Tuesday, June 28, 2011

Charts Have Looked Ugly Since May – Is a Crash Imminent? Short term direction of S&P is down, down, dow

Before beginning today’s market commentary I want to thank Serge Berger for his insightful analysis and comments on the market during my vacation. Serge was so well received his articles will continue to appear in the Daily Trader’s Alert.

My recent vacation to celebrate my 50th wedding anniversary took my wife and me to several European capitals that have been recently in the news. While there, I took the opportunity to chat with average citizens (cab drivers, hotel employees, etc.) about their general outlook toward the European community’s problems.

In Athens we arrived two days after the police crackdown at Constitution Square and saw the many placards and signs demanding reforms. And like the demonstrations in Rome at Pantheon Square, where we stayed for three days, a trade union supported by the Communist Party did most of the marching, demanding even more liberal reforms.

Much of what we saw and heard confirmed that politicians in all countries find it almost impossible to take back what they have given. Many average folks would rather go back to their old currency. As one cabby put it, “Before the euro a loaf of bread cost half a euro, equivalent in lira, now it costs a full euro.” We concluded that politicians will most likely give in to the demands of the masses despite the need for drastic cutbacks in spending.

In Rome, since Piazza Pantheon is situated very close to many government offices, we were amused to see what appeared to be minor government officials being chauffeured daily in their black Lancias and BMWs. Those with the sticker “Public Service Official” (rough translation) on the windshield received special police escorts and often backed up traffic to allow them to park at favored spots or cut through lines of traffic.

“Some pigs are more equal than others,” to coin a phrase from George Orwell’s Animal Farm.

Conclusion: Despite encouraging words from senior European leaders, the chances are that the established system of giveaways that is part of European political life will continue and so will their debt crisis. Just as we departed Rome the newspapers were carrying the story of Moody’s threat to downgrade 16 Italian banks.

On Friday the S&P 500 closed lower for the seventh time in eight weeks. But despite the selling pressure the important support zone at 1,250 to 1,260 appears to have held again, and on Thursday the 200-day moving average (red line) rebuffed the sellers for the second time in six sessions. But the tone of the market is ominous as money is seeking a safe haven. On Friday the 3-month Treasury Bill Yield fell to .01% for the second time this year.

Major support lines can hold for two times but a third or fourth attack usually results in a breakdown. The moment of truth will likely occur soon since the 20-day moving average (green line), now at 1,290 is falling rapidly and is squeezing prices against the 200-day moving average–a major support line which if broken would most likely plunge the index through the black support zone, as well. Friday’s stochastic indicator flashed a warning signal and will issue a clear sell signal if its “fast line” (red) turns sharply lower with a cross of the blue line through the red. A rally that holds above the 20-day moving average at 1,290 and the recent high close to 1,300 is needed to reverse the current threat of a breakdown.

Perhaps the most influential key sector in the overall market decline has been the Financial Sector, as measured by the Financial Select SPDR ETF (NYSE:XLF). And on Friday that group again led the market lower.

Currently the index is trading within a major support zone at just over 14.50 to just under 15. Looking back the sharp decline in May resulted in a crossing of the 200-day moving average (red line) by the 50-day moving average (blue line). This unfavorable signal bears the ominous title of “Death Cross” since many technicians interpret this as a very bearish sign. There is little evidence to show that the cross has much long-term meaning, but there is much evidence of shorter term significance. I’m inclined to give significance to it only if it is accompanied by other negative signals like the Stochastic Sell signal issued on Friday. The trend for the XLF is down and a break through the major support zone could have major impact on the overall stock market. In order for the XLF to reverse the negative indicators, it would have to close above the recent double top at around 15.20. This index should be closely monitored as an advance indicator of a future overall market direction.

As a result of Europe’s financial problems there has been a mini flight to the dollar. And on Thursday, the PowerShares DB US Dollar Index Bullish ETF (NYSE: UUP) broke through its bearish resistance line on an intraday high and followed it with a closing break through a wedge on Friday. This is a near-term bullish signal for the dollar but a short-term negative for stocks and commodities . In order for UUP to confirm that a long-term trend reversal has occurred, it needs to close above the May high at $21.86.

Conclusion: The shorter-term direction of the market turned bearish when the S&P 500 closed under its intermediate trend line in May. Now the evidence is growing that the long-term trend is under attack. But despite the negative overtones there is not enough evidence to say that we are entering a bear market. We’ll let the market tell us of its future direction and the charts included with today’s market outlook should help to focus us on the prime market movers.

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