A 3-dimensional approach to technical analysis
Cycles - Structure - Price projections
"By the Law of Periodical Repetition, everything which has happened once must happen again, and again, and again -- and not capriciously, but at regular periods, and each thing in its own period, not another's, and each obeying its own law ... The same Nature which delights in periodical repetition in the sky is the Nature which orders the affairs of the earth. Let us not underrate the value of that hint." -- Mark Twain
A Review of the Past Two Weeks
Equity indices reached a temporary peak two weeks ago, hovered for a few days, then had a sharp three-day correction. This past week saw a bounce and a test of their recent lows.
There is little uniformity among the various averages. The Russell 2000 is very near the all-time high which it reached in early January, and the NYSE -- which made a double top with its October 2000 high in March -- is very close behind.
On the other hand, the Dow Jones Industrials is one of the weakest indices along with the OEX and the NASDAQ.
The breadth indicators have held up well, but both the NH/NL index and the McClellan oscillator are showing some negative divergence to the NYSE. Since both sets of data are derived from the NYSE, this is the most valid comparison of breadth to price.
Volume has remained on the low side, but has increased sharply on down days, which is a negative.
Crude oil reached a new high above $60 but sold off sharply immediately after, suggesting that this could be at least an intermediate-term top.
The dollar made a recovery high this week, while gold has begun to sell-off once again.
Current Position of the Market.
SPX: Long-Term Trend - The long-term trend turned up in October 2002 in conjunction with the 12-year cycle. It was reinforced by the 10-year cycle which turned up in the Fall of 2004. The markets are approaching a decisive time period and it is unclear if we are nearing the end of the bull market or if another thrust to new highs will take place in the next few weeks. The Russell 2000 will find this easier to do than the Dow Industrials.
SPX: Intermediate Trend - The 10-week rally which began in April came to an end two weeks ago. The intermediate time frame also exhibits a lack of clarity. More time will be required before an accurate forecast can be made.
SPX: Short-Term Trend - The past two weeks saw a sharp correction, but prices are currently trying to stabilize.
Because of market volatility, the short-term trend is better analyzed on a daily basis with the help of hourly charts. This is done in our daily market updates and Closing Comments.
Daily Market Analysis: If you would like to receive an explanation of how I arrive at buy and sell signals and sign up for a free 6-week trial period of daily comments, please let me know at ajg@cybertrails.com.
What's Next?
As mentioned above, various components of the stock market are giving mixed signals and the direction in which we go from here is unclear. We are in a period during which a number of conventional and CIT cycles are coming together. It will take at least another two to three weeks to see how they affect prices in the future.
The 120-week cycle was due (ideally) to make its low this past week. Even if the weakness of the past two weeks was the result of its bottoming action, it was a far cry from what it was in March 2003. But tracking that cycle over the past 10 years has taught me that it does not have a consistent effect on prices. It is also possible that it bottomed early and caused the market decline into May. Its past record also shows that it does not always make its low exactly every 120 weeks, but to do so 10 weeks early seems to be a bit of a stretch.
CIT stands for "change in trend" and refers to those cycles which Gann called "degrees". The 72-week cycle is a CIT cycle. I mentioned in the last newsletter that it was due in the first week in July. This is a much more regular cycle than the 120-week cycle, only deviating from its normal period by one or two weeks. The Dow Industrials tend to adhere to this pattern more faithfully than the SPX and starting next week, one can count nearly perfect time spans to the 2000 top -- including the October 2002 low and the February 2004 high -- and even going back farther to 1995. I have not checked beyond that.
This is not a cycle to be taken lightly! Since a market top of some sort was made two weeks ago (and since all past turning points for this cycle have led to sustained rallies or declines), if this represents the top of the 72-week cycle, it has negative implications for the stock market.
The A/D is not giving many clues as to the future direction of the market. After showing a good deal of strength for 7 weeks, the McClellan oscillator finally dipped slightly under its zero line and has been trading in a neutral zone for the past few days. The hourly A/D is showing a much more bullish pattern and has refused to confirm the last two days of weakness. A very short-term cycle is scheduled to make its low as late as Wednesday, If this underlying strength in the hourly figures continues, it could be forecasting that a good bounce will begin by the middle of the week. But the question is: will it be the beginning of something important?
No matter which analytical tool one uses, there is ambiguity. At times like these one has to wait for clarification, and this extends to the leading indicators as well. I mentioned in the last letter that GE was in a precarious technical position. In the recent decline, it broke below a support level that had been effective for the past six months, and now all that support has turned to overhead resistance. On the other hand, the XBD is now trading at an all-time high. The Banking Index made an all-time high last December. Its pattern since then may be turning bearish. I also mentioned last time that the Semi-conductor Index (SOX) was bearish on balance. It still is!
There is nothing unclear about the directional trend of gold in the near term! That is, if the forecasting prowess of the commercial traders continues to be as accurate as it has been. In the past two weeks they have increased their short position to a level associated with an intermediate top in bullion. It is no wonder that the US dollar just rallied to new highs this past week.
The gyrations of crude oil do not always have a corresponding impact on stock prices. However, it looks as if oil has just made an important top at $60 and could begin an intermediate decline. There are good technical reasons why this may be the case, and it could be bullish for stocks. Furthermore, I believe that I recently read that the US will stop adding to its strategic oil reserve in July. Also, China has decided to put off creating its strategic reserve and to wait until prices come down. Do they know something that oil bulls who expect the price to go to $100 don't? Here again we'll have to wait a bit longer to find out.
Charts
This week, I chose charts that represent the dichotomy of signals given by various indices. The first two charts are the weekly charts of the Dow Industrials and of the Russel 2000. The next two are those of GE and of the XBD.
The chart of the DJIA illustrates several important features: The 72-week cycle, the heavy overhead resistance that the DJIA has tried unsuccessfully to penetrate for the past 18 months, and the negative divergence and loss of momentum depicted by the RSI.
The chart of the Russell 2000 shows a stronger technical pattern than that of the DJIA, but note that the stochastic is overbought while the RSI shows a clear loss of momentum, as well as negative divergence. These are not bullish signs. Is the Russell currently testing its recent high before turning down again and accelerating to the downside?
The next chart is that of GE. Breaking the $35 support level is bearish, the RSI is bearish, and the price is now moving toward the lower channel line. Note, also, how the stock was barely able to penetrate the overhead resistance that was formed in 2001-2002, and how the lower level of that resistance area corresponds to the more recent $35 support level. There is not much that can be said about this chart that is positive.
The last chart is that of the Securities Broker/Dealer Index (XBD). This is also regarded by some as a leading indicator, but if this turns out to be an important top, it will be lagging! There are negatives on this chart also. Both the RSI and the stochastic are overbought and this means that the index is likely to be at a top. There is also some divergence showing on the RSI, but it is not as pronounced as on the other charts shown above.
SUMMARY:
The last news latter stated: The stock market is entering a critical period from a short as well as long-term perspective. Longer term, important negatives are beginning to surface which, if they continue, will result in the top of the bull market. Although there are many discrepancies in the technical position of the various indices, it can be said that the negatives have increased since the above was written.
If further technical damage is done to charts, it could mean that the top of the bull market took place in March, and the recent rally was a failed attempt at making new highs. However, it is too soon to make this a definite statement.
