Find out how Dow Theory applies to the current market

On Friday, high net borrowings by Spanish banks from the European Central Bank, disappointing economic data from China, and a shortfall in the Michigan Consumer Sentiment sent stocks lower. It was the sixth decline in eight days and the biggest weekly decline of the year. Losses occurred last week despite excellent earnings from Alcoa (NYSE:AA), Google (NASDAQ:GOOG), JPMorgan Chase (NYSE:JPM) and Wells Fargo (NYSE:WFC).

Friday’s decline was led by the financial sector with Dow member Bank of America (NYSE:BAC) off 49 cents (5.3%). On Friday, the Dow Jones Industrial Average was off 137 points, closing at 12,850, the S&P 500 lost 17 points at 1,370, and the Nasdaq fell 44 to 3,011. The NYSE traded 770 million shares and the Nasdaq crossed 406 million. And decliners outnumbered advancers by about 4-to-1 on both exchanges.

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The market is becoming more volatile (as evidenced by the VIX chart) despite the current low volume, and so if sellers decide that “enough is enough” they could flood the markets with liquidations. Pullbacks should first run into support at Tuesday’s and Wednesday’s lows at S&P 1,357 (green dotted line), Dow 12,754, and Nasdaq 3,000. And since those support areas are so close at hand and established with low volume, it wouldn’t take a lot of selling to penetrate them and flip the power back to the bears for the near and possibly intermediate (secondary) term.

With volume now at the lowest of the year and the markets in an odd state of bullish vulnerability, many are resorting to withdrawing from trading until either a new trend develops or the uptrend reasserts itself, and I think that’s a sound approach.

While we play the waiting game, let’s review a summary of several of my reports of the most widely followed technical analysis study ever devised: The Dow Theory.

Over the years, I’ve had clients question the use of a 125-year-old theory on current markets. Despite the fact that there is no single technique that investors should rely on at the exclusion of all others, this theory has stood the test of time. All modern technical analysis had its beginnings with Charles Dow’s theory, and understanding it will also help you decide whether you are a long-term investor, and intermediate-term trader, or a short-term, perhaps even day trader.

The Daily Market Outlook attempts to clarify the technical trends of the market for investors and traders alike — not always an easy task for both writer and reader. Thus, it may be helpful to consider Dow’s concept of three trends (primary, secondary and minor) in order for you to decide what type of investor you are.

The major (primary) trends are like the ocean’s tides — a primary bull market is like an incoming or flood tide, which runs farther and farther up the beach until it finally reaches a high-water mark before it begins to recede.

While the tide is coming in there are waves breaking on the beach — some incoming and some outgoing. While the tide is rising, each succeeding wave pushes a little farther up onto the shore and when the tide has reached its maximum height the waves recede, never quite reaching as far as their predecessors. The waves are the intermediate trends.

Meanwhile, the surface of the water is in constant agitation as wavelets and ripples move along with and against the major trend. The wavelets and ripples are analogous to the market’s minor trends and are unimportant day-to-day fluctuations to long-term investors but followed closely by traders.

The tide, waves, and ripples represent the primary (major), secondary (intermediate), and the minor (short-term) trends of the market.

Currently the tide is rising — we are in a bull market. And the waves (intermediate trend) are still incoming but becoming less aggressive. The wavelets are mostly going out, and so the near-term trend is sideways to down.

What is your investment goal or style? If you are a long-term investor you would welcome a pullback as long as the bull market continues. You should have a list of investment-grade stocks and the prices at which you would like to buy them.

As an intermediate trader you should be doing the same except that you will be more interested in fast-moving stocks and more geared to chart analysis of trendlines and support zones.

But as a short-term trader you should follow options premiums and other leveraged situations that will take advantage of the near-term ripples of the market, and be very sensitive to near-term support and resistance areas and volume. Currently, as a short-termer you should be concerned if you are long and should be on the sidelines or shorting into rallies.

Why Gold Could Have Its First Down Year In Over a Decade

Gold is about to have its first down year in over a decade.

At least that's what legendary investor and billionaire Jim Rogers suggests. Rogers is considered one of the best commodity investors in the world. He was buying gold before 1999 – when prices were below $300 an ounce. Today, gold prices are over $1,600 an ounce.

As he told me this week, he thinks it's due for a break. So is he selling here?

Before I get to his answer, let's take the "long view" on gold. As you can see from the chart below, gold prices have surged since 2002. In fact, gold prices are up for 11 straight years, outperforming the S&P 500 by nearly 500%.

To Rogers' credit, he has suggested buying gold almost every year since 2002.

He was super-bullish on the yellow metal following the 2008-2009 credit crisis. That's when the Federal Reserve pushed short-term interest rates to zero – printing trillions of dollars to support the U.S. economy. And it was a fantastic entry point for new investors. (more)

Algorithms Gone Wild - AGAIN, and AGAIN, and AGAIN

What more is left to say at this point other than the fact that the hedge fund computers and their damnable algorithms have destroyed the integrity of the US futures markets. The sheer size, extent, ferocity and volatility of the moves that these pestilential computers are creating have rendered these markets basically useless for what they originally came into being for, namely, risk management for commercial entities.

Price swings of this magnitude are blowing up hedged positions put on by commercials and other end users/merchants/processors, etc. While margins are reduced for legitimate hedgers, they still must meet any and all margin calls on any hedged position, whether that is a long position or a short position. Some will say that all they need to do is to buy or sell the corresponding physical commodity and while simultaneously lifting the hedge. That might work fine on paper but in the real world it is a fabrication.

A cattle feedlot, a grain elevator owner/operator, a cocoa processor, a cotton mill, etc, may or may not have the actual product ready to sell as it is still maturing or growing in the field or may not be ready yet to actually buy the product but they might have hedges in place while they are waiting. So much for their hedges in this sort of idiotically insane trading environment. Their hedges are getting blasted to kingdom come but they must maintain the thing if it moves against them meaning that they need cash to meet any and all margin calls. (more)

Gold Miners A Screaming Buy

At the end of March, the spread between the NYSE Arca Gold Miners Index and gold bullion was at the same extreme level it was during the 2008 credit crisis despite a much rosier global economic outlook.

Going back the full decade of gold’s bull run, this is quite a rare event.

The Skyscraper Index

A skyscraper is a thing made from a sunny outlook. A skyscraper of record-breaking height is a thing made often from a mix of cheap money, debt and a fat scoop of hubris on top.

Somewhere a real estate man with dirt under his shoes and drywall dust on his shoulder must’ve had a hunch that skyscraper booms happen just as things go bust. But it took an economist to put it down on paper and create an index.

In 1999, economist Andrew Lawrence did just that. He created the Skyscraper Index. It showed that the tallest skyscrapers sprouted just as business withered.

Its ability to predict collapse is surprisingly accurate…

In a 2005 paper, economist Mark Thornton took a stab at vetting the index. He wrote that “the Skyscraper Index… does have a good record in predicting important downturns in the economy.” And most recently, Erste Group Research released a report in March that calls the track record of the Skyscraper Index “impressive.”

Here’s how it worked in Dubai. The Burj Khalifa took the crown of world’s tallest building from Taiwan’s Taipei 101 in 2007 — just before the onset of the global financial crisis. Here the Skyscraper Index worked perfectly. (And Taipei 101 itself fits the theory of the index too. Construction began in 1999, just before the tech bubble reached its peak.) (more)

Homebuilder Outlook Plunges, Reversing Spring Rebound

In a stark reversal during the heart of the spring housing market, confidence among the nation’s homebuilders dropped in April to levels not seen since January.

pnwra Home Construction

An association index measuring sentiment fell three points, changing course after seven straight months of gains.

It now stands at twenty-five; fifty is the line between positive and negative sentiment.

“What we’re seeing is essentially a pause in what had been a fairly rapid build-up in builder confidence that started last September,” said National Association of Home Builders Chief Economist David Crowe in a release.

“This is partly because interest expressed by buyers in the past few months has yet to translate into expected sales activity, but is also reflective of the ongoing challenges that are slowing the housing recovery—particularly tight credit conditions for builders and buyers, competition from foreclosures and problems with obtaining accurate appraisals,” the release goes on to say.

The three components of the index each posted a decline, both current sales and sales expectations down three points and buyer traffic down four points from March.

Sentiment had been running high, as warm weather and an improving economy brought more buyers out to look at new construction. Stocks of the nation’s big public home builders have also been on a tear, some values up over 50 percent since last summer in anticipation of a big Spring.

“While builder and investor enthusiasm continue to surge, U.S. housing metrics are failing to keep pace,” according to a report from Fitch Ratings last week, in a prescient reading of the market. “Home prices are likely to remain soft if employment growth trends continue to be volatile,” adds Fitch’s Robert Curran.

Single-family housing starts and home sales fell below expectations in February, and home prices, while easing in their declines, are still falling according to several industry indices.

Expectations are for gains in March housing starts and a slight drop in building permits driven largely by multifamily. Those numbers are released from the U.S. Commerce Department at 8:30am ET Tuesday.

Consider This Before You "Sell in May and Go Away"

How would you like to take a six-month vacation?

It seems everybody is all geared up for spring break this month. But if you're a buy-and-hold [2] investor, get ready to take the next six months off.

You may have heard the Wall Street [3] cliché to "sell in May and go away." It may be a cliché, but it works...

The six-month period between May and November is historically the worst-performing period for the stock market [4]. According to the Stock Trader's Almanac, buying the S&P 500 on May 1 each year and selling on November 30 would have generated a negative return [5] over the past 60 years.

Not every year was bad, of course. Since 1950, the period between May 1 and November 30 has been positive 60% of the time. But the losses during the down years eclipsed the meager gains of the up years.

There's a lot of potential risk for holding stocks through this period, and not much potential reward. This is why it makes sense for longer-term investors to "sell in May and go away."

But shorter-term traders should stick around.

Volatility often picks up between May and November. So short-term traders have plenty of opportunities to profit [6] from both the long and short sides of the market.

Think about what we've seen over just the past two years. The S&P 500 hit its 2011 high last May, and it formed an intermediate-term top in May 2010. Traders could have made 20% or more by shorting the S&P 500 each year. Readers of Growth Stock Wire were forewarned here and here.

The S&P 500 also made important intermediate-term bottoms both years between May and November. Anyone who took our advice last October saw huge gains within just a few weeks. We saw equally impressive gains following a buy signal in June 2010.

My point is that long-term investors should heed Wall Street's warning to "sell in May and go away." Enjoy your profits so far this year. Take a few months off. Come back in November ready to buy.

Traders, on the other hand, are heading into a volatile environment filled with opportunities to profit from both the long and short side.

A six-month vacation sure sounds relaxing. But as a trader, I'd rather stick around and make lots of money.

This Speculative Sector Is Still Booming

One by one, the "speculative" uptrends are falling over like dominoes.

For some investors, the stock market is doing great. Early last week, the S&P 500 closed at its highest level since May 2008. Dividend-paying stocks and Apple (which is basically its own asset class now) have led the way.

But many of the speculative "boom and bust" sectors we write about so much in Growth Stock Wire are struggling.

Over the past three weeks, a number of "boom and bust" areas took a dive. Oil services stocks (OIH) plunged 9%. Gold stocks have plummeted to new 52-week lows. Emerging markets like Brazil (EWZ) and China (FXI) are down 6% and 5%, respectively. The big homebuilder uptrend has stalled. After rocketing 60% since October, the homebuilder fund (ITB) is unchanged over the past two months.

Amid all this "shaky" action, one of my favorite speculative sectors is doing fine – biotech stocks. While most risky sectors sold off the past few weeks, the Nasdaq Biotech Index gained more than 2%... and reached a new 52-week high.

You might be thinking, "2% doesn't sound like much... so what?"

Well, when a group of stocks moves higher (or even moves sideways) in a weak market, that's called "relative strength." It's a signal that there are "big money" investors behind certain stocks.
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Chart of the Day - Liquidity Services (LQDT)

The "Chart of the Day" is Liquidity Services (LQDT), which showed up on Friday's Barchart "All-Time High" list. Liquidity Services on Friday posted a new all-time high of $51.91 and closed up 1.52%. TrendSpotter just turned long again on April 5 at $49.36 after taking a profit on a 2-month trade during February and March. Liquidity Services was last featured by "Chart of the Day" on the close of Sep 28, 2011 when the stock was at $34.85. In recent news on the stock, Stifel Nicolaus on April 10 reiterated its Buy rating and raised its target to $59 from $47. Oppenheimber on April 9 reiterated its Outperform rating and raised its target to $57 from $43. Liquidity Services, with a market cap of $1.5 billion, is a leading online auction marketplace for wholesale, surplus and salvage assets.