Will Last Month's NYSE Breakout Hold?

• McClellan Summation gives a sell for the Wilshire 5000.
• Bond confidence ratios turn positive.
• Inflation ratios break to the upside. Trick or treat?
• Bonds complete a head and shoulders top.

US Equities

The NYSE Composite ($NYA) has been doing its best to break to the upside but continues to vacillate at the green breakout trend line drawn in Chart 1. Short-term momentum indicators are mixed. For example the McClellan Volume Oscillator (!VMCOSINYC) in the bottom window of Chart 1 goes bearish when its 10-day EMA crosses below its 20-day counterpart (black below red). The red arrows indicate that sell signals usually give a good indication of a 3-6-week decline. This model is currently in a bearish mode, but not convincingly so since the 10-day series is trying to hook up again. Support lies in the area of the two previous intraday lows at 11,020. More support lies a bit below that level as flagged by the rising solid red trend line. Were these two points to give way that would likely signal that the upside breakout was false, in which case I would expect to see a drop in prices as a small head and shoulders top would have been completed.

Chart 1

Chart 2 shows that the NYSE daily A/D Line (!ADRATNYC) has been in gear with the NYSE Composite ($NYA) for quite some time and is therefore not offering any negative vibrations in the divergence department. However, the chart does tell us a couple of things. First of all, the $NYA, when plotted on a closing basis, is now back below its breakout point and that suggests that the breakout will turn out to be a false one. In my book the odds of a false breakout truly being false are enhanced when we see some additional confirmation. In this case the confirmation would come with a break below the horizontal red trendline at 11,040 since that would complete a small head and shoulders top on the lines of Chart 2. Note that there is strong support for the A/D Line in the vicinity of the two converging trendlines. Were they to give way I would expect to see prices drop some more. Note that the A/D Line does not include the May 5 drop at posting time. Remember you can click on the chart to update it.

Chart 2

Charts 3 and 4 show how delicately balanced things are right now. For instance, Chart 3 points out that the KST for the NYSE Composite ($NYA) has gone flat. A re-invigorated breakout would push it to the upside and a move below support in the 11,020-40 area would tip the balance in the opposite direction. Chart 4, on the other hand, compares the S&P 500 ($SPX) to two breadth measurements, where we can see that both on Monday came very close to an upside breakout as did the S&P itself. Note that when posted this data had not been updated for May 5.

Chart 3

Chart 4

One indicator that does cause us concern is the McClellan Summation Oscillator (!VMCSUMTOT), featured in Chart 5. The red arrows tell us that when the oscillator peaks out and crosses below its MA a decline of some kind typically follows. Such action does not tell us the magnitude and duration of the expected move, but it does offer a reliable warning that prices are vulnerable. This indicator triggered a sell signal last week and that hints at some trouble, especially as the bullish end of the month seasonal ended on Tuesday. This particular summation sell signal is coming from a lower level than any triggered since last July making this consistent series of negative divergences even more troublesome. The October 2014-May 2015 up trendline for the Wilshire 5,000 ($WLSH) has already been violated. Once again it would be nice to get some confirmation, which in this case would come with a break below the previous low at 22040.

Chart 5

Bond Market Confidence

Chart 6 compares the S&P 500 ($SPX) to the ratio between the Fidelity Capital and Income Fund (FAGIX) to that of the Vanguard Long-term Treasury mutual fund (VUSTX). The former is invested in poorer quality bonds and the latter top quality. When the ratio is rising it indicates growing confidence amongst bond investors and vice versa. The two dashed green trendlines indicate that bond market confidence improved prior to a substantial run up in equities and the red ones show how weakness preceded a sideways trading range. This week the ratio broke out from a reverse head and shoulders pattern. This reflects improving confidence that would normally spill over into a higher S&P. This indicator should be interpreted as bullish unless it slips back below the red up trendline and the breakout point.

Chart 6

Chart 7 shows a similar ratio, and it is offering a similar message. This one monitors the relationship between the iBoxx High Yield to the Barclays 20-year Trust (HYG/TLT). It too has broken out from a base formation and argues for higher equities.

Chart 7

Commodities and Commodity Oriented Ratios

What is interesting is that the two bond confidence ratios in the previous two charts are operating in a similar manner to the commodity markets and a couple of inflation/deflation ratios.

For example, Chart 8 compares the DB Commodity ETN (DBC) to two stock market ratios. The first is the ratio between the Goldman Sachs Natural Resource and the Spider Consumer Staples ETF’s (IGE/XLP). The second is my Inflation/Deflation ratio (!PRII:!PRDI), which compares an index of inflation sensitive industry groups against one that out-performs in a deflationary environment. Note that all three series have a strong tendency to move together. Right now the trend is inflationary because they have all broken out from small bases. If this is a primary bull market for inflation sensitive assets they will continue to rally. However, if this is merely a counter-cyclical reaction to last year’s sharp drop I would expect to see these currently legitimate breakouts turn into false ones. These relationships are certainly worth watching closely in the period ahead for some valuable clues in this direction.

Chart 8

Bonds

Chart 9 indicates that the Barclays 20-year Trust, the TLT, has just completed a massive head and shoulders top. This break is being supported by a declining KST, so it should be treated as valid. That said, it is also true that a violation of support following a sharp price drop often results in downside exhaustion as the break proves to be temporary as prices quickly rally back above that support. In this case support is evidenced by the neckline and the 200-day MA. Since they are very close together it will be worth watching to see if further downside action develops or if the breaks turn out to be whipsaws. The first alternative would suggest a bear market and the second an intermediate bottom in a bull market or major trading range. In that respect the failure of Tuesday's price action to hold below the 200-day MA is encouraging.

Chart 9

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.