Two Benchmarks that will Likely Signal the Direction of the Next Major Equity Move

• Stocks likely to resume their downtrend vis a vis bonds.
• Emerging Markets ETF resting on a key trend line.
• Different bond maturities moving in different directions.

US Equities

The battle lines are being drawn for the next major move in the equity market. For the NYSE Composite ($NYA) those lines can be set at the mid-October low and the resistance trendline that reversed the last three rallies.  Remember the $NYA includes all stocks on the NYSE, which means that it is a far broader measure of capitalization than either the S&P 500 or S&P 1,500. Therefore its progress, or lack thereof, better reflects the performance of the average portfolio. Also, the S&P is in a strong uptrend and does not offer us convenient juncture points from which to judge the quality of the prevailing trend. If the October low for the $NYA is taken out that would complete a somewhat large head and shoulders. This possibility is laid out in Chart 1, where you can see that the short-term KST remains in an overextended and bearish condition.

Chart 1

Chart 2 shows the same thing for the MSCI World Stock ETF, the ACWI. The effective breakdown for this series is $55 and for the $NYA the number is 10,000.

Chart 2

Another thing to watch out for is to see whether stronger averages such as the S&P and NASDAQ can hold their recent breakouts as featured in Chart 3.  If they are unable, as definitely seems to be the case around Wednesday's close, that would suggest that the breakout was a whipsaw. Remember, whipsaws are often followed by an above average move. In this case that would be to the downside. The failure of prices to remain above these lines is a definite cause for concern and suggests that equities may be somewhat exhausted following their strong mid-October run..

Chart 3

On the other hand, the seasonals and four year presidential cycle are very positive for stocks and this would be confirmed with a breakout to the upside by the Russell 2000 and NYSE Composite. The $NYA is shown in Chart 4 and the IWM in Chart 5.

As you can see, the $NYA may be in the final throes of completing an inverse head and shoulders pattern but until it does it remains just that, a potential formation. One encouraging factor comes from the fact that the NYSE common stock A/D line in the lower panel has been tracing out a series of higher lows against a negative pattern for the $NYA. That suggests some sub-surface strength, but until both series break to the upside we will not know for sure.

The IWM has been in a trading range for even longer than the $NYA, which has meant that its relative strength line has been severely beaten down. However, the RS line, like that for the IWM itself, has been moving sideways in what looks to be a potential inverse head and shoulder formation. Once again, if both series can break convincingly to the upside that would suggest that the bullish seasonals will win out and the market is headed higher.

Chart 4

Chart 5

We have been following the stock/bond relationship for some time. Earlier in the year it broke down from a head and shoulders top and then pulled back above the neckline again. This suggested that the break may have been a whipsaw, but this was never confirmed by the ratio moving above the green down trendline. Now however, it has again dropped below the neckline and the weekly short-term KST has begun to stabilize. Its daily counterpart, not shown, has already gone bearish. All of this suggests that the topping out process of stocks against bonds is still valid. Of course this relationship only tells us that bonds will out-perform stocks, not that one is going up and the other likely to fall. Even so, when the ratio declines it usually involves a drop in equity prices, which makes the case for a bullish $NYA and IWM breakout that much more difficult to make.

Chart 6

Following up on our weekend Global Market Roundup we see that the Emerging Markets ETF, the EEM, has now fallen back to a key support line. That line, which began in late 2011, has been touched or approached on eight occasions and therefore represents a key level of dynamic support. Should it give way it will take all three KSTs with it, which would suggest significant price erosion lay ahead.

Chart 7

In case anyone doubts the connection between the Russian market (RSX)  and the price of oil ($WTIC), Chart 8 proves the point. One reason I put it in is to also demonstrate the power of the whipsaw. Notice how the oil price experienced a false upside break last June and this was followed by an above average move to the downside. The false break looked fairly innocuous at the time but how its effect was followed by a decline that is continuing today.

Chart 8

US Credit Markets

I pointed out last week that there appear to be two different credit market trends. Yields were rising at the short-end in anticipation of next year’s fed actions and falling at the long end because of declining commodity prices. Those two trends seem to be extending.

The one year yield ($UST1Y) is very volatile, so it’s plotted as an 8-day MA in Chart 9, where you can see that it has built on last week’s breakout, a process that gains credibility because it is being supported by all three KSTs.

Chart 9

On the other hand, the 20-year yield ($UST20Y) has just tentatively violated a major up trendline. In this case all three KSTs are negative for yields. Normally one would expect to see longer-term yields rising as pressure at the short end pushes its way through the curve. The current dichotomy suggests to me that longer-term yields are bucking the trend because they see deflationary and weaker economic conditions lying ahead.

Chart 10

The Dollar Index

The Dollar Index ($USD) continues in its uptrend and is not yet forming a discernable top from which we could forecast a correction. Notice that the dollar diffusion indicator has been in a bullish trend above its 20-day MA since last May.

Chart 11

Precious Metals

The Gold Trust ETF, the GLD, has continued to rally in the last week and now stands just below a very important trendline, which is just below $120 based on a Friday close. A break above it would begin to tip the balance in favor of a new primary bull market. On the other hand, a drop below the red line at $110 would re-confirm that the bear market is alive.

The Gold Miners Gold Share ETF, the GDX, looks as though it might be in the process of completing a bullish giant broadening wedge. That would be completed with a decisive Friday close above the upper line, say at $26.50. Broadening wedges are usually very powerful patterns whether reversing downtrends or uptrends. However, this potential one remains just that, potential. If it is ever completed I could get a lot more bullish on precious metals.

Chart 12

Good luck and good charting,
Martin Pring

The views expressed in this article are those of the author and do not necessarily reflect the position or opinion of Pring Turner Capital Group or its affiliates.