S&P's Health Checkup

Summary of Week’s Notable Technical Developments:
 

• Levitation act (my opinion) continues for broader market
  
  
• NASDAQ and Russell 2000 have been star performers
  
  
• Commodities stuck in the mud
  
  
• Dollar index moving sideways
  
  
• Benchmark 10-year Treasury remains range-bound despite heavy auction week
  

Today...

Weekly jobless claims proved to be a non-event; some chatter about China’s inflation and a global move toward higher interest rates. Equity markets spent nearly the entire day modestly lower, but a last-hour rally brought home gains of 0.4% for all three major indices. Even the recently strong NASDAQ and Russell 2000 appeared to be taking a breather until the late spurt. Oil and gold were flat; copper up 0.4%; natural gas down 2.5%. The DXY closed down slightly and the 10-year Treasury finished unchanged.

Why?

The US Treasury has been very active this week, auctioning $21 billion of new 10-year debt yesterday and $13 billion of 30-year bonds today. A bid-to-cover ratio of 2.89 and below-forecast yield on the auctioned 30-year debt suggests strong demand at current levels. If smart money is content with 4.68% yield, then what does that say about the prospects for the economy, stocks, and commodities? To go out on the long-end of the yield curve is to make a proclamation of your intermediate- to long-term economic expectations. Strong demand could portend a low inflation environment, a slow growth environment, or possibly something else altogether. It’s important to figure out why big pools of money are allocated for a specific yield and why highly intelligent people are comfortable with placing large amounts of capital at risk for a seemingly small return.

Market Internals: NASDAQ
(Figures are rounded)


Relative Health of the S&P (top) versus NASDAQ (bottom)

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• The S&P hasn't taken out its January high yet, but its RSI has -- a bearish reversal setup if no new price high is made soon.
  
  
• NYSE breadth peaked on Friday, while volume has continued to grow -- a sign of churning at or near the highs. No definitive conclusion to be drawn here, but evidence is mounting.
  

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• Unlike the S&P, the NASDAQ does not have a bearish reversal setup. Instead, it has higher price peaks along with higher RSI peaks -- which is what you’d expect to see from a healthy market.
  
  
• The NASDAQ’s breadth and volume trend over the last four sessions is similar to that of the S&P -- nothing alarming, just something that bears are watching.

Technical Focus: S&P Big Picture Update

Monthly Closing Price Chart of S&P 500 Index

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• The monthly chart of the S&P 500 offers plenty of clues as to where the index may be headed.
  
  
• As labeled above, the S&P is in the final stages of wave 4 of C of an ABC correction that will make up wave IV when complete. The markets are in a longer-term corrective pattern (expanding flats for the S&P and Dow and a zigzag correction for the NASDAQ). Other wave counts have been proffered by fellow technicians; including the most prominent Elliott Wave practitioner, Robert Prechter. While we acknowledge those alternate wave counts as viable possibilities, we remain with our current count given the status of all three major US indices.
  
  
• Regarding the S&P, here’s our justification:
  
  
  • The index still hasn't conquered the 61.8% wave 3 retracement line (which comes in at around 1146 on a monthly close).
    
    
  • The RSI on the monthly chart put in a momentum low in March 2009. Momentum lows typically occur in wave 3s, and aren't characteristic of a wave 5. The sequence of events suggests wave 4.
    
    
  • The bottom of wave 1 (at 1,322) is nowhere near being violated for the S&P (if it were, this would preclude a wave 4).
    

• As mentioned yesterday, the recent stock rally hasn't been confirmed by volume trends or our leading indicators. All of this has us viewing the equity markets with courteous skepticism.

Weekly Closing Price Chart of S&P 500 Index

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• The weekly chart of the S&P simply confirms that the current level on the S&P should be a good exit point for longs.
  
  
• The 100% Fibonacci price projection line for the abc correction (wave 4) for the S&P is at 1,141.96, which closely corresponds with the 61.8% wave 3 retracement on the monthly chart at 1,146.
  

Daily Chart of the S&P

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• The above daily chart provides a better look at the S&P on a short-term basis. The January to February pullback was the first wave lower of the five-wave sequence that will make up wave 5 of C of ABC (which will conclude wave IV).
  
  
• This wave count will be valid as long as the 1,150.43 high from mid-January is not violated on a closing basis.
  
  
• If this count is correct, then we should see a third wave lower commence shortly; this third wave would take the S&P to just below 1,000 -- at a minimum.
  

Strategy: Watch the daily chart for any S&P close above 1,150.43, as that would invalidate our wave count. Be mindful of the critical monthly closing resistance levels on all three major US indices. Breakout attempts in December and January failed badly -- will this time be different? Above all, be nimble and ready to admit that your wrong if the evidence dictates.