Saturday, April 12, 2014

Weekly Market Summary

Last week ended with a failed break-out higher in SPY and with RUT and NDX plumbing below their 50-dma. This was our conclusion: "Often, having failed to break out higher, an index will test the bottom of the range (183), also the area of its 50-dma" (post).

In the event, SPY tested its 50-dma, bounced for two days and then closed lower. RUT and NDX are now off more than 7% from their highs in March. Both of those indices are now at interesting junctures. 

RUT is now right on its 200-dma for the first time since November 2012. Look back earlier and you'll see an initial bounce on the 200-dma two different time before heading lower. That's a likely set up here as well.

Those periods line up with NDX at its 200-dma. Now, NDX is on support from its February low and from late 2013. Its 200-dma is very close. A short term reprieve from the selling is likely here. Note the slight positive RSI divergence.

The probability of a bounce are improved by the fact that NDX is also hitting a breadth extreme. For the first time since November 2012, just 20% of the companies are above their 50-dma. In the past, at least a bounce ensues. A lower low may well follow.

SPY is trailing these two indices. While they have broken their uptrend channels, SPY has not. That channel comes in close to 180. SPY did break its 50-dma at the end of the week. A back test is not uncommon. That area (183) was also a very big support level for all of 2014 so far, so the break was particularly significant.

In the big picture, SPY looks to be following RUT and NDX lower. Recall that it has not touched its 200-dma for longer than at any time in the past 30 years save for the mid-1990s. This extended stretch is now running head long into seasonal weakness that typically grips the market from May through October (read more about that here). 

But in the near term, like RUT and NDX, a counter move up is likely near. The failed move in SPY (top yellow box) is mirrored below the former trading zone (bottom yellow box). There is a low volume vacuum below Friday's close (look left in the chart at volume by price).   Holding this support level is especially critical.

It's possible that SPY falls right through this vacuum area, but, like NDX, it has reached a breadth extreme. 

First note that more than 50% of SPX companies are now at 20-day lows. Over the past 3 years, this has happened 13 times and SPY has closed higher within 5 days in all except one of those. The average return is more than 2%. 

Second, less than 20% of components are above their 20-ema and just 35% above their 50-ema. Not necessarily a durable low, but an extreme where price will often move back up.

Treasuries usually move counter to equities. In 2014, a portfolio of bonds has so far outperformed SPX by more than 800 bp. Their move this week was especially strong and it's possible that at least a short term pause/retrace is near. 

Using TLT, price closed at its upper Bollinger Band and at a former pivot area. Often, price reacts when both of these occur at the same time. This would be a positive for equities.

Helping equities this week is seasonality. April options expiration week is unusually strong, up 76% of the time.

The only other modest extreme this week was in in the total put-call ratio, which has been below 1.0 essentially since the October low in SPX. On Friday, it closed at 1.15. Normally, an extreme is above 1.2 to 1.3 but given how long its been below 1.0, this jump might be a relative extreme. It would not be surprising to see it move higher in the weeks ahead, and that means lower lows in SPY.

It's very unlikely this week's lows in the indices are a durable low. More likely, SPY moves higher and then down to its 200-dma (175) in the weeks ahead. Investors are still at a bullish extreme. Reducing this bullishness likely takes time as well as lower price. 

To take just one example, active managers are more skewed long than they have been in 8 years, rivaling May 2010, before which SPY fell well over 10% in the months ahead. In the past, durable lows have occurred when this indicator has fallen below 35% (it is now at 85%).

Best to your trading this week.