NASDAQ Breaks Out from a Broadening Formation

• Bottom Fisher goes bullish.
• Bonds continue to break to the upside.
• Dollar Index due for a pause.
• Watch $27.50 and $130 on the GDX and the GLD.

US Equities

The Pring Bottom Fisher market indicator (!PRBFISH), shown in the lower window of Chart 1 (and discussed in more detail here), has triggered a buy signal by reversing to the upside from its bottom fishing zone. The arrows show that recent buy signals have resulted in worthwhile rallies, so we should expect to see higher prices develop in the period ahead.

Chart 1

The Dow Diffusion indicator in Chart 2 is a smoothed measure of the number of Dow stocks that are above their 40-day SMAs. As you can see from the chart, it reversed to the upside this week. Occasionally, the indicator experiences false reversals, but generally speaking, the more oversold the reading when the reversal takes place, the less chance of that happening. Taken with the positive Bottom Fisher action, the rally likely has further to go.

Chart 2

The KST in Chart 3 has also started to rise but is not yet bullishly above its MA. It is probably going to do so because of the positive forces from the Dow Diffusion and Bottom Fisher indicators. The duration of rallies signaled by the KST vary, but 2-5 weeks is a good rule of thumb.

Chart 3

Normally, I would be very enthusiastic given this positive backdrop. However, we also have to bear in mind that the market, on a long-term basis, remains very overextended. You can see that from the position of the Coppock Indicator for the S&P Composite. This series gained its notoriety by consistently calling valid bear market lows since the early part of the twentieth century. It does this by reversing to the upside from below a zero position. The false buy signal in late 2001 is a rare exception. The Coppock has not traditionally been used to call tops because bull markets usually take longer to develop than bear trends, which means it has a tendency to peak prematurely. In this respect, you can see several false sell signals that have developed in the last 20-years or so. Nevertheless, secondary peaks in the Coppock have often presaged major declines and corresponded with ranging action associated with primary bull market peaks. The two previous ones, for example, have been flagged by the pink shaded rectangles. The curve has again reversed and started to gently roll over to the downside, but a meaningful trading range has yet to develop. It is in that context that I am viewing the current short-term rally. In other words, it is likely to be part of an overall topping out process. That leaves prices able to work their way higher, but not necessarily significantly so.

Chart 4

The NASDAQ (Chart 5) reached a new bull market high on Monday and has broken out of a small broadening formation with a flat top; alternatively called a right angled broadening formation. These patterns are usually very powerful relative to their size. This may well be because the two lower lows that develop during the pattern’s formation attract short sellers who are forced to cover their positions when prices move above the horizontal resistance line that forms at the top of the formation.  Some time ago, I pointed out that recent highs in the NASDAQ were being accompanied by fewer and fewer issues above their 200-day MA’s and that was a worrying factor. That is still the case, but the KST for this indicator has gone bullish. Note that previous signals resulted in an expansion of that number. The key will be to see if the indicator can rally above the red solid trendline flagging the top of the previous rally. Failure to do so would, of course, mean an even larger divergence as flagged by the two dashed red arrows. For the moment though, the line of least resistance looks to be an upward one.

Chart 5

US Credit Markets

The price of the 10-year note has broken out from a large trading range and is comfortably above the two MA’s. Further gains are likely because the breakout is being supported by positive action from the three KSTs, none of which is overextended.

Chart 6

Chart 7 shows the TLT has also broken out and is being supported by positive momentum. The long-term KST for relative action against the S&P has also triggered a buy signal for bonds relative to stocks. The RS line itself has not yet broken to the upside, but I expect it will. That view is based on a review of spreads between the TLT and the various equity sector ETF’s, of which a substantial number have broken in favor of bonds. The most notable exception comes from the gold shares, which look more likely to out-perform bonds.

Chart 7

US Dollar Index

Last week I mentioned the previous rally high for the Dollar ETF as representing possible resistance. That $20.85 level has now been reached. Since the KST and my Dollar Diffusion indicator (displayed in the middle panel) look like they are in the process of rolling over, it seems likely the Index will experience some kind of corrective activity prior to making another attempt at the overhead resistance.

Chart 8

Precious Metals

The two numbers $27.50 and $130 keep coming to mind as these are the breakout points for the Gold Miners and Gold Trust ETF’s, the GDX and the GLD, respectively. If we see decisive breakouts above these numbers, I would expect to see a meaningful rally for both series. I mentioned earlier that cross spread relationships between bonds and the major equity sectors looked positive. The same is true for gold shares, but most spreads have not yet broken to the upside. However, if $27.50 and $130 are taken out in any meaningful way, they almost certainly will and that would imply a broad advance by gold shares.

Chart 9

Also, a move above $130 would likely push the short- and intermediate KSTs for the GLD (see Chart 10) into a positive mode. It is important in all of this not to jump the gun, but to wait for the actual breakouts. This week the odds have increased because the short-term dollar rally could have problems as we saw in Chart 8.

Chart 10

Commodities

The Dow Jones UBS commodity ETN, the DJP, continues to fall but has now reached support in the form of the red trendline in Chart 11. Most notable is the fact that the price has been dropping sharply, yet the indicator measuring the number of commodities registering net new highs over a 10-day period has been rising sharply. This reflects the fact that fewer and fewer commodities in the basket are making new lows. With the price at support and a shrinkage in the number of commodities actually declining, the most likely outcome is a rally of some kind.

Chart 11

Good luck and good charting!

Martin Pring