RETAIL SPDR REMAINS RELATIVELY STRONG WITH FALLING FLAG -- STOCKS CONTINUE TO FOLLOW THE EURO -- EURO STOXX 50 TESTS IMPORTANT SUPPORT LEVEL -- TREASURY YIELDS LEAD THE DOLLAR -- VIX CHALLENGES RESISTANCE WITH BIG SURGE
RETAIL SPDR REMAINS RELATIVELY STRONG WITH FALLING FLAG... Link for todays video. The Retail SPDR (XRT) declined with the rest of the market over the prior six days, but bounced on Wednesday and shows relative strength overall. Chart 1 shows XRT breaking resistance with a gap above the October highs. After the breakout, the ETF pulled back with a falling flag and broken resistance turned into support with todays bounce. XRT even broke above flag resistance with a move above 45 on Wednesday. This signals a continuation of the uptrend and reinforces support at 44, which is near Mondays low. A break below this level would be negative and argue for a correction of the August-November advance.
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Chart 1
The indicator window shows the price relative, which reflects the performance of XRT against the S&P 500 ETF (SPY). After trading flat from mid October, the price relative turned up and broke to a new high this week. XRT shows relative strength. Given the importance of retail to the overall economy and the consumer discretionary sector, relative strength is a positive for the market overall. This is no ordinary retail ETF. In contrast to the Retail HOLDRS (RTH), XRT consists of over 50 stocks with relatively equal weightings. Wal-mart (WMT) is just another retailer in this ETF. WMT weights 1.36% in XRT, but over 19% in RTH.
STOCKS CONTINUE TO FOLLOW THE EURO... For whatever reason, there is simply no denying the positive correlation between the S&P 500 ETF (SPY) and the Euro Currency Trust (FXE) since April. Incidentally, April was the scene of the last European debt crisis and significant Euro weakness. April was all about Greece. November is all about Ireland. Chart 2 shows the S&P 500 with the Euro ETF (red). The blue arrows mark recent reversals in the Euro. Notice how the Euro peaked in early April and stocks peaked a few weeks later. The Euro bottomed in early June and stocks bottomed in early July. Both peaked at roughly the same time in early November. As long as Wall Street trades with an eye towards Euroland, we need to keep an eye on the Euro. In Tuesdays market message, John Murphy shows the Euro Index ($XEU) breaking its 50-day SMA on the downside and the US Dollar Fund (UUP) breaking its 50-day SMA on the upside. Even though the Dollar has its drawbacks, it is looking better than the Euro right now and currency markets can move rather fast. Further weakness in the Euro would signal more concerns with European debt and this could further rattle US stocks.
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Chart 2
EURO STOXX 50 TESTS IMPORTANT SUPPORT LEVEL... Weakness in the Euro and debt concerns took their toll on European stocks over the last few days. However, we have yet to see a breakdown in the DJ Euro Stoxx 50 ($STOX5E). This index is the Dow Industrials of Europe. There are 50 stocks representing 9 countries and 18 industry groups. French and German stocks dominate the index, while finance-related stocks (14) form the single biggest group. It is a good cross-section of core Europe. Chart 3 shows the Stoxx 50 Index remaining in an uptrend overall. A lower high could be forming as the index never made it to the April high. A rising wedge is taking shape over the last six months. Major support is based on the October low and lower trendline. A move below these levels would call for a continuation of the April-May decline. The indicator window shows the index relative to the S&P 500. The Stoxx 50 Index was outperforming from May to September, but then started underperforming in mid September. Relative weakness in the Stoxx 50 Index is not a good sign for European equities.
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Chart 3
TREASURY YIELDS LEAD THE DOLLAR... In addition to problems in Europe, the Dollar is benefitting from a rise in treasury yields. Chart 4 shows the US Dollar Index ($USD) and the 30-year Treasury Yield ($TYX) over the last 16 months. The blue arrows mark reversals in the 30-year Treasury Yield. Notice how long-term yields reversed course around two months ahead of the Dollar. The 30-year Yield bottomed at the beginning of October 2009 and the Dollar bottomed at the end of November. The 30-year yield peaked at the beginning of April 2010 and the Dollar peaked in early June. The 30-year yield bottomed at the end of August and the Dollar bottomed in early November. Chart 5 shows a similar relationship between the US Dollar Index and the 10-year Treasury Yield. Dollar bulls like rising treasury yields, but a flight-to-safety could bring bonds back into favor. Treasury yields turned sharply lower in April and May as money moved into bonds with a flight-to-safety during the first Euro crisis. This is a concern now as well. Bonds surged in a flight-to-safety on Tuesday, which caused yields to decline. The decline in yields is just one day and not enough to affect the Dollar, but continued concern over the Euro could push money into treasuries and drive rates lower. This may weigh on the Dollar at some point, but we are not at that point right now.
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Chart 4
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Chart 5
VIX CHALLENGES RESISTANCE WITH BIG SURGE... With a sharp decline in stocks, the CBOE Volatility Index ($VIX) turned up rather sharply and challenged resistance this week. Chart 6 shows the VIX forming two lows around 18 and then breaking above the July trendline with yesterdays surge. The VIX is on the verge of reversing its downtrend and this would be negative for stocks. Even though VIX is somewhat of a coincident indicator, an upturn signals an increase in fear and risk. Notice that the VIX declined from July to early November as the S&P 500 advanced. Falling volatility reflected decreasing risk and this was bullish for stocks. The tide could be turning as the VIX turns up and challenges resistance. Chart 7 shows the Nasdaq 100 Volatility Index ($VXN) breaking above its prior reaction high as well.
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Chart 6
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Chart 7
VIX TRIGGERS MOMENTUM SIGNAL SIMILAR TO APRIL... Chart 8 shows the CBOE Volatility Index ($VIX) as the Percent Price Oscillator (10,50). Applying this indicator to the VIX detrends the price series, which makes it easier to spot extremes. The red line marks a bullish extreme around -10, while the green line marks a bearish extreme above +5. A move below -10 indicates that VIX is trading at a bullish extreme. In other words, sentiment is deemed excessively bullish. This is now, however, a sell signal. The VIX must first turn up from excessively bullish levels and break back above -10. The red dotted lines show bearish signals in January, April, August and October. The January and August signals marked stock market corrections that did not last long. The first April signal was early, but notice how the PPO formed a small divergence and moved above its signal line a second time. This second signal corresponded with a significant decline. The current setup in the VIX PPO looks similar to April. After moving below -10 in October, a bullish divergence formed and the PPO moved back above its signal line this week. Even though we did not see a double top below -10, VIX momentum is rising as long as the PPO holds above its signal line and this is negative for stocks.
