Written by Jim Welsh
Macro Tides Weekly Tchnical Report 30 July 2018
Soybean Exports Added 0.6% to GDP 4.1% Growth in Q2
In its first estimate the Commerce Department reported that GDP grew 4.1% in the second quarter. As discussed last week, soybeans played a role as net exports contributed 1.06% to the pace of growth, the most since 2013. Of that total soybean exports contributed about 0.6% which lifted GDP above 4.0%.
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In addition to soybeans, exports were boosted by petroleum and related products and drugs. The increase in the exports of these items contributed to a decline in inventories which lowered GDP growth by 1.0%. The main driver of growth was a significant increase in consumer spending that added 2.7%. Although business investment slowed (7.5% vs. 11.5% in Q1), federal government spending rose at the second highest rate since 2014 and contributed 0.37%. According to the Committee for a Responsible Federal Budget, the legislative impact of tax cuts, which helped consumers spend more and the 2018 spending deal which boosted government spending, added 0.8% to Q2 GDP.
The increase in soybean exports is a one-time event and the increase in government spending from the 2018 budget deal will be less in 2019. This suggests that GDP growth will gradually retreat toward 3.0% in the second half of 2018. If the economy slows more aggressively, it could affect the stock market if it leads to a reduction in earnings estimates for late 2018 and early 2019, and may keep Treasury yields below their May peak.
Stocks
On July 26 I published a Weekly Technical Review Special Update (Beware: Market Weakness Lurks!) which concluded with the following paragraph:
“The first estimate of second quarter GDP will be reported tomorrow and is likely to be above 4.0%. It would be classic for the stock market to post a high against the back drop of the best economic news since 2014. In coming weeks there may not be enough good news to keep the market moving higher, so a normal phase of profit taking could bring the S&P down to near 2700. The key as to whether it subsequently corrects below 2700 will be dependent on whether a dose of negative news appears.”
As noted GDP was estimated to have grown 4.1% in the second quarter, which was the best since 2014. Despite the strong economic report, the stock market declined, which suggests that buyers have become exhausted. Often it isn’t the news that is most important but rather how a market responds. The stock market was unable to rally on the back of undeniably good news.
The market spiked higher on July 25 after it was announced that progress had been made in trade negotiations. In a press briefing President Trump said a ‘breakthrough agreement’ with the European Union had been achieved and went on to say “We just opened up Europe for you farmers.” President Trump went on to proclaim that the EU would be buying more soybeans and LNG natural gas. From the news inspired high at 2848, the S&P 500 has declined in a 5 wave pattern into the low of 2798 on July 30. The S&P 500 is likely to rally to 2821 which is wave 4 and just above the 38.2% retracement level of 2817. A larger retracement of 61.8% would target a rebound to 2829.
Click on any chart below for large image.
The reversal in the S&P 500 was expected as previously discussed in recent weeks:
“As discussed last week (July 16 WTR) there are a number of reasons why the market could be vulnerable to a correction. By rising above the March 13 intra-day high of 2801.90, the S&P 500 may have completed wave c from the April 2 low, and an a-b-c countertrend rally from the February 9 low which also completes wave (B). Since the April 2 low at 2554 is 22 points higher than the February 9 low at 2532, the S&P 500 could push up to 2824 which would make the rallies equal in length.”
The only curve ball was that the S&P 500 managed to rally a bit further than expected on news that was quickly deflated. On July 26 the spokesperson for the EU and part of the trade negotiations stated, “We are not negotiating about agricultural products.” In fact, EU President Jean-Claude Juncker and President Trump agreed to launch negotiations aimed at cutting tariffs and subsidies. The U.S. pledged not to impose car tariffs as long as negotiations are ongoing and both sides said they would try to find a way to roll back tariffs that have already been imposed. The EU said they would seek to buy more soybeans. Hopefully the EU will be more successful than the majority of people who seek to lose weight after January 1 each year.
In the July 16 WTR I reviewed the performance of the Nasdaq 100 ETF (QQQ) and concluded it was nearing a high and at risk for a sharp decline:
“The FAANMG stocks comprise 48.7% of the Nasdaq 100 (QQQ) and their strength enabled QQQ to make a new all time closing high on July 13. However, the new high was accompanied by a significant negative RSI divergence. When QQQ closed at 177.60 on June 14, its RSI was a strong 74.9 compared to just 65.8 on July 13 when QQQ closed at 179.61 or 1.11% higher than on June 14. A similar divergence occurred when QQQ made a new high on March 12 compared to its January peak. That divergence was followed by a sharp decline. This suggests that the FAAMNG stocks may be on the cusp of a sharp correction.”
In the July 26 Special Report I discussed the QQQ’s in light of another new high and the contraction in the number of Nasdaq stocks recording new 52 week highs by displaying a chart of the percent of new highs during the prior 21 trading days:
“Despite the good news and the rally, the technical underpinnings continue to flash warnings that the internal strength of the stock market is not as healthy as it may appear. Yesterday the Nasdaq Composite and Nasdaq 100 made new closing highs but the RSI for both averages were well below the level reached in June. A negative message is also being sent by the number of stocks making new highs. In a healthy market the number of stocks making a new 52 week high will either record a higher number of new highs and a small number of new lows, or at least show a large plurality of new highs and a small number of new lows (usually under 40). On January 23 as the Nasdaq Composite and Nasdaq 100 were approaching their peaks the new highs were 415 compared to new lows of 23. Yesterday as the Nasdaq Composite and 100 (QQQ) were making a new high, the number of Nasdaq stocks that made a new high totaled 79 compared to 81 new lows. It is rare for any market average to post a new high with new lows exceeding new highs and is not a sign of strength. In January 8.1% of Nasdaq stocks were at a new high, but just 2.0% were on July 25 down significantly from 5.1% on June 14.”
Since peaking on the news inspired spike on July 25, the QQQ’s have fallen in a 5 wave decline.
QQQ is likely to rally to 178.60 which is wave 4 and just above the 50.0% retracement level of 178.03. A larger retracement of 61.8% would target a rebound to 179.62.
Apple will be announcing its earnings after the close on July 31 so the QQQ’s may rally in anticipation of a good report before the release of Apple’s earnings, along with a number of Nasdaq stocks that have taken it on the chin in the past week and are due for an oversold bounce. My guess is that Apple’s number will be fine but the rally won’t have much staying power. If Apple fades after a good report, the FAANMG stocks could swoon. Eventually Apple has the potential of falling to the blue support line which is currently below $170.00.
I provided the following instructions in the last two WTR’s:
“Once again it’s time to 1) hedge your portfolios, 2) do some selling, or 3) go 25% short above 2805 and 50% short above 2820, using a stop above 2840. The S&P 500 rose above 2805 on July 17. A number of big name tech stocks report earnings this week (July 23-27) which may lift the S&P 500 above 2820.”
The S&P 500 only rose above 2840 in response to the supposed trade agreement with the EU, which turns out to have been somewhat premature since the agreement was to begin negotiations. As someone said on CNBC on Friday:
“There is a nugget of truth in every comment by President Trump.”
For those who hedged portfolios or lightened up, the move above 2840 is no big deal and I continue to expect the S&P 500 to move toward 2700 in coming weeks. If you maintained the recommended short position, using 2845 as a stop makes sense since by all rights the S&P 500 should not trade up to that level if it’s on its way to 2700. If you covered, I would go 33% short on a move above 2820 using 2845 as a stop.
Dollar
It is difficult to find anyone who is not bullish on the Dollar, since the Fed is expected to raise rates, economic growth is stronger in the U.S. compared to Europe and Japan, and the spread between yields in the U.S. versus Europe and Japan is so wide money will keep flowing into the U.S. I don’t disagree with this analysis but most of this was true while the Dollar was falling from 103.84 in January 2017 to 88.25 in February 2018. The only thing that’s changed is that the Dollar rose by 8% since its bottom in February which virtually no one anticipated.
In the March issue of Macro Tides I expected the Dollar to rally from 88.25 to near 95.00 in coming months:
“The recent low was 88.25 (cash) and could be retested amid trade discussions that include retaliatory actions by other countries in response to U.S. steel and aluminum tariffs. The Dollar chart suggests a rally to near 95.00 is possible in coming months. This would represent an increase of almost 8.0% from its low at 88.25.”
In February 90% of traders were bearish the Dollar and currency traders were holding a large short position (short $30 billion). Less than 6 months later everything has done a quick 180 with 90% of traders now bullish and hedge funds holding the largest long position in the Dollar (+$28 billion) since the top in January 2017!
Although the Dollar is near a short term high, it has yet to confirm that a top is in place. In the short term, the Dollar may push above its high of 95.65 on July 19. The Dollar has tested and held the trend line connecting the lows in May, June, July, and today at 94.33. A close below 94.20 would increase the odds that the high is in place. Although the Dollar traded under 94.20 over night on July 26 it did not close below that support.
Euro
In the July 16 WTR I noted that::
“The price pattern in the Euro allows for some additional choppy trading in the next 1-2 weeks, followed by a quick thrust to a new low.”
Since the Euro completed wave 3 on June 21 it has been chopping sideways in what is likely wave 4. Once finished a quick drop to below 1.15089 would complete a 5 wave decline from the February high and set the stage for a rally in the Euro and fall in the Dollar. Establish a 50% long position in FXE if it declines below $110.55.
Gold
The positioning in Gold just keeps getting more constructive as Large Speculators have the smallest long position since January 25, 2016 and Managed Money has the largest short position ever. Large Specs (green line middle panel) are trend followers who invariably have their largest long position at tops in Gold (July 2016) and smallest long position near a bottom as they did in January 2016. Managed Money (blue line bottom panel) has managed to have their largest short position just before nice rallies in Gold as in December 2015 and now. Hedge funds have more than doubled their short position in 5 weeks.
If the Dollar spikes above 95.65, Gold may dip under the July 19 low of $1212 and could breach $1200 briefly. I will add to my position if this develops. Just as the S&P 500 has traced out 5 waves down from its July 25 high, the probability that a low has developed in Gold will come when Gold traces 5 waves up from a low. It did not do that after reaching $1212 (90m minute chart below), which is another reason why a drop below $1212 seems likely. The average purchase price for the entire GLD position is $120.84 and adding to the position if GLD trades under $115.00 is suggested.
Since mid May I have recommended scaling into Gold as it fell below a number of trend lines, which was expected to turn sentiment more bearish and allow positioning to become more constructive. I thought the Gold ETF GLD might trade under the July 2017 low of $115.00. On July 19 GLD dipped to $115.12 before reversing higher. It is not a coincidence that the Dollar reached its high of 95.65 on July 19 and suggests Gold may wait until the Dollar has confirmed a peak before mounting a sustained rally.
Normally, I would suggest a stop above recent lows, but sentiment and positioning suggest that Gold and Silver could spike lower and then pop like a volley ball submerged under water. That would make it difficult to execute a tight stop and a repurchase price that wasn’t higher than the stop. The weekly RSI for GLD closed at 30.7 on July 23 the most over sold since December 2016. On July 30 GLD posted a new closing low below July 19, but its RSI is far higher. This suggests that selling pressure in GLD is lessening. My guess is that GLD is likely to bottom above the black horizontal trend line at $114.00 within the next two weeks.
Gold Stocks
A 50% position was recommended if GDX traded under $21.80 and a 100% position if GDX fell below $21.56. On July 17 GDX opened at $21.73 and opened at $21.50 on July 19, so the average cost is $21.62. There is a decent chance that GDX may spike under $21.00 especially if Gold dips under $1200. I’m going to suspend the instruction to sell GDX if it closes under $21.16 since its RSI would be close to 30 if it does. I’m not entirely comfortable doing this, but Gold and GDX are likely to be higher once the selling pressure abates. Just as Gold has resistance at $1300 – $1315, GDX is likely to run into over head supply above $22.50 – $23.00. The rally above the September high may have to wait until 2019.
Treasury Yields
As I have noted in recent weeks, Large Speculators are still holding a large short position in the 10-year futures market that is larger than in January 2017 when bond yields were topping near 2.60%.
After topping out at 2.62% in March 2017, the yield on the 10-year Treasury fell to 2.034%. It was one of the primary reasons I recommended buying the Treasury bond ETF TLT when it traded under $117.50 in March 2017 in anticipation of a rally to $128.00 – $129.00. In June 2017 TLT traded up to $128.57.
The large short position in the 10-yar Treasury futures is likely to put a floor under prices and keep yields from rising too far. If correct, the 10-year Treasury will hold under the high of 3.115% in coming weeks.
The 30-year Treasury yield is not likely to exceed its high of 3.247% in coming weeks. If I’m wrong and bond yields rise above their mid May highs, the stock market might actually notice.
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The Sector Relative Strength Ranking is based on weekly data and used in conjunction with the Major Trend Indicator (MTI). As long as the MTI indicates a bull market is in force, the Tactical Sector Rotation program is 100% invested, with 25% in the top four sectors. When a bear market signal is generated, the Tactical Sector Rotation program is either 100% in cash or 100% short the S&P 500.
The MTI crossed above its moving average on February 25, 2016 generating a bear market rally buy signal. Based on the buy signal, a 100% invested position in the top 4 sectors was adopted. The MTI confirmed a new bull market on March 30, 2016 which is still in effect.
The MTI remains well below its high from January and barely above its level on June 13 when the S&P 500 it traded up to 2792. A close below 2690 would suggest a meaningful top has been completed.
Past performance may not be indicative of future results.
Disclosure
The S&P 500 Index is a broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index. The Nasdaq 100 is composed of the 100 largest, most actively traded U.S. companies listed on the Nasdaq stock exchange. All indices, S&P 500, Russell 2000, and Nasdaq 100, are unmanaged and investors cannot invest directly into an index.