The S&P 500 (INDEXSP:.INX) and the Dow Jones Industrial Average (INDEXDJX:.DJI) saw late-stage breakouts last week -- the S&P above 1,965, which I identified as aligning with March 6 (the 2009 low), and the Dow above "flat" just below the 17,000 level, carved out throughout June.
When an item breaks out and then reverses below the buy point entry, a sell signal is triggered.
When an item doesn't do what you expect it to do, sell it.
It is too early to say that there is a Late Stage False Breakout.
S&P 500 Daily Chart:
The S&P hasn't done anything wrong -- yet -- but any downside follow-through is suspect. Following a month of grinding action, if the recent breakout was for real and a summer melt-up was beginning, upside momentum should show up again soon, as in this week. As I've offered previously in the Daily Market Report, it should be easy to see if a melt-up was the agenda. Remember that the possibility was always for a one- to three-day wonder at the start of the new quarter.
One day does not a top make by any means; however, early July was set to be a turning point of some consequence. While an idealized top would have been perfected this week on a spike to 1,999 to 2,000, time is more important than price. Moreover, the week is not over. It is possible that the S&P turns back up this week and kisses 1,999 to 2,000.
Be that as it may, the S&P does show, to some degree, three drives to a possible high at 1,986 into a turn date that has been on the radar. Remember that I've been focusing on the behavior around June 6 and then July 4.
Interestingly, the little breakout by the Dow above 17,000 mirrors the false breakout by the S&P in early July.
Daily Dow Chart From June:
As noted in yesterday's Daily Market Report [subscription required], a pullback was due with the S&P extended from its 50-day moving average more than at any time this year. At the same time, the pullbacks since the April low have been sequentially smaller and smaller.
So, yesterday, the S&P Daily Swing Chart turned down on trade below Thursday's (July 3) low. If the market is still strongly in gear to the upside, a rally should show up from either two or three lower daily lows and perhaps a pullback that tests the 20 DMA. This coincides with a short-term mid-channel line.
On the surface, yesterday's action didn't seem that meaningful, but the Russell 2000 (INDEXRUSSELL:RUT) suffered its largest loss since April.
Daily Russell Chart:
The Russell pullback is testing its 20 DMA near 1,180. The Russell hasn't violated its 20 DMA since reclaiming it in late May. Additionally, trade with authority back below 1,180 puts back into play the notion that the Russell has been building a right shoulder of a Head & Shoulders top. In any event, below 1,180 opens the way for a decline to 1,140. This coincides with a backtest of a Live Angle, which ties to the breakout line in June, as well as a test of the 50 DMA.
It may be something, or it may be nothing, but in thinking about this potential early July turning point, I am reminded that the historic low in 1932 occurred in the first week of July. Yesterday, I asked myself whether it was possible that a 40-year inflationary advance from 1974 is completing. Another 40 years back ties to the 1932 low -- 82 years specifically. When checking the Square of 9 Wheel, I was intrigued to discover that 82 is square a price of 1,986 -- last week's S&P high.
I can't help but wonder whether a 14-year topping process is culminating in an 82-year run from 1932 to 2014.
Last week, I asked a well-known market technician friend of mine what the likelihood was that an A-B-C correction from 2000 into March 2009 could have defined a generational low. His response was unequivocal: "Zero. It is the common thought, but it is nothing like the bottom that is due. This is a depression cycle. Unless there is a quantum change in mankind, we have not hit that bottom yet."
Monthly Dow Chart:
To wit, many traditional measurements of value, such as the price-to-earnings ratio or the dividend yield for the Dow and the S&P, never hit the kind of great values associated with historic bear market bottoms. For example, in June 1949, the S&P P/E ratio was 5.6, and the dividend yield was 7.38%. In October 1974, the S&P P/E ratio was 7.0, and the dividend yield was 5.97%. In August 1982, the S&P P/E ratio was 6.9%, and the dividend yield was 6.7%. Even at the end of 2009, the P/E ratio for the Dow was 18.02. The dividend yield for the Dow was 2.67%. For the S&P 500, the P/E ratio was 86.20, and the dividend yield was 1.96%.
And therein lies the rub: If one had followed these metrics, he or she would have kept one out of the market for the long haul -- waiting for the ultimate low -- and out of the long run up of the last five years. One may have participated, but he or she would have been quick to dismount the tiger... the trend.
For example, one stock market legend stated the following at the end of 2009:
In the face of these valuations, the odds of building impressive profits over the next decade are very poor (unless, of course, there's a crash and a new bull market). [...] At today's bloated values, profits in stocks over the coming decade will probably not be any better than the percentage increase (if any) in the GDP over the same time period.
We never saw a classic high-value bear market bottom. I don't know, maybe this time it's different. To be sure, Svengali Federal Reserve has turned the world upside down and in so doing made a great many market participants believe that this time is different.
The next rally that plays out will need to be watched carefully. If there is an unconfirmed high by either the Dow Industrials or the Dow Transports (INDEXDJX:DJT) and, then, if the market turns down and the two averages break to new lows below whatever low the next rally starts from, buckle up.
Strategy: Back below 1,960 is a yellow flag. Back below 1,920 is a red flag.
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