The stock market was bombarded last week, as the Facebook data concerns pummeled the tech sector early in the week, and later in the week, the FOMC's updated announcement reflected some softening of their outlook for the economy. The announcement of new tariffs on China hit a weak market hard, as the Dow lost 724 points as the selling was broadly based. Stocks did not respond well to President Trump’s news conference, as the major averages dropped further late Friday.
In my January 10 column “Investing Or Trading,” I responded to the prevailing opinion that the “bullish start to 2018 has likely reinforced the view of many that it was an investing or buy and hold market.” My opinion then was that it was more likely to be a trading market, as I expected volatility to pick up.
Clearly the volatility has been even higher than I expected, and that could last for most of the second quarter. This is likely to be a problem for many of the investors who just moved back into stocks in the past 4 months.
There were record inflows into stocks at the start of the year, and Bloomberg reported that “Equity funds enjoyed a record $43.3 billion inflow in the week to March 14.” Some investors apparently changed their minds last week, as in weekly data ending March 21st, $19.1 billion was pulled out of equity funds. After last week, more redemptions are likely.
With Friday’s close, the Dow Industrials and S&P are set to have their first lower quarterly close since September 2015. The trend of nine higher quarterly closes could be broken. Of course, there is still a week left in the quarter but a positive quarterly close seems unlikely.
The quarterly chart of the SPDR Dow Jones Industrials (DIA) reveals that DIA moved well above its quarterly starc+ band for the first time since 2007. At the end of March 2017 DIA closed above the upper boundary of the trading channel and the upside target was met in January.
The DIA has closed below its quarterly pivot Friday for the first time since October 2016. There is current quarterly support in the $221-area, while the trading channel is now just over $212. The preliminary quarterly pivot support for the second quarter stands at $226.37 with the quarterly pivot at $245.57.
So why is a lower close in the first quarter important? Many investors may not fully understand what their portfolios have done in 2018 until they get the March statements. I think some investors will be disappointed, especially the new investors that have stayed out of stocks for most of the bull market.
I was clearly surprised by Trump’s election victory but my analysis of the market’s reaction was that the surge in optimism over stocks would last for a long time. Many may remember that, in January 2017, many were starting to doubt the Trump rally, as stocks had been consolidating for several weeks. My view at the time was “that the tremendous surge in optimism after the election will have a lasting impact in 2017.”
Confidence plays an important role in the economy and the stock market. Two of the most followed measures of what consumers are thinking is the Consumer Confidence Index and the University of Michigan’s Consumer Sentiment. The latest data on both is out this week.
I have added trend lines to this excellent chart from dshort which shows the relationship between the Consumer Confidence Index and past recessions. In February, it recorded the highest reading since 2000.
For the past three recessions, the Consumer Confidence Index has dropped below support near the start of a recession. For example, in late 1989, the support (line a) was violated well before the start of the recession in the summer of 1990.
In 2001, the break of support (line b) occurred near the start of the recession, which was also the case in 2007 (line c). The current chart of the Index shows that it is still well above its steep uptrend (line d). It would take a drop below the June 2017 reading of 117 to weaken the trend.
Another measure of confidence that I follow is the National Federation of Independent Business (NFIB) Small Business Optimism Index, which in the past has peaked ahead of the Consumer Confidence Index. It was also very strong in February, and as their Chief economist Bill Dunkelberg pointed out “Small business owners are telling us loud and clear that they’re optimistic, ready to hire, and prepared to raise wages.”
This chart from TradingEconomics.com (a great source of charts) reveals that this is a more volatile data series. There have been a number of sharp swings throughout the bull market, but the longer term trend (line b) is clearly positive.
The break in the short term downtrend (early 2016) coincided with similar positive technical developments in other economic indicators that indicated the economy was turning around. The surge since then has been impressive, and the support level I am watching now is in the 103-area. Because it is a volatile series, I would not be concerned until there are two consecutive monthly closes below this level.
Last week’s action has clearly shaken the confidence of many investors. After implementing measures over the past year that could have strengthened the economy, Trump’s recent action on trade seems ill-informed and probably will be ineffective.
Frankly, I do not think he is getting good advice, as his advisers seem to be motivated by their political dogma and not the facts. They are soon likely to conclude that a trade war, like healthcare policy, is much more difficult than they expect. Late Friday, there were already comments that the Chinese may cut back on their bond purchases, just as the U.S. deficit is exploding. Hopefully, Trump will soon realize that keeping his campaign promises is not feasible, and change course.
This week, in addition to the Consumer Confidence and Consumer Sentiment numbers, we have several important reports on the manufacturing sector coming out, as well as the final reading on 4th quarter GDP on Wednesday. Even though there are no signs of a recession, last week’s stock market action has some investors wondering whether they should prepare for a bear market.
In order to answer this question, one needs to look at the analysis of the advance/decline lines over multiple time frames. This data is based on the cumulative reading of the number of stocks advancing and declining. My A/D line methodology identified the market top in 2007, and has kept investors on the right side of the market ever since.
The current monthly chart of the NYSE Composite shows the lower closes in February and March. The 20-month EMA for the NYSE Composite is at 11,890, with the starc- band at 11,707—3.8% below Friday’s close. The major support is at 11,254 (line a) which corresponds to the 2015 high.
The major market trend is determined by the monthly NYSE A/D line, which diverged from prices in October 2007 and then dropped below its long term WMA by the end of the year. This signaled the beginning of the bear market. The monthly NYSE A/D moved to a new high in the spring of 2016, which I mentioned at the time was very bullish for stocks. The A/D line has not formed any divergences and is still well above its rising WMA so there are no signs of a major top. It would likely take several months before it could drop below its WMA.
The weekly chart of the NYSE Composite shows that last week’s drop completed the wedge formation which signaled that the rally from the February lows was over. The NYSE is still above the early February lows and the support at 12,048 (line a) with the weekly starc- band at 11,957. There is further support at 11,687 (line b), which corresponds to the early 2017 high.
The weekly A/D line dropped below its WMA last week reversing the positive signal from early February. The next support to watch is the February low. If it is broken it will suggest a drop back the stronger support from November (line c).
The Spyder Trust (SPY) was one of the biggest losers last week, down 5.9%. However, as the weekly chart indicates, the SPY is still 2.4% above the February panic low at $251.91. A break of this level will turn the focus on the support at $245.34 which is 4.8% below Friday’s close.
The weekly S&P 500 A/D line dropped below its still-rising WMA last week, but is well above the support from the 2016 low (line c). The A/D line dropped below its WMA for one week in April 2017 (point 2). The extent of last week’s slide and the slope of the A/D line makes a one-week turnaround unlikely this time. The S&P A/D stayed below its WMA for eight weeks in the fall of 2016 (point 1).
The extent of the selling last week is most clearly evident on the daily chart. The weak close on Wednesday was a very negative sign as it increased the odds of a downside break, that was confirmed by Thursday’s lower open. The close Friday was well below the daily starc- band, which makes a rebound or some sideways action very likely this week.
The break of the S&P 500 A/D line support (line a) and the drop below the early March lows has moved the daily A/D line into the corrective mode. This, along with the steepness of the drop, makes it very likely that a market rebound will be met with more selling. If the February lows are broken, the next support is at the early December highs (line b).
The selling last week started in the tech sector as Facebook (FB) was down 11% and the Powershares QQQ Trust (QQQ) was down over 7% . QQQ did closed below its 20 week EMA with the weekly starc- band at $154.07. The weekly Nasdaq 100 A/D line made a new high a week ago, line a, but has now dropped slightly below its WMA. The recent new high is a positive and the Nasdaq 100 A/D line does not show as much downside momentum as the S&P 500 A/D line. The daily Nasdaq 100 A/D line (not shown) is below the early March lows and is now testing next support.
The small cap IShares Russell 2000 (IWM) is holding up better, as the Russell 2000 A/D line has not yet dropped below the March lows. This raises the possibility that the small cap stocks will bottom out first.
So what about the tech sector? The technology Sector Select (XLK) dropped well below the monthly pivot last week, which was not surprising. The chart support from the 2016 low (line a) is now at $63.35, with monthly pivot support at $62.66. There is additional support in the $60-area.
Both daily relative performance (RS) and OBV made new highs with the XLK in March, which is a positive sign. The RS has dropped below its WMA, but is well above the long term support (at line b). The daily OBV is also below its WMA, and looks ready to test the support (at line c).
From this analysis, the major market trend is still positive, so the current decline should eventually present a good buying opportunity, but there is likely to be more pain first for those who are long. I do not see any signs that the technology sector has formed a major top.
For those that are long from higher levels, the next month or so is likely to be difficult since the weekly A/D line analysis is negative. The stock market could drop another 5% or so before it bottoms out. If you already have a 5-8% loss from a recent purchase this is not acceptable. Last week, I recommended that Viper ETF investors and traders take profits on some positions that were established at much lower levels. Our stops were also tightened and a number were hit last week.
It is unlikely that the market will bottom out soon, as the current correction is likely to last into the second quarter. Once the daily A/D lines have formed established downtrends I will be able to get a better idea of when the correction could be over. For updates, be sure to follow me on Twitter.
If you are interested in learning more about the stock market and investing, I hope you will consider the Viper ETF or Viper Hot Stocks reports. Each is sent out twice a week and the reports are only $34.95 each per month.
