A Pause To Refresh Before A Year End Rally?

• Short-term October stock market correction?
• Healthcare not looking so healthy
• Dollar likely to digest recent gains over the immediate short-term
• How about a rally in gold?

Short-term October stock market correction?

The strongest seasonal of the year for equities comes at year-end. Since this is a bull market, it seems that there is a good chance the stocks will once again oblige this year with another advance. Having said that, it seems that a number of short-term indicators are also suggesting some form of corrective activity may be in the air. Were that to play out it would likely translate into a down/sideways now, up at the end of the year type of scenario. Let’s look at some of the evidence.

Chart 1 features a 10 and 14-day EMA of the VIX. Since the VIX generally moves in the opposite direction to prices, these two EMA’s have been plotted inversely so that the S&P and VIX  move in similar directions. The red arrows point up those periods when the 10-day series reverses direction to the downside from a high level. Typically, a correction of some kind follows. It doesn’t happen every time, as you can see from the three dashed arrows, but usually such action is followed by a 2-3-week decline or consolidation. The latest plot is a record high for the period displayed in the chart. However, it’s important to note that it is still rising and is above its red 15-day counterpart. That means that it has not yet gone bearish, but probably is pretty close to doing so.

Chart 1

Chart 2 features my Dow diffusion indicator. This one monitors the Dow 30 stocks that are in a positive trend. Once again, the red arrows flag overstretched reversals, and the dashed ones, false negatives. Last week, the indicator flashed another sell signal, which suggests that a pause is in order. Note also, that the September peak fell well short of those set at the start of the year.

Chart 2

Chart 3 looks at the NYSE Volume Oscillator. Once again, the red arrows flag bearish periods, but this time, as the indicator crosses below the equilibrium point. It went negative for prices last week, and based on its recent track record, is arguing in favor of some kind of correction.

Chart 3

Finally, Chart 4 compares the S&P Composite to a momentum measure of bullish and bearish asset flows into the Guggenheim Funds. This PPO, using the 12/26 parameter combination recently broke below a 1-year up trendline and has been experiencing a couple of declining peaks, not dissimilar to its action in 2007.  I certainly would not predict a repeat of the 2007-9 performance based on this one indicator, but this weakness nevertheless reminds us that the amount of money following into the Guggenheim bullish funds, relative to inverse and other negative entities is certainly lacking the robust character seen between 2009 and 2015.

Chart 4

Healthcare not looking so healthy

If we do see a small October correction, one area to monitor is healthcare. Chart 5 shows that the basic absolute price uptrend for the SPDR Healthcare ETF (XLV) remains intact, although, the weakfish KST action suggests that some downside is likely. On the other hand, the relative line, in the third panel, has just violated its 2016 up trendline, having failed by a wide margin to confirm the early October high in the absolute price. These are not long-term signals by any means, but do suggest that healthcare is vulnerable should the broad market sell off or consolidate prior to the year-end rally period.

Chart 5

Dollar likely to digest recent gains over the immediate short-term

At the end of September, the technical position of the dollar was starting to look interesting from the point of view of a short-term, and presumably counter-cyclical rally. Short-term in this case is defined as a trend lasting between 4-6-weeks.That seemed to change on Friday as the dollar and several related markets experienced short-term reversal phenomena of the kind that could be expected to have an effect for the next one to two weeks. Let’s take a look at some of them.

First, the Dollar Index ETF, the UUP, is featured in Chart 6, where you can see that on Friday the price formed a candlestick pattern known as” dark cloud cover”. These patterns develop after a rally, whereby the real body of the dark cloud itself, opens higher than the high of the previous candle (i.e. Thursday) but closes more than half way down its real body. Such formations are quite rare. However, when they develop they are usually pretty reliable. Note also that the 9-day RSI has just started to reverse from an overbought level.  I am not looking for a big decline here, but a drop to support in the form of the extended green down trendline would not be surprising.

Chart 6

How about a rally in gold?

When the dollar declines gold usually rallies. In this respect, the short-term technical position for the price of the yellow metal is not inconsistent with such expectations. Chart 7 shows that the price is recovering from an oversold RSI condition. More importantly, the Gold Trust ETF (GLD), experienced a piercing white line candlestick pattern on Friday. The conditions for its formation are the exact opposite to the dark cloud as described for the dollar.

Chart 7

Finally, Chart 8 shows that Friday’s price action represented an outside day in western bar chart speak, as the price action encompassed that of Thursday and then some. I particularly like the fact that the open was close to the low and the close near the high of the day, as that indicated a complete turn-around of previous sessions, when the bears were in command. Again, I am not looking for a huge move, but a retracement rally back to the green resistance trendline would represent  a reasonable expectation.

Chart 8

Good luck and good charting

Martin J. 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 of Walnut Creek or its affiliates.