown as 5-day EMAs and 63-day EMAs to filter out recent volatility. I like to use these four SPDRs with Dow Theorys confirmation principle in mind. Confirmed lower lows are bearish. Confirmed higher highs are bullish. Right now, all four have confirmed lower lows. In other words, all four broke below their June lows and forged lower lows. The bears rule until at least two of the four break their June highs. These charts show similar characteristics. First, all four SPDRs are trending lower within falling wedges or channels. In fact, the lower wedge trendlines are still tentative because this weeks bounce is still a relatively small blip on the chart. Second, the 5-day EMAs are all below their 63-day EMAs. Third, the June highs mark key resistance. A break above these levels is needed to reverse these downtrends. Fourth, the consumer discretionary sector is the weakest of the four. Chart 3 shows the Consumer Discretionary SPDR (XLY) with the price relative in the indicator window. Relative weakness is clear from the downtrend in the price relative.
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Chart 3
Chart 4 shows the Technology SPDR (XLK), chart 5 shows the Industrials SPDR (XLI) and chart 6 shows the Financials SPDR (XLF). Relative to the S&P 500 ETF (SPY), these three have started to hold their down. Notice that their price relatives bottomed in June and held above their June lows recently. Still no breakouts though.
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Chart 4
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Chart 5
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Chart 6
KEY BREADTH INDICATORS HAVE YET TO REVERSE COURSE... The next two charts show the NY Composite and the Nasdaq with three breadth indicators: the AD Line, the AD Volume Line and Net New Highs. Also notice that I am not showing the actual price plot for the NY Composite or the Nasdaq, but the 5-day EMA and 63-day EMA. Chart 7 shows the Nasdaq in a clear downtrend over the last 2-3 months. The 5-day EMA broke below the 63-day EMA in May and failed near this EMA in late June. A lower high formed and the 5-day EMA moved below its June low. This is the definition of a downtrend. Even with this weeks sharp rally, the 5-day EMA is not even close to breaking the April trendline or the 63-day EMA. Both need to be broken before considering a trend reversal. This means we need to see follow through to this weeks surge.
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Chart 7
The first indicator is the Nasdaq AD Line, which is a cumulative measure of Net Advances (advances less declines). The AD Line has been rising and falling along with the index the last six months. As with the Nasdaq, the AD Line formed a lower high in mid-late June and broke below its May low. Nothing but a downtrend here. There is no sign of a bullish divergence either. The second indicator window shows the Nasdaq AD Volume Line with a similar pattern. In contrast to the AD Line, the AD Volume Line showed some predictive power this year. Notice how the AD Volume Line formed a small bullish divergence just before the February low and a small bearish divergence just before the April high. With a new low in the AD Volume Line last week, a bullish divergence has yet to form. The third indicator shows Net New Highs expanding into negative territory over the last two months. A sustainable uptrend is hardly likely as long as Net New Highs fail to break their June highs.
Chart 8 shows the NY Composite with the same indicators. Instead of downward sloping trendlines, I am marking horizontal resistance levels to define the downtrend. It takes a move above the prior reaction high to reverse a downtrend. The 5-day EMA for the NY Composite established resistance at 6950, which is confirmed by the falling 63-day EMA. Note that there are approximately 63 days in a quarter.
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Chart 8
The NYSE AD Line is actually holding up rather well. While the major indices broke below their February-May lows, the AD Line held well above its February low and found support near the May low. Despite less weakness, a lower high did form in mid June and the AD Line needs to take out this high to reverse the downtrend. The NYSE AD Volume Line looks similar to its Nasdaq counter part. A clear downtrend is underway as the indicator formed a lower high in mid June and lower low in early July. No uptrend here until the AD Volume Line breaks its June high. And finally, Net New Highs are holding up quite good as well. The indicator has been slightly more negative than positive, but dips into negative territory were contained as new 52-week lows did not expand significantly. Nevertheless, I am looking for a break above +100 (red dotted line) to turn this indicator bullish.
DOLLAR ETF HITS TRENDLINE AND KEY RETRACEMENTS... The Dollar peaked in early June and declined rather sharply over the last few weeks. This decline coincided with a sharp bounce in the Euro. Overbought conditions in the Dollar and oversold conditions in the Euro contributed to weakness in the DB Dollar Bullish ETF (UUP). Chart 9 shows UUP becoming oversold for the second time in three weeks. Also notice that the ETF is near potential support from the December trendline and in a retracement support zone. I picked the March-June advance for the Fibonacci Retracements Tool because it represents the most recent decline. Those looking for a longer term perspective may consider using the December-June advance. The combination of key retracements, trendline support and oversold conditions make the Dollar ripe for a bounce.
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Chart 9
The indicator window shows CCI becoming oversold for the second time in three weeks. Despite oversold conditions, I would consider momentum bearish as long as CCI remains below zero. Look for a break into positive territory to turn momentum bullish again. This could be used to confirm a channel breakout in the DB Dollar Bullish ETF. Chart 10 shows the Euro ETF (FXE) for reference.
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Chart 10
GOLD AND SILVER TEST SUPPORT ZONES... After sharp declines in late June and early July, gold and silver are testing important support zones. Chart 11 shows the Gold ETF (GLD) hitting new 52-week highs in late June. These highs did not hold long as GLD declined towards the February trendline. An important support zone resides in the 114-116 area. The May low and February trendline mark support here. Should GLD bounce from current levels, support would be affirmed with a reaction low. Failure to bounce and a support break would reverse the 4-5 month uptrend in gold.
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Chart 11
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Chart 12
Chart 12 shows the Silver ETF (SLV) with a weaker pattern than gold. While gold exceeded its May high, SLV fell short of its May high and forged a lower high. Despite a sharp decline from this lower high, SLV firmed near its support zone around 17. Support in this area stems from the May-June lows and the lower trendline of a triangle. Looking closer, we can see a small consolidation over the last five days. A break below these lows would signal a continuation lower and project a break below the support zone. It aint broken yet, but we need to watch this in the coming days. The indicator window shows GLD and SLV moving together throughout 2010. Even though gold is more precious and silver is more industrial, these two are still highly correlated.
