Can a Weakening Stock Market Take Advantage of the Bullish End-of-the-month Seasonal?

• Breadth continues to deteriorate following Special K sell signal for the NYSE Composite.
• Bonds are likely to violate an important up trendline.
• Gold and commodities may be about to reverse their recent declines.

(Click here for the video version of this article.)

US Equities

The US equity market has not made much progress in either direction since  last week’s Market  Roundup. Under the surface though, things continue to deteriorate.

Consider Chart 1, which  compares the NYSE Composite to my Special K (SPK). This is a momentum series that combines short, intermediate and long-term trends into one indicator that is usually pretty accurate in identifying primary trend reversals. That’s because most of the time it peaks and troughs with the price itself. There are a few exceptions, which I will be getting into at my Chartcon presentation next week. What’s significant is the fact that the SPK has violated its bull market trendline going all the way back to 2009. That break is not in and of itself a signal to sell, but it does warn us that the market may be in the process of peaking in an important way. What we need is confirmation from a trendline break for the NYSE Composite itself. I chose this market average for two reasons. First it is a broader market measure than the S&P or Dow. Second its smoother action is allows us to construct a more meaningful trendline, than we can for, say the Dow or S&P Composite, where the true trajectory is more murky. The line in Chart 1 has one has been approached or touched on numerous occasions as you can see from the arrows. Consequently, it represents a great support area. Since the line is closely following the 200-day MA, I think the average, at 10,400, offers a great benchmark, the violation of which would signal some serious trouble.

Right now the market finished the first day of  the bullish  end- of-the month seasonal, which ends next Tuesday, so it’s possible we may see some new bull market highs in the next few days, but if so, I still expect them to  develop under the cover of deteriorating technicals.

Chart 1

Even with this possibility, some caution is in order because the NYSE Composite, in Chart 2 looks as though it may be in the process of forming a small head and shoulders top. A daily close that holds below 10,700 will complete it and take out the previous minor low.

Chart 2

Between late 2012 and early 2014 the breadth indicators, in the form of the NYSE A/D and Upside/downside volume lines, were in gear with the S&P Composite. Since then both series have started to diverge negatively, as flagged by the arrows. Moreover, these two series have decisively violated their 2014 up trendlines, which suggests that positive breadth is no longer supporting the market.

Chart 3

We can also see that from Chart 4, where the number of NASDAQ stocks above their 200-day MA’s continues to deteriorate. I have been pointing out this problem for a while, but my persistence is due to the fact that I think it’s a pretty big deal when a market average registers a new high yet less than half its components  are in a positive trend.

Chart 4

When we look at the NYSE this statistic is better with a 70% reading, but even here the indicator monitoring the percentage of stocks above their 200-day MA’s has diverged negatively with the S&P for quite a while. Even worse, this series has just violated trendline AB, which suggests that the number of issues above their 200-day MA’s is likely to fall. That either implies the necessity of greater selectivity or a market decline or most likely both!

Chart 5

Chart 6 expands our analysis to the global level.  The indicator in the bottom panel is my Global Net New High Indicator, which basically monitors the number of a basket of country ETF’s that  are registering net new highs over a 40-day time span (read about it here). The arrows show that when it reverses from an extended level the MSCI World Stock ETF, the ACWI, experiences some form of correction. Since it has just reversed to the downside, it seems reasonable to expect some form of digestion of recent gains.

Chart 6

Not everything looks bearish as the Chinese market broke in a bullish way last Friday and was the subject of my previous Market Roundup. This week, it was the turn of the Nikkei. I showed this chart some time ago by way of pointing out the connection between a weaker yen and stronger Japanese equities. In this chart I have plotted the currency  as dollar/yen or inversely as it performs on the IMM. In late 2012 and again in 2013 both series broke to the upside and a rally followed. It seems that history may be repeating with another joint break. One thing I do not like is that long-term momentum is very overextended. That compares to last week’s Chinese move where long term momentum is very positively placed.

Chart 7

US Credit Markets

Sentiment on bonds, whether measured by Market Vane or Mark Hulbert’s bond sentiment indicator is quite bullish at present. From a contrary point of view that is, of course, negative. The overbought Stochastic also reflects the idea that things are overdone for the time being.  See how previous sell signals or negative %D crossovers have usually been followed by a correction. So far, the uptrend has not been disturbed, so I am assuming that the trend is still positive. However, if I see a daily close much below $103 that would represent confirmation that the price of the IEF had started to respond to overly bullish sentiment.

Chart 8

US Dollar Index

The Dollar Index has broken above the green trendline, which is really the neckline of a reverse head and shoulders. The upside objective is slightly above 83. All of that suggests that this huge trading range was a head and shoulders top that failed. Even though the long-term KST is still bearish, the positive shorter-term KSTs suggest that the breakout is valid. Remember the long-term KST is a lagging indicator, so we would expect prices to turn up ahead of it.

Chart 8

Precious Metals

The GLD has once again fallen back to critical support in the form of this red trendline and its 200-day MA at $124. Right now the KST is correcting, so it’s quite possible that the support will be violated. The RSI is closer to an oversold condition and this will certainly help.

Chart 9

However, the most encouraging thing about the gold market right now is that while the metal has recently registered a series of lower highs the Gold Share ETF, the GDX has been tracing out higher lows. When the shares lead the metal at the start of a move the metal usually follows.

Chart 10

Commodities

Some time ago the CRB Composite broke down from this trading range and later achieved the downside objective. The 200-day MA was also in this vicinity and has acted as support as well. Note that the stochastic indicator in the bottom panel has led pretty well all of the KST rallies, with the exception of the one flagged with the dashed arrow. However, the KST has now started to turn and since this was preceded by a stochastic reversal a commodity rally, capable of testing the recent high, seems  likely.

Chart 11

Good luck and good charting

Martin Pring