Happy New Year

Goodbye 2011 and Hello 2012

I’m expecting some big things this year. Good luck to everyone.

2011: The Best That Never Was

Wow all that and stocks are right back where they started a year ago. The S&P500 closed at 1257 today – same level it closed on the last trading day of 2010.

Stocks aren’t the only game in town though. The US Treasury Bond market led the way higher and Gold saw its 11th straight year of gains. Dr. Copper and Emerging markets struggled throughout the year, making risk-on trade a difficult one. Here are the rest of the stats through Wednesday’s close:

(I’ll post the year-end numbers this week)

 

Source:

Asset Class Returns 2011 (Business Insider Money Game via Reuters)

Last Call!!

Season finale for the Stock Market and what a year it’s been. Choppy I think is the word that best describes it.

chop·py

[chop-ee] adjective, -pi·er, -pi·est.

1. forming short, irregular, broken waves.
2. shifting or changing suddenly or irregularly; variable.

3. uneven in style or quality or characterized by poorly related parts

Yup that sounds about right. The stock market was certainly all of those things. But there were trends in place that worked all year long. The chart below shows the performance of each of the S&P Sector SPDRs relative to the S&P500. Notice the out-performance of the defensive sectors led by Utilities, followed by Consumer Staples and Healthcare.

On the flip side, you could have been short financials or Materials relative to the S&P500 and done very well. There is always a trend somewhere and in choppy environments like this, there were plenty of relative trends to be found.

Strength in defensive names isn’t what you want to see if you think the US equities market is going much higher. I would be looking for a shift in leadership for a sign that things actually have changed for the better. Sector rotation in important in a bull market. We’ve been waiting all year for new leaders and they have yet to arrive. Watch the Consumer Discretionary names going into the new year as the Retail sector makes new highs.

Tags: $XLU $XLV $XLP $XLF $XLB $XLY

About that Inverse Head & Shoulders Pattern

That phrase is being thrown around again: “Inverse Head and Shoulders”. It appears as though one has been forming in a few of the major averages. This is typically a continuation pattern so let’s take a quick look at the S&P500:

I think it’s pretty clear – we have an important low put in just before Halloween (left shoulder), an even lower low made right after Thanksgiving (head), and finally a higher low put in before the rally that took us into Christmas (right shoulder):

The neckline is not very clear. It’s more of a range really. A pretty wide one. This makes it more difficult to confirm a breakout. The downtrend line that goes back to early July was broken last week, so that is probably the level that we want to watch here.

Another problem is the lack of volume. It is so hard to have conviction in such an important event like this if it occurs during a week where the market just drifts higher on next to no volume. In a situation like this I would almost expect whipsaws. I wouldn’t be shocked to see some more consolidation over the next few weeks before a clear breakout to the upside.

One positive that I’d like to note is the amount of tests of this downtrend line that we’ve seen since July. We are going on 5-6 tests of resistance now, with the most recent tests coming a) more frequently and b) off more shallow sell-offs. We say it all the time, the more times that a level is tested, the higher the likelihood that it breaks.

This is a really important level and the action that we’re seeing should not be taken lightly. We’ve been watching this area for a long time. Remember this? From Edwards & Magee: “here is the interesting and the important fact which, curiously enough, many casual chart observers appear never to grasp: these critical price levels constantly switch their roles from Support to Resistance and from Resistance to Support. A former Top, once it has been surpassed, becomes a bottom zone in a subsequent downtrend; and an old Bottom, once it has been penetrated, becomes a Top zone in a later advancing phase.

That former support in the S&P500 is still giving us trouble. The breakdown that occurred in August was devastating. We’re now going on 2 months of battle with that former support (now resistance) and still no penetration.

I don’t think that this inverse head & shoulders pattern is cut and dry. The timing of a potential breakout here makes it more difficult to navigate. I would expect some more consolidation before a big move higher can evolve. We live in a market environment where false moves and whipsaws are the norm. I don’t think that’s changed. And it’s a good thing – this shouldn’t be easy. But with this sort of price action, tremendous risk/reward opportunities develop and with good risk management there are nice profits to be made.

Tags: $SPX $SPY $ES_F

Technician Mary Ann Bartels 2012 Outlook

The Head of Technical and Market Analysis at Bank of America Merrill Lynch was at Bloomberg this morning discussing her 2012 outlook for Stocks, Currencies and Gold. Mary Ann Bartels has been bearish on this market recently saying Santa wasn’t coming and a retest of the October lows was inevitable. She is sticking with her guns here still bearish on the first half of 2012:

 

Source:

Stocks May See ‘Rough Go’ in 1st Half, Bartels Says (Bloomberg)

Tags: $GLD $GC_F $SPX $SPY $UUP $DX_F $FXE $EURUSD $CRB

Santa Claus Rally Just Getting Started

Merry Christmas and Happy Holidays everybody. Now time to get back to work. Right off the bat I woke up this morning to an email from Investopedia.com with their TERM OF THE DAY. Fittingly, the term is “Santa Claus Rally”:


Last Monday we noted
that the week going into Christmas tends to be at least twice as good as the average week throughout the year. The market certainly did not disappoint locking in a 3.7% rally in the S&P500. The Dow Jones Industrial Average climbed over 400 points to close at the highest levels since July. But the Santa Claus rally is just getting started.

According to Bespoke Investment Group,

“The S&P 500 has averaged a significant gain of 0.93% in the last week of the year with positive returns 77% of the time (64 out of 83).  This compares to an average of +0.15% for all weeks since 1928. Over the last 20 years, the average gain during the last week of the year has been smaller at +0.47%, but this is still three times as strong as the average for all weeks throughout the year.”

The major averages are setting up to continue their rallies off the October lows. We are expecting a low volume week that historically elevates prices higher. We have discussed the consequences of Santa not showing up this time of the year, so this week will be a very important one for the market. Stay tuned….

 

Sources:

Santa Claus Rally (Investopedia)

Market Performance During the Last Week of the Year (Bespoke)

Tags: $DJIA $DIA $SPX $SPY

SFO Magazine: Beware of False Moves

Here is my story for SFO Magazine this Friday:

SFO Daily: Beware of False Moves

Friday, December 23, 2011
By J.C. Parets

Volume is light and volatility is down on the last trading day before the holiday weekend, but stocks are now up for the fourth day in a row. While some traders I know packed it in for the year, there are still plenty of market participants taking advantage of this year-end rally.

The Dow Jones Transportation Average closed yesterday at the highest levels since August 1. Its fellow Dow Theory component—the Industrial Average, is trading slightly below those August levels. Both of these averages are putting in what appears to be an inverse “head and shoulders” pattern.

The Pattern

Although this is typically seen as a positive omen, false moves are a way of life in this market environment. This particular formation made its left shoulder around Halloween, the head around Thanksgiving, and its right shoulder last week.

Key Levels

The “neckline,” as this overhead resistance is commonly referred to, is sitting right around 12250 for the Industrials and 5030 for the Transports. A breakout above this level for more than a day or two should bode well for the market as a whole.

Beware of false moves. A convincing breakout next week going into the New Year can potentially catch the bulls off guard. With volume this low, we want to view a breakout of this significance with some suspicion. Remember the extremely low volume sell-off that took place in the days surrounding Thanksgiving? The following week we came back to a rip-your-face-off rally and never looked back. I’m not saying that a fake-out like that will happen come January 3, but we should be prepared for it.

Negative Correlations

It’s important to cheat a little bit by watching what other asset classes and indexes are doing that are negatively correlated with U.S. Stocks. The U.S. Treasury bond market   is the best example of that.

Speaking of false moves, iShares Barclay 20+Year Treasury Bond ETF (TLT) broke out of its range this Monday only to reverse course and sell-off every day since. It is not a coincidence that the TLT sold off the last four days as stocks rallied. With the fund currently trading just above 118, a break below 116 could accelerate the selloff in bonds and help U.S. stocks breakout to new highs.

The Volatility Index is another one to keep an eye on. Also negatively correlated with stocks, the VIX, or “fear index” as it is commonly referred to, has been decimated going into the end of 2011. A decline in volatility is typical for this time of year and normally helps stocks rally in December. That is precisely what we’ve seen. Unfortunately, the selloff in the VIX has taken it down to where it originally broke out from in late July and early August. This former resistance could turn into support here in the low $20s.

BOTTOM LINE

If the Dow Jones Industrials and Transports are going to break out above this inverse head and shoulders pattern, then Treasuries (TLT) and Volatility (VIX) should continue lower. Even with the constructive action in the stock market, false moves are to be expected. There is still plenty of indecision out there so whenever in doubt, trade smaller.

 

Source:

SFO daily: Beware of False Moves (SFO Mag)

Tags: $VIX $TLT $DJIA $TRAN $IYT $DIA

Broad Markets Could Use Help from the January Effect

The Small-Cap Russell2000 is at a pretty critical juncture relative to the Larger-Cap S&P500. These small capitalization names tend to lead the market both to the upside and the downside. A breakout above of this downtrend line in the relative chart of $IWM vs $SPY should bode well for the broad market:


This blue downtrend line represents the potential neckline of an ‘inverse head-and-shoulders’ reversal pattern. A break above this level is very important for the longer term outlook in stocks.

From WSJ:

Tom McClellan, publisher of the McClellan Market Report, said in a recent research note to clients that when small-cap stocks lead big-cap stocks, it’s “usually a good sign for the overall market.”

The two “shoulders” are the relative lows hit in mid August and mid November, while the Oct. 3 relative low, the lowest in 11 months, is the bottom of the upside-down “head.”

The downtrend line connecting the highs between the two shoulders is the “neckline,” the break of which would confirm the bullish reversal, and indicate the bottom of the head was the starting point of a longer-term uptrend. And the Russell 2000′s recent bullish nominal performance indicates an upside relative breakout is more likely.

On the flip side, the uptrend line from the October lows up through the November lows needs to hold for anything bullish to be able to develop. There is a similar structure here to what we see in the absolute performance of the S&P500. This series of higher lows along with the lower highs of the potential neckline cannot last forever.

On a relative strength chart plotting the Russell 2000 against the S&P 500 Index, the small-cap tracker is sitting just above an uptrend line starting at the Oct. 3 relative low, and is now testing a downtrend line starting at the Aug. 30 high. A break of the uptrend line would not only point to a bout of small cap underperformance, RBC Capital Markets technical analyst Robert Sluymer said it would be “net negative” for the broader market.

When this Small-Cap vs Large Cap ratio broke support in early August, it dragged the broader markets down with it. The same leadership qualities were seen at the early October lows in this ratio as the S&P500 has been rallying ever since.

Historically speaking, small caps tend to outperform large caps going into the beginning of the year. This is what is called the January Effect. This phenomenon is not a secret, so the effect usually starts in December. So far we’ve seen a little bit of out-performance, but not enough for a breakout. Merrill’s small-cap strategist Steven DeSanctis was out with a note this week saying that, “when small-caps beat large-caps in January, the little guys average a 19% gain for the entire year and top the big guys two-thirds of the time. But when there’s been no January Effect, small-caps gain just 4% on average for the subsequent year and best large-caps only 40% of the time.

Don’t forget about this one…

 

Sources:

Small-Cap Stocks at a Crossroads (WSJ)

Neglect, Not January Effect for Small-Caps (MarketWatch)

False Move of the Day – US Treasuries?

Keep an eye on this one…..

From False Moves come Fast Moves (in the opposite direction). We know this. We love it. We embrace it.

The triangle looking formation developing over the last 3 months is well defined. Yesterday’s US Treasury ‘breakout’ was short lived. I added some secondary trendlines at the upper and lower boundaries to show the added importance of these levels. Whether you use the extreme highs/lows or you take out the whipsaws and use closing levels, the upper and lower limits are still clear.

Yesterday’s close and October 3rd’s close (52-week highs) were within 6 cents of each other. Last time we were up here $TLT lost 12% over the next 3 weeks.

If it can gain some momentum through the holidays, look for a break below 116 to really get it going to the downside.

I don’t want anything to do with this one as long as it’s trading above 124. Love it lower below that.

S&P500: Lower Highs and Higher Lows Can’t Last Forever

Just some quick thoughts on the S&P500…

I think there are two important developments to watch carefully right here. The first is the series of lower highs that we’ve seen since the peak in May. The downtrend line has been intact since the summer and has now been tested 5 times. The S&P500 has failed to breakout at each of those attempts. The most recent tests of resistance came with the added supply of the 200-day moving average.

The second development is on the opposite end of spectrum. We’ve seen three consecutive higher lows since the October 4th bottom was put in. Each of these higher lows were made on days that kick-started monster rallies. Both of the previous major lows were put in on a Monday or Tuesday and then rallied for the rest of the week. Today’s face-ripping rally comes early in the week, this time a Tuesday again. Will history repeat itself?

This combination of lower highs and higher lows cannot last forever. Eventually something’s gotta give. We’re looking for the next higher high after breaking the downtrend or next lower low after breaking the downtrend to signal the direction of the next leg for the market.

Realistically, I think it is probably best to expect more whipsaws in both directions. When in doubt trade smaller right? There’s nothing wrong with that. Stop Losses are fine. Heck, I got stopped out of some new positions yesterday that are flying today. It happens. And it’s OK because we are still here to fight trade another day.

 

$SPX $SPY