SPY APPROACHES SUPPORT ZONE AND BECOMES OVERSOLD -- RUSSELL 2000 IS UP 85% OF THE TIME IN DECEMBER -- DIA AND IWM CORRECT WITH BULL FLAGS -- HIGH-LOW INDICATOR HITS MAKE-OF-BREAK LEVEL -- SMALL DIVERGENCES FORM IN AD LINE AND AD VOLUME LINE
SPY APPROACHES SUPPORT ZONE AND BECOMES OVERSOLD... Link for today's video. After a big October and big November, trading in the S&P 500 ETF (SPY) and stock market turned choppy in December. The trading range is relatively small and not enough to affect the overall uptrend. In fact, the seasonal patterns and charts point to a low sooner rather than later. Chart 1 shows the ETF within a long-term uptrend as prices move from the lower left to the upper right of the chart. The ETF is up around 24% year-to-date and up around 7% from the 8-October low. The blue lines show some falling flag/wedge corrections along the way. The pink lines mark trend line breaks after pullbacks. The mid June flag breakout was the only bad signal during this uptrend. As the chart stands, I would mark support in the 175-177 area. This support zone stems from the consolidation in late October and early November, and the rising 50-day moving average. Note that a break below the 50-day moving average would not be considered that bearish because the long-term uptrend resumed soon after prior breaks. The is just testament to the strength of the overall uptrend.
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Chart 1
In addition to nearing support, Commodity Channel Index (CCI) dipped into oversold territory for the first time since early October. In 2013, we have seen three single dip oversold readings, a triple dip and a double dip. It is hard to predict the number of dips, but I would consider short-term momentum negative as long as CCI remains in negative territory. A move above the zero line would show a return to bullish momentum.
RUSSELL 2000 IS UP 85% OF THE TIME IN DECEMBER - REALLY?... I wrote about the twenty-year seasonal patterns for the S&P 500 and the Russell 2000 (small-caps) two weeks ago. These seasonal patterns show that December is the second best month for the S&P 500 and that small-caps outperform large-caps by a wide margin in December. Chart 2 shows the monthly seasonal pattern for the Russell 2000 over the last twenty years. This small-cap barometer was up 85% of the time in December and the average gains was 3.3%.
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Chart 2
Well, December is here and we have yet to see any strength in the S&P 500 or in small-caps. Does this negate the seasonal pattern? Not just yet. A little "Googling" turned up a paper by Colin Cieszynski CMT of CMC Markets Canada. In this paper, Cieszynski notes that the Santa Claus rally typically runs from December 16th to 26th. Cieszynski also notes that the stock market is typically soft in the first two weeks of December because of tax-related selling. Taking this one step further, Jeffrey Hirsch of the Stock Trader's Almanac appeared on CNBC Monday and noted that the S&P 500 averages a gain of 1.5% during the period from Christmas to New Year. Taking into account these seasonal tendencies and the current state of the stock market, next week could indeed be interesting for swing traders. The Fed starts its two day meeting on Tuesday and will make its policy statement on Wednesday afternoon. Taper or no taper, the statement will be out and this may be enough to make room for the bullish seasonal patterns.
DIA AND IWM CORRECT WITH BULL FLAGS... Chart 3 shows the Russell 2000 ETF (IWM) peaking around 114 in late November and falling back to 110 this week. This means the ETF is down around 3.5% so far in December. Despite this decline, the long-term trend remains up and a falling flag could be taking shape. The ETF is trying to stabilize in the 110 area, but we have yet to see any type of upside catalyst to suggest the end of this decline. The flag trend line marks the first resistance level to watch for a breakout to signal the start of the Santa Claus rally.
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Chart 3
The indicator window shows the performance for IWM relative to SPY using the price relative (IWM:SPY ratio). After relative weakness in October and early November, it looked like IWM was poised to outperform again as the price relative rose. This rise did not last long as the indicator fell back to the mid November lows. A break above the upper trend line is needed to signal a return to relative strength. Chart 4 shows the Dow Diamonds (DIA) with a falling flag as well.
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Chart 4
HIGH-LOW INDICATOR HITS MAKE-OF-BREAK LEVEL... High-Low Percent for the S&P 1500 dipped into negative territory for the fifth time this year and prior dips provided opportunities to partake in the long-term uptrend. High-Low Percent equals new highs less new lows divided by total issues. Chart 5 shows the High-Low Line for the S&P 1500 in the main window, the S&P 1500 in the middle window and High-Low Percent in the lower window. First, notice that the High-Low Line has been rising (above its 10-day EMA) since November 2012. This is testament to the strength of the underlying uptrend. Second, notice that High-Low Percent dipped below zero in mid April, late July, mid-late August and now (mid December). The indicator almost dipped into negative territory in late February and early October, but not quite. These dips occurred during corrections and represented an opportunity to partake in the existing uptrend. I last wrote about this signal in the Market Message on August 23rd, but keep in mind that the past success does not guarantee future success. Patterns sometimes stop working once spotted. Also note that we need to see an upturn to signal that the correction has ended and bigger uptrend is resuming. The blue horizontal line is set at +2% and a break above this level would suggest that High-Low Percent is expanding again.
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Chart 5
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Chart 6
Chart 6 shows the High-Low Line for the Nasdaq 100, the Nasdaq 100 and High-Low Percent. This index is less diversified and smaller than the S&P 1500, which makes its breadth indicators a little more volatile. Notice how High-Low Percent for the Nasdaq 100 dipped into negative territory at least ten times this year. A subsequent move above 3% indicated that the correction was ending and the uptrend was resuming. Some of the Nasdaq 100 signals were too early, such as mid March and late May, but the indicator is still quite help for trend identification and timing.
SMALL DIVERGENCES FORM IN AD LINE AND AD VOLUME LINE... When the S&P 1500 records a new high, I check to see if the AD Line and AD Volume Line confirmed the new high. The section below the charts explains these indicators in detail. Chart 7 shows the S&P 1500 AD Line ($SUPADP) peaking in late November and forming a lower high in early December. The S&P 1500, in contrast, recorded a new closing high in early December. This means a bearish divergence formed between the indicator and the index. Even though this divergence only covers a few weeks, it shows that Net Advances are not keeping pace with the market. This makes the market vulnerable to an extended correction. Chartists can draw a trend line extending down from the late November high and watch this level for the first sign that the AD Line is reversing its slide and breadth is improving. Chart 8 shows the S&P 1500 AD Volume Line ($SUPUDP) with similar characteristics.
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Chart 7
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Chart 8
The AD Line is a cumulative measure of Net Advances, which is advances less declines. With the S&P MidCap 400 and S&P SmallCap 600 accounting for two thirds of the S&P 1500, this breadth indicator clearly favors small and mid-cap performance. Confirmation by the AD Line means the average stock is keeping pace with the index. The AD Volume Line is a cumulative measure of Net Advancing Volume, which is advancing volume less declining volume. I like this indicator better than total volume because it measures "net buying pressure". Confirmation by the AD Volume Line means upside volume, or buying pressure, is keeping pace with the advance.
