At These Levels

I was thinking earlier this afternoon about changing my name to the Green Reaper, given that the comments about the banks this morning came in at 10:31 am ET when the PHLX Bank Index (BKX) was still trading above 105. Apparently, it took about an hour for the 10 am ET Chicago PMI number to sink in and for market participants to understand that the bet that the Federal Reserve is done may be premature.

It's never impressive for an index to decline 1.7 points, but this would have been -170 on the Dow if the BKX was priced similarly. Still, this is the largest decline in 2005. A couple of years ago, the index provider split the BKX 10:1--why, I'll never understand. It was better when the index was priced near 1,000.

Stockcharts

The bank index is what held the market together in late October, as has been noted here before. I believe the move is misguided, but these are the biggest stocks in the market and you can't stand in front of them when they're moving, be it higher or lower. If the BKX held the market together a month ago, it surely can bring the whole shebang lower (to use a strange but interesting word that I heard in Kentucky), should this decline continue.

The action in the BKX shows that all those institutional investors who were piling in for the end-of-the-Fed-hikes rally have reconsidered. And if they become convinced there are more Fed rate hikes, the BKX has a long way to fall.

The S&P 500 is 5 points above its summer highs. Could this be yet another failed breakout that delivers a lot more downside than the 25 points it made above the August highs? My guess was posted here last week.

I've found a take on inflation that will be well worth your time, paper and toner. These guys know what they're talking about. I don't want to overload you with external links, but the ones I do post are well worth reading (otherwise I would not be posting them).

The surprise this morning is the Chicago Purchasing Managers Index, which was higher than expected on the surface. Strong PMI generally means strong economy and the GDP numbers that were revised to 4.3 percent growth for the last quarter support that view. However, the mandatory fly in the ointment was large.

Bloomberg

The Chicago PMI index has a "prices paid" component--a sub-index if you will--that came out at 26-year highs. Above, you can see that "prices paid" by those purchasing managers have doubled in the last four years, which suggests that there'll be some sort of pass though to consumers sooner or later. Inflation at the producer level has been consistently running above inflation at the consumer level for two years. How long can that continue?

The biggest bet right now in the stock market is that the Federal Reserve is just about done with the rate hikes. You can see that in the action in the bank stocks. The biggest bet in the bond market is that the inflation numbers have peaked (or are close to peaking), which is why the 10-year Treasury yield declined from 4.70 percent to 4.40 percent recently. What if those bets are wrong?

Stockcharts

The stock market closed pretty much on the low tick after it went parabolic into the holiday-shortened trading week. The last two days have been down, with Monday spent selling off all day on poor breadth. Today's action was concentrated on selling the misguided rally at the open.

The perversity of economic statistics shows new home sales at all-time highs today, with yesterday's reported numbers about existing home sales below expectations. I would just like to caution everyone that new home sales are not completed contracts, and that number has been repeatedly revised. The real estate market is lot weaker that the statistics suggest. I see it on my street.

As I mentioned on this weekly commentary, which some of you may get via e-mail, tops are rarely events. They take some time. Trading lows during the past couple of years have happened a lot faster. But the March top was the exception to the rule, as the indexes headed straight down. Here also, there are similarities with the March top, as breadth readings were lagging the rally in the S&P 500 then just as they are now.

Stockcharts

One of my favorite market timing models hasn't yet issued a sell signal, and, as reported here, it suggested a continued rally earlier in November. I may be reporting half-heartedly when I see misguided rallies, because there's much more downside than upside in the next couple of years from the current elevated levels of the major indexes. But I still chose to report them as I see them. Other similarly inclined skeptics don't even do that, but, in my experience, many narrow-minded individuals choose to paint views as "bearish or bullish" when the situation is a lot more complicated.

It's amusing for a bull on precious metals to see the mainstream media yap every day about gold's move to $500 an ounce. I like to buy gold stocks when no one wants them and then sell them to the late comers. But the the fact that gold stocks have been trading sideways for 1.5 years suggests that this may be the base for a massive upside move. Still, such a rally won't come without fits and starts.

I've mentioned the gold market several times this summer. The link below is a take from another member of the blogosphere that may be interesting to you.

While this definitely doesn't look like massive selling, it very much looks like the buyers are tired. I shared my concern about December last week. That was based on the fact that 2001 and especially 2002 had weak last months of the year.

The Dow can pull back 200 to 300 points and the S&P 500 can easily deliver an equivalent pullback--and the bulls would still be in charge. If this is just a normal pullback, it should stop in the 1,220 to 1,245 range on the S&P 500.

Keep in mind that they always try to buy the first pullback after a big run. The only time we went straight down was after the March top, but that type of trading is the exception, not the rule.

The energy sector is under pressure with oil down $1.50 a barrel. But this selling would pale in comparison to what would happen if crude declined below $50. Keep in mind that the stocks have been lagging the energy commodities, as both oil and natural gas have come under pressure. Some natural gas stocks have seen big declines, but most integrated oils stock have had a fairly good bounce in November after October's selloff.

I really don't like the action in bellwether ExxonMobil, arguably the best managed energy company in the world. If the best and most dominant energy stock is acting badly, what does that say about the whole energy sector?

www.stockcharts.com

I'm curios to see what the actual return will be for the major averages come December 31. If they're in the low single digits, it would be mightily amusing, as you would have to take a lot more downside risk to get a couple of percent of upside. And no one considers the fact that the market can turn negative for the year in the next four weeks.

I'm not necessarily expecting such decline--the higher probability is a marginally positive year--but it is possible.

The uneventful shortened trading session today is progressing as expected on Wednesday. The air is pretty thin up where the indexes are trading right now. It should be mentioned that as oversold as they were in mid October now they are notably more overbought. If you had to put a number on a 1-10 scale with minus being oversold and plus being overbought, in October the market was -6 or -7 oversold , while now it is +9, if not +10 overbought. Some of my indicators are more stretched than at any point in the rally that we saw off the 2003 lows.

I think people misread the Fed minutes earlier in the week (or they read into them what they wanted to read). Either way, this is a one-sided market right now. But the rubber band has stretched so far in one direction, which almost guarantees some sort of snap back next week.

I found a great quarterly market review by Rathbone Brothers, a British asset manager. I think you should read the whole review, which you will find in PDF format here. But I would like to highlight the piece by Robin Griffiths, who used to be an HSBC strategist before moving on to Rathbone.

Some things need to be noted about the broad commodity arena. I'm bullish on commodities and energy, long term, I'm just worried that no "shakeout" correction has occurred yet, which raises the risk that when it comes, it will be large.

www.stockcharts.com

Unlike stocks, commodities have been rallying for 4 years and in a much more spectacular manner. The CRB index has regularly pulled back to its 200-day (40-week) moving average, but has never violated a major low in the past 4 years.

www.bloomberg.com

Copper (above), which is still called Dr. Copper for its ability to sense economic strength or weakness, is trading at all-time nominal highs at more than $2 per pound.
This is sending a strong signal for the US and world economy. Or does it?

www.bloomberg.com

Copper tends to lag a little. Nickel (above), however, is an early cycle mover and has been breaking down this year. To clarify, nickel trades at $12,635 per metric ton, whereas copper trades in pounds. The message from the nickel market is clearly different than the one we get from copper. That's one more piece of the puzzle to keep in mind.

While I'm not ashamed to take the credit of top-ticking the oil market when it hit $70 for the first time and fully expecting the recent decline in gasoline prices, I have to tell you that crude oil has to decline a lot more for this to be a major top. If oil holds around 55, it would have done nothing different than what it has on every pause that has refreshed the rally. Still, I'm curious whether this wasn't "it" for the time being.

Have a great Thanksgiving. I may post something on Friday, a shortened trading day, if there's sometning going on. But those shortened days tend to be flat or positive; unless there's a need, I'll be back on Monday. Monday should be interesting.

As mentioned yesterday: "Holiday-shortened trading weeks tend to be positive, but I'm not sure what the upside will be, given that stocks are the most overbought they've been since April of last year." But the market has decided to not only have a positive bias, but to run with no sellers in sight.

Stocks are no longer as overbought as they were in April. Now, they are the most overbought they've been since the rally started in 2003. This isn't bearish in and of itself, but it does suggest that the market is extremely extended. In these situations, corrections--when they get going--can be very sharp. The trick is how to time them.

Looking back during the past five years, we've had rallies in 2001, 2002, 2003 and 2004. The market had a rough time in 2002 and 2001 in early December. Actually, in 2002, the whole month of December was straight down (see chart below).

www.stockcharts.com

What complicates the bull story somewhat is that the market is climbing higher on declining volume, which suggests declining conviction. Maybe no one wants to sell the market right now, but fewer and fewer traders want to buy it (and I don't blame them).

Breadth characteristics are lagging too, which suggests that the rally is exchange traded fund, futures and options driven. It can last longer; I'm just pointing to where you should look for trouble. Next week should be interesting.

The reason for the afternoon levitation and move to fresh multi-year highs on some indexes is:

"Some members cautioned that risks of going too far with the tightening process could also eventually emerge. Nonetheless, all members agreed to indicate at the conclusion of this meeting that a continued measured pace of policy firming remained likely."

Federal Reserve minutes that showed the discussion during the last Fed meeting were released today and market participants are taking it as if the Fed is just about done.

I can see how they can get that idea from this bit: "Some members cautioned that risks of going too far with the tightening process could also eventually emerge." Read: We may stop at some point.

What I have trouble with is the sense immediately following that ray of hope: "... all members agreed to indicate at the conclusion of this meeting that a continued measured pace of policy firming remained likely." Read: The Fed hikes continue.

Does no one see the contradiction here? Or does the Fed want to give the opportunity for everyone to read what they want in the minutes? By the way, I've heard that you can change the Fed minutes and omit substantial parts before they're released to the public, which is quite telling.

It's highly unlikely that we'll see any meaningful moves out of stocks this week, unless there's some major news that hits the tape. Holiday-shortened trading weeks tend to be positive, but I'm not sure what the upside will be, given that stocks are the most overbought they've been since April of last year.

Overbought doesn't mean sell. Overbought means that it's difficult to make upside progress, as the market has been going straight up for four weeks. I looked at my screens this morning and the S&P is down less than a point and the Nasdaq up less than a point. This is the definition of "flat".

Still, it must be noted that every little drift lower has been aggressively bought in November, which is what happens when you're an institution and afraid of missing a big move. The point remains: If everyone expects the market to rally, haven't they bought in anticipation of that? If the majority has bought, who will keep buying?

Here is what I said on the weekly hotline: "There were two breakouts prior to the current one above major highs this year, one in early March when the S&P 500 traded to 1,229, bettering the prior major high hit on the first trading day of the year by about 12 points. The other major breakout in August bettered the March high by 16 points. On both occasions, major downside followed as the bulls' got suckered into a trap.

"I'm not saying the same thing will happen on the current breakout hit today at about 10 points above the August highs. Everyone knows that you should buy at the end of the year for the fourth quarter rally. But even if everyone knows it, is it possible the rally won't happen?

"This has been one hell of a tennis match between the bulls and the bears, and a couple of percentage points in favor of one side doesn't suggest a victory. I'm curious to find out what the return for the year on the major indexes will be come December 31."

I've noted all three breakouts this year on the chart below. As I mentioned, the March and August breakouts were used as selling opportunities; much bigger downside followed after the breakouts than upside. For example, the March high bettered the December high by 12 points and then the S&P 500 declined 97 points to the April lows. The August high bettered the March highs by 16 points and then the S&P 500 declined 77 points to the October lows.

www.stockcharts.com

I'm curious to see what happens this time. This is the time of the year where the breakout should work. And there are five more weeks for that to happen.

This is a shortened holiday trading week and those tend to be positive. But keep in mind that the market has been gaping straight up during the past four weeks, similarly to the way it was going down in the prior three. Straight up or down moves tend to exhaust themselves. The selloff couldn't last, and the rally may run into trouble as the market forgets to breathe in and out.

It's the same way with running. You can sprint for half a mile very fast, but you are unlikely to go farther. Or you can choose to jog breathing in and out and you will make it much farther. So far the market sprinted lower in early October and then the bears couldn't run with the ball and the bulls had a successful interception. They've been sprinting in the other direction for four weeks, and they will run into the same problem the bears had--running out of breath.

As I wrote on Friday, expect them to buy the first meaningful pullback. But if this straight up levitation continues, the pullback may be more meaningful than most expect. For the time being it continues.

The S&P 500 made a marginal new high again on the heels of the better-than-expected Conference Board leading indicators index. That hit the euro big time, as the currency market obviously believes that a stronger US economy means higher interest rates, which in turn puts more pressure on the euro.

Less than 2 years ago, short-term interest rates in the US were 1 percent and short-term interest rates in Europe were 2 percent. Every selloff in the euro was getting bought. Now short-term interest rates in the US are 4 percent (possibly going higher) and interest rates in Europe are still 2 percent, where they've been the past 5 years. This time, every rally in the euro is getting sold. The euro can drop another 5 to 10 cents from here just for sport.

This will be the only post for today since I'll be focusing on the weekly commentary.

The market closed much better than what it looked like was going to happen early in the morning. The fact remains that many major indexes made new multi-year highs with a gap up and never made much progress past the open. The concerns I had this morning still stand.

It is very possible that the lade intraday day rally had a lot to do with trying to close the S&P 500 SPDR (AMEX: SPY) on the 125 strike and the S&P 100 (OEX) index on the 575 strike. Broker dealers buy cheap calls and try to get them in-the-money or short puts and try to get them out-of-the money with buy/sell programs. There are many theories about how this chaos works, but let’s not get into them right now. Have a great weekend.

I have to do a presentation on emerging markets before the DC-area AAII chapter. I have found that when interest is greatest there, it is never the time to buy them, but I have to find a less blunt way to say it.

Holy Molly! The bulls got a little bit more than they bargained for with this new high in the S&P 500 and Nazz. Let's elaborate.

The market did indeed make a new multi-year high, but it didn't "break out". The S&P was overbought with volume and breadth lagging on the advance. It made new highs right on options expiration day, and then immediately reversed and turned negative on good volume, taking out the opening level by a good margin.

www.stockcharts.com

This type of activity generally signifies a blow-off top or, at a minimum, a decent pullback. Now, there's no guarantee that it's all downhill from here. It isn't. They always buy the first pullback, as the belated bulls are worried that they'll miss the fourth quarter rally.

But I'll be surprised if the S&P 500 doesn't decline to its 20-day moving average, which is now rising and will be near 1,220 when the index gets there, where the bulls will try to hold it. We'll have to see if they can.

I know plenty of experienced traders who hate the market here and many that like it. But there are few things more bearish that breaking out to new multi-year highs and turning negative on heavy volume. That much I know.

I've become much more patient with the indexes because of the numerous meandering we've had during the past two years. Until the S&P 500 is above 1,140 (the 2005 low), you can't talk of a major top.

Throughout 2005, I used the 2004 lows near 1,060 as the guideline. Every selloff was a correction, but every rally barely exceeded previous highs, which tells you that there's a lot of selling into strength in this market (like we see today).

http://cunningrealist.blogspot.com/2005/11/hot-air.html

And the comments below were funny. If the bubble has really burst, you have not seen even one-tenth of the dramma yet.

And that one ...

http://www.capitalspectator.com/archives/2005/11/does_m3_matter.html#more