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Equities avoid Treasury yield, US Dollar selloff, for now

August 1, 2016


2151-3, 2139-43, 2119-20, 2096    Support
2175-6, 2183-5                               Resistance


S&P has pushed back to the highs of its consolidation since mid-July and given that other indices like MID have just broken out, this very well could hit new highs early this week before any peak


Key Takeaways

US Equity consolidation looks to give way to one final thrust higher into mid-to-late August before seasonally bearish tendencies take hold.  Last week brought about a few more new highs in US indices, while others still lie near key resistance and have not made this same move.  The S&P 500's advance to new highs last month was just joined by the S&P Mid-cap index last week, while the Bloomberg World index moved to its highest levels of the year, up to previous highs hit last November/December.  Yet the NASDAQ has not yet moved to new highs, and similar to European indices, have just reached prior peaks, which suggests consolidation as opposed to imminent acceleration.  Meanwhile the DJ Transports and Russell remain well below all-time high territory.  Near-term, the SPX cash and Futures have been consolidating for 10-12 days, but have pushed back to the highs of this range yet have not officially broken out like what happened to the Mid-caps last week, which made a more bullish technical move.   Bottom line, given a choice between being bullish or bearish for this coming week, the bullish view seems correct given the breakouts in the World index and Mid-caps while momentum and breadth remain in relatively good shape.

Breadth and momentum remain supportive of stocks, along with the fact that bond yields continue to fall, making equities relatively more attractive.  The Advance/Decline remains at new all-time highs, while McClellan's Summation index has not fallen meaningfully from highs registered at/around 7/22.  Momentum indicators like MACD still reflect positively sloping trends on daily and weekly charts, while there remain nearly 75% of stocks above their 50-day moving average. This 10-day consolidation in SPX prices has seen momentum consolidate a bit, but breadth has not dropped off too sharply.  Seeing the Percentage of stocks trading above their 10-day moving average drop off from the mid-90s to mid-50s while the percentage trading above their 50-day has remained high is seen as a good sign, as near-term overbought conditions have lessened in the past two weeks.

Sector-wise, we've seen a lot more evidence of rotation than the broader indices might suggest.  Semiconductors broke out to the highest levels in over 15 years as Technology enjoyed stellar performance for July.  Additionally, the falling yields helped the Real Estate ETF, VNQ, break out to new all-time highs.  Small caps also have fared relatively well over the past couple months, as relative charts of RTY vs SPX have moved back to new highs for the year.  All three of this year's worst sectors heading into July have improved their standing considerably as Technology, Healthcare and Materials have popped while even groups like Financials and Consumer Discretionary have made some progress.  Meanwhile WTI Crude's decline has had a detrimental effect on Energy, with July proving to be the worst month outside of February for this sector, dragging down performance for the year to the 3rd best, given July's -1.12% return.  Overall, some definite evidence of mean reversion at work, with the largely defensive rally from February into May giving way to some definite stellar performance in some risk-on sectors.

Bonds have begun to trend higher along with stocks over the last few days.  The near-term breakout in 10s, 30s which mirrored some European gains (Bunds) failed to help the Defensive Utilities make a stand, which along with Telecomm and Staples, were some of the worst groups performance wise, outside of Energy.  Treasuries still look to have upside which could bring 10year yields back down to 1.35-6 in the days ahead.  The 1.45% level had been picked out previously as being possible, but given that yields have trended down this sharply in recent days, this target was reached too quickly, while time does not yet seem to have lined up for a low in Yields.  Thus, additional downward pressure should happen this coming week, which should help TLT, to the detriment of TBT, and Financials should be eyed carefully for signs of rolling over.

Seasonally speaking, equities are entering a bearish period which starts with the month of August.  While this month is not as negative as September going back over the last 50-100 years, it HAS been the worst month in the last two decades, averaging -1.3%, far surpassing September's -0.7% drawdown.  Given that S&P finished July on a particularly strong note, higher by 2.8% while sentiment has improved, understandably, this combination of Divergences among the indices at new highs with lofty sentiment heading into a seasonally weak time is worth being a bit more selective and keeping stops tight.  Swinging for the fences is no longer apropos, and hitting singles makes more sense entering August.

Short-term Thoughts (3-5 days) :  Bullish-  Still tough to make that much of a case for outsized gains between now and the end of August, but over the next few days, the action in Mid-caps moving back to new high territory along with Bloomberg World index making a minor breakout to new 2016 highs could help the S&P to extend its gains up to 2183-5 area while NASDAQ tests last July's highs at 5231, just around 1.3% higher before stalling out.  For this week, gains in Gold stocks, Technology, Consumer Discretionary and Healthcare are favored over the Defensive groups.  For S&P, Until 2159 is breached in SPX cash, 2152 for September Futures, it's more likely that this consolidation in SPX leads higher initially.

Intermediate-term Thoughts (2-3 months): Bearish-  The combination of the divergences in indices hitting new highs the uptick in bullish sentiment along with markets entering a notoriously bearish time seasonally makes it likely that any pullback over the final five months of the year likely takes place in August-October.  While momentum and breadth remain quite positive, most of the argument for fading stocks at this time is more of a counter-trend argument, which hasn't yet materialized in the form of index weakness.  However, Most cycles along with Demark indicators highlight the possibility of a stalling out/reversal in August.  Given the fact that indices have moved higher into this period argues that the upcoming turn should be a reversal from market highs, not lows.  Additionally, another intermediate-term concern which should be mentioned is the degree of deterioration in momentum which began last year into August lows.  Even a rally back to new high territory won't allow momentum to get anywhere near where it was back in late 2014/early 2015 and this is a 12-18 month concern.  For now, for this time frame, additional intermediate-term strength still looks possible into mid-August, with key targets at 2180-5 and then 2250.


Absolute and relative charts of SPX, MID, TNX, BWORLD, USDJPY, Gold, DXY, VIX, OIH/SPX, XLY/XLP, MSH/SPX and VNQ.  Some of these when looked at together provide an excellent framework for piecing together some of the recent volatility and what could be in store.


S&P Mid-cap index-  The push back to new all-time highs is a bullish development which should help Mid-caps make some progress that Large-caps achieved back in early July with the move to new all-time highs in SPX.  While the S&P Small-cap index has not yet made a similar move, this move in mid-Caps likely delays any impending market correction as former resistance from last year has now been exceeded in both Large-caps and Mid-caps as of late last week.

Bloomberg World index, (when shown in multi-currency terms, and removing the US Dollar index as the sole currency, ) has moved above longer-term trendline resistance extending back from mid-2015 that looks to be a positive development, given that prices have hit the highest levels since last year.  Last week's move to multi-month highs, along with the Mid-cap index hitting new all-time highs, both seem bullish for the near-term technical picture.



Ten-year Treasury yields made a much more pronounced move last week than anything seen in Equities, with Yields snapping initial support and pulling back to initial support near 1.45%.  The near-term trend is bearish for Yields, (bullish for Treasuries) and any backup attempt into late Monday/Tuesday should be used to buy Treasuries, thinking that yields pullback further, and have the potential to reach 1.35 before things stabilize.


DXY- The US Dollar index also fell hard last week, similar to Treasury yields, as the Fed meeting failed to instill much confidence on the prospects of US growth.  The BOJ, meanwhile, restrained itself from following through on taking rates even more negative, something that many later proclaimed as wise following signs of inaction by both ECB and BOE lately.  This Dollar weakness served to spur on Emerging markets and helped precious metals rally last week.  While the near-term trend has turned down for the US Dollar index after a failed breakout attempt, weakness shouldn't prove too extreme before this turns back higher with maximum support down near 94.



The Japanese Yen spike vs US Dollar, when shown in USDJPY terms above, highlights the failed rally above 107.50 which turned down post BOJ meeting last week, keeping the idea of Yen weakness still very much on the back burner, for now.  This surge in the Yen thus far has failed to take stocks lower, but is something to keep an eye on carefully given that prior spikes in Treasuries, Yen, while WTI Crude is falling have been detrimental to equities pushing higher.  Downside in this case is likely limited to near 100 before this turns back up.  Any move back over 107.50 would be seen as a huge positive for this USDJPY chart. 



Gold looks attractive technically given its failed breakdown attempt from 1375 which got down as low as 1312 near this trend from late May before turning back higher.  For now the bias is for Gold to push up further to test 1375, which if surpassed, would allow for a sharp move back to 1485-1500 into this Fall.  Conversely, any decline back under 1312 would postpone the rally and suggest a far more bearish picture for Gold in the months ahead, which would likely involve the US Dollar embarking on a sharp move higher.  For now, with US Dollar having broken down over the last two weeks, the precious metals have regained some life, and the path of least resistance heading into a strong seasonal time for the Metals, is higher.



The CBOE Volatility Index, or VIX still looks likely to pullback to new low territory for the year given various breakouts happening in indices such as the SPX, MID while others are getting very close to new all-time highs.   For those searching for a move higher in implied volatility, it's tough to break down under mid-July lows without expecting a possible move down to 10, which would be an excellent area to buy Vol for the next few months.  We've begun to see a steepening in VIX futures when going out 3-6 months on the curve, but VIX at just under 12 hasn't signaled enough to think that lows in implied volatility is here.



The REITS, as shown by VNQ, have moved back to new all-time high territory in the last few weeks given Treasury yields pulling back hard to 1.45 (TNX).  While the REIT complex is made up of several very different areas, the VNQ moving back to new highs after having consolidated for over a year is definitely seen as bullish technically.  The move to test 2007 highs failed initially in 2015 before leading to nearly a year of sideways motion until last month's surge back to new highs.  This "Cup and Handle" pattern traditionally can lead to follow-through higher, and looks relatively more attractive to own than the Utilities.



Technology  vs SPX has advanced back to new monthly highs in the month of July, surpassing early June highs and breaking out above a longer-term downtrend in the process.  Semiconductors were a key part of this rally, as the SOX reached the highest levels since 2000 while AAPL made a sharp rally back to near 105 just in the last couple weeks.  This goes a long way towards showing the degree that Technology is starting to outpace the broader market.  Furthermore, when looking in relative terms, the pullback into early July proved to be a key time to buy dips in Tech given relative charts vs SPX getting down to make-or-break levels.



Consumer Discretionary vs Consumer Staples-  Another interesting development in recent weeks concerns the degree to which XLY has moved back up above trendline resistance vs XLP, which had to do with both Retail outperformance in Discretionary, along with Food/Beverage and Tobacco names starting to underperform last week. This ratio just exceeded its important downtrend from last November 2015 highs, which is a key part of the equation to demonstrate how many Defensive sectors are now falling by the wayside as "risk-on" sectors like Technology, Consumer Discretionary and Healthcare start to work.




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