RUSSELL 2000 ETF AND S&P EQUAL-WEIGHT ETF CHALLENGE 200-DAY SMAS -- RISE IN LONG-TERM RATES FAVORS RISK-ON TRADE -- ENERGY AND MATERIALS SPDRS BREAKS TRIANGLE RESISTANCE -- GERMAN DAX AND FRENCH CAC RUN INTO RESISTANCE
RUSSELL 2000 ETF AND S&P EQUAL-WEIGHT ETF CHALLENGE 200-DAY SMAS... Link for todays video. With the late December surge and Tuesdays gaps, the Russell 2000 ETF (IWM) and the Rydex S&P Equal Weight ETF (RSP) are both challenging their 200-day moving averages. These two ETFs are important to watch because they represent small and mid-cap stocks, which are usually more tied to the domestic economy. Breakouts in both would be quite bullish for the market as a whole. Failures at resistance and moves below the mid December lows would be bearish. Chart 1 shows IWM opening above its 200-day on Tuesday, but failing to hold its early gains and falling back below 75 today. Resistance in the 76 area represents a major hurdle. Notice that this level also marked support in March and June. IWM broke support, and the 200-day SMA, with a sharp decline in August. These breaks were clearly bearish developments that have yet to be proven otherwise by the bulls. A decisive move above 76 would provide follow through to Tuesdays gap, break a major resistance level and negate the August breakdown. The indicator window shows the Price Relative, which relfects the performance of IWM relative to the S&P 500 ETF (SPY). A break above resistance from the October-December highs would indicate that small-caps (IWM) were starting to outperform large-caps (SPY). Chart 2 shows the RSP with similar characteristics.
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Chart 1
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Chart 2
RISE IN LONG-TERM RATES FAVORS RISK-ON TRADE... The market moved from risk-on to risk-off mode throughout much of 2011 and ended the year virtually flat. Risk-on mode favors riskier assets like stocks, commodities and the Euro. Risk-off favors relative safe-haven assets like US Treasuries and the Dollar. Stocks and treasuries were negatively correlated throughout 2011, which means stocks and treasury yields were positively correlated. Among other things, economic expectations drive stock prices and treasury yields in the same direction. Most recently, the Commerce Department reported a better-than-expected increase in factory orders for November. This report indicates strength in the US economy, which in turn puts upward pressure on yields and downward pressure on treasuries. With stocks and treasury yields moving in the same direction, chartists should keep an eye on the 10-year Treasury Yield ($TNX) and the 30-year Treasury Yield ($TYX) for clues on stock market direction. This implies that an upside breakout in treasury yields is needed to sustain an advance in the stock market.
Chart 3 shows the 10-year Treasury Yield ($TNX) in a downtrend over the last 11 months. The yield peaked around 37 (3.7%) in February 2011 and hit 17 (1.7%) in September. There was a surge in October, which coincided with a surge in the stock market. The yield has since retreated back below 20 (2.0%). At this point, the big trend and the short trend are down. A falling wedge defines the short-term downtrend with key resistance at 21.5 (2.15%). A break above this level would reverse the downtrend and argue for a move higher, perhaps to the next resistance zone around 28.50 (2.85%). Such a sharp rise in yields would imply a sharp decline in treasury bonds, which would be most bullish for stocks. It has not happened yet, but this is something chartist should keep an eye on the in the coming days and weeks. Chart 4 shows the 30-year Treasury Yield ($TYX) with a similar pattern. Chart 5 shows the 20+ Year T-Bond ETF (TLT) for reference.
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Chart 3
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Chart 4
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Chart 5
ENERGY AND MATERIALS SPDRS BREAKS TRIANGLE RESISTANCE... The Energy SPDR (XLE) and the Basic Materials SPDR (XLB) are showing signs of life with triangle breakouts to start the year. I am a bit wary of big moves the first week of the year, but chartists should at least respect these breakouts as long as Tuesdays gaps hold. Chart 6 shows the Energy SPDR gapping above 70 on Tuesday and edging above the triangle trendline today. There is still resistance in the 72 area from the October-December highs, but this gap and breakout are bullish until proven otherwise. A move below 68 would fill Tuesdays gap and provide the first sign of failure. The mid December low marks key support. A move below this level would be medium-term bearish and target further weakness towards the October low.
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Chart 6
Chart 7 shows the Basic Materials SPDR (XLB) gapping above 34 and breaking the triangle trendline. Again, this breakout is bullish until proven otherwise. A move below 33 would fill Tuesdays gap and negate the breakout. While a filling of the gap would be negative, chartists would have to wait for a break below the mid December low before turning outright bearish on this chart.
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Chart 7
GERMAN DAX AND FRENCH CAC RUN INTO RESISTANCE... As with the US stock market, the European bourses started the year with a bang. In fact, the Euro bang started a day earlier because the European markets were open on Monday. Chart 8 shows the German DAX Index ($DAX) surging above 6000 and breaking the October trendline with a big surge on Monday. There was some follow through on Tuesday, but weakness in the Euro is weighing on the index today and the early December highs are coming into play as resistance. Technically, an uptrend is present since the September lows. Notice how the DAX broke resistance with the October surge and formed a higher low in late November. Even though resistance at 6200 is a concern, it would take a break below key support at 5600 to reverse this uptrend. As Europes strongest index, a breakdown in the DAX would be bearish for the Euro-zone and have negative implications for the US.
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Chart 8
The indicator window shows the Correlation Coefficient ($DAX,FXE) for the German DAX and the Euro Currency Trust (FXE). For the most part, these two are positively correlated. There were a two brief periods of negative correlation in June and August, but the DAX and Euro have been positively correlated since early September.
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Chart 9
Chart 9 shows the French CAC Index ($CAC) also hitting resistance from the early December high. The trend since September is also up, but the index is not as strong as the DAX. First, notice that the November dip was much deeper for the CAC. Second, the bounce off the November low did not make it back to the mid August high. Third, the index is down over 1.5% today and the DAX is down less than 1%. A break below the December low would be bearish and project a move below the September low.
