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When markets begin to make large moves on a daily basis, it usually precedes a change in the prevailing trend. And that means that the rally in the stock market that began in March is now in danger of reversing or entering what could be a long consolidation phase.
The S & P 500 (SPX) clawed its way back to 850 on 4-21, but the very early futures were predicting a lower opening on Wall Street. Asian markets were mostly lower overnight as well, with China, a recent leader on the up side logging in a fairly good loss.
Chart Courtesy of StockCharts.com
The S & P 500 has bounced nicely since bottoming out in March, and has actually acted in a very favorable technical pattern, making higher highs and higher lows, pausing above and below easily discernable support and resistance levels, and all the while moving steadily higher. This is the kind of action you like to see in an up trend.
But volatility has returned. On 4-20, it took a big hit. And the index gained back less than 50% of it on 4-21. We’ll count that as a minor negative. Another way to look at it is that the index closed at 850, the top of a recent trading band. We’ll call that a neutral. What’s most important, though, is what happens if the index gets back to 875, the most recent resistance level that preceded Monday’s selling. If it can blast above that area, the up trend would remain intact, and the market is indeed climbing the proverbial wall of worry.
Chart Courtesy of StockCharts.com
What's most interesting, though, is that some groups are not and have not acted well at all during the rally, something that suggests that while the apple may look good on the outside, it has pockets of rust on the inside, and that if you eat the wrong part you may get sick.
A perfect example is the drug sector, as in the Amex Pharmaceuticals Index (DRG, above). This index has been falling of late, after a token bounce that began in March seems to have run its course.
On the flip side, the housing sector (HGX, below) has managed to hold onto its gains off the bottom. Its decent performance of late suggests that value investors may have found a home for a while.
Chart Courtesy of StockCharts.com
And commodity markets have also taken a tumble. The Deustchebank Commodity ETF (NYSE: DBC, below), which is geared toward energy took a nose dive on Monday as crude oil fell over 7%.
This is no surprise, given the fact that multiple high profile agencies, such as the International Energy Agency (IEA) as well as OPEC have been predicting a steady downfall in demand for oil.
This is backed by recent economic data, such as the U.S. Index of Leading Economic Indicators, which fell again in its most recent reading. Global economic data has also been dismal, especially data coming out of Asia and Europe.
So, if the global economy is in tatters, then why are the stocks of industrial conglomerates such as General Electric (NYSE: GE, below) off of their bottoms and starting to build constructive chart patterns?
Chart Courtesy of StockCharts.com
Conclusion
The markets are clearly sending mixed signals. On the one hand, commodity prices are predicting the potential for a deflationary environment, and thus continued weakness in the economy.
The stock market is clearly a grab bag. If you bought drug stocks recently, you're not doing too well. But if you bought an industrial stock, such as General Electric, you're still doing fairly well.
Yet, the S & P 500 is starting to become more volatile, a signal that the prevailing trend may change in the next few days to weeks.
As investors, it's our job to make the best decisions possible based on the best information available. And it's clear that the current outlook for the markets is confusing to say the least.
What it means is that caution is the best policy. More specifically, this is a time to keep positions small, to keep a good amount of trading capital in cash, to take profits where you've got sizeable gains, and to consider some short positions in areas of the market where weakness is evident.
That's where our individual sections come in handy, as we look at the markets sector by sector.
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