FRENCH AND GERMAN STOCKS BREAK IMPORTANT SUPPORT LEVELS -- S&P 500 MAY BE IN LATTER STAGES OF HEAD AND SHOULDERS TOP -- FALLING BOND YIELDS RAISE RISK LEVEL FOR STOCKS
EUROPE'S TWO BIGGEST MARKETS BREAK DOWN... Two weeks ago (July 11) I showed that two of Europe's largest markets (Germany and France) were succumbing to selling in weaker countries like Italy and Spain. With France being the weaker of the two, I warned that a drop below the June intra-day low at 3742 by the CAC 40 Index would be very negative. Chart 1 shows the CAC having broken that level and its March low at 3693. The CAC is now trading at the lowest level in a year. My mid-July message also warned that the German DAX Composite Index was threatening its June low and 200-day moving average. Chart 2, however, shows Europe's biggest and strongest market having broken both support levels and falling to the lowest level in more than four months. The relative strength line below Chart 2 compares the DAX to the Dow Jones World Index (DJW). I pointed out during July that Germany had been a pillar of relative strength for Europe and the rest of the globe, and warned that the world couldn't afford to lose that leadership. The falling RS line shows that's beginning to happen. That's a negative sign for all global stock markets.
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Chart 1
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Chart 2
S&P 500 THREATENS 200-DAY AVERAGE... Arthur Hill wrote last week about the possibility of a "head and shoulders" top forming in the U.S. stock market. That potentially bearish pattern is seen very clearly in the S&P 500. Chart 3 shows three clear tops in February, early May, and July with the middle peak (the "head") higher than the two surrounding "shoulders". The S&P is now threatening its 200-day average. The pickup in trading volume during the last week's slide is another negative omen. Even more important than the 200-day line is the June intra-day low at 1258. A decisive close below that previous support level would complete the topping pattern. Seasonal patterns are also turning negative. I pointed out a month ago that the traditional summer rally usually lasts through the month of July which has ended. Seasonal patterns now turn more negative into the autumn. Currency traders are moving into safe havens like the Swiss Franc, Japanese yen, and gold (which is the ultimate safe haven currency). Investors are buying U.S. Treasuries. The accompanying breakdown in bond yields is another sign of economic weakness.
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Chart 3
BOND YIELDS LEAD STOCKS LOWER... Bond yields are a barometer of U.S. economic strength or weakness. Right now, they're suggesting the latter. Chart 4 shows the 10-Year Treasury Note Yield (green line) tumbling to the lowest level of the year. While that's good news for bond prices (which rise as yields fall), it's bad news for stocks. That's because bond yields often lead turns in stock prices. And right now, they're leading stocks lower (and have been doing so since April). That also increases the risk level for stocks which has risen to a more dangerous level.
