Written by Jim Welsh
Macro Tides Weekly Technical Review 22 April 2019
The upward momentum in the S&P 500 has stalled after reaching the targeted resistance of 2910 – 2920. It’s possible that this hesitation is just that, a hesitation before another push higher. And it could be argued that the S&P 500 would have already made a new high if it weren’t for the weakness in the health care sector which is down more than 7% and comprises 14% of the S&P 500. But the market is the market and the breakdown in the health care sector is a sign of increasing fragmentation which is usually a symptom of a topping process.
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Last week the NASDAQ 100 and Semi-Conductor Index recorded new all time highs. These two market averages are dominated by a small number of stocks. The top 6 stocks’ weighting in the NASDAQ 100 is more than 43% of the index and 46% in the Semi-conductor ETF (SMH). Compare the performance of these two averages to that of the Russell 2000 since February 22 (blue arrow on each chart).
It’s as if you’re looking at two very different market environments since February 22. The Russell 2000 is down -2.2%, while SMH is up 12.7% and the NASDAQ has climbed 8.8%. This type of divergent performance in such a short period of time is usually not good.
For its part the S&P 500 is up 4.1% since February 22 (blue arrow).
Even as the S&P 500 is hovering just below its all time high and above the February 22 high, internal strength as measured by the 21 day average of Advances minus Declines has continued to weaken (blue arrows). This confirms what the divergences between the market averages indicate: Fewer and fewer stocks are lifting the NASDAQ 100 and S&P 500 higher, while the majority of stocks tread water or fade.
Given the outperformance of the NASDAQ 100 one would think that NASDAQ market breadth must be doing better than NYSE market breadth. One might also assume that the number of stocks making a new 52 high must be expanding as the NASDAQ 100 reaches a new all time high.
In fact, the 21 day average of Advances minus Declines on the NASDAQ has weakened considerably. Although the NASDAQ 100 recorded a new all time closing high on April 22, the 21 day average of Advances minus Declines was below 0! (red arrow) On April 18 (65-81) and April 22 (47-68) the number of stocks making a new 52 week low outnumbered the number of new 52 week highs.
It is rare and unhealthy for a market average to be making a new all time high while there are more stocks recording new 52 week lows than highs.
Last September a similar pattern emerged as the S&P 500 was marching to successive new all time highs powered by a small number of mega cap FAMANG stocks. This in itself is not a reason for the market to decline. What it does represent is the potential for a sharp decline if and when the big cap stocks carrying the market higher take a breath or worse get hit with some profit taking. And if the market is confronted with some news that causes selling pressure to increase, the markets weakened internal strength indicates that the market is less capable of absorbing the selling.
As noted last week:
“Measures of sentiment suggest that the S&P 500 is nearing a top but probably not quite there.”
Another sign that a top is approaching is the enthusiasm surrounding Initial Public Offerings (IPO”s) and the ability to distribute a large quantity of stock. A surge in IPO activity is one of the hallmark signs of a top which is reinforced by the strength in trading in IPO’s after they are priced. 2 IPO’s last week Zoomed after they were priced. This type of trading is indicative of a speculative fervor that is compatible with an approaching high.
As discussed there is accumulating evidence that the rally is running out of gas. The final piece of this puzzle will be provided when the NASDAQ 100 and S&P 500 break down below their rising trend lines or close below a prior reaction low. For the NASDAQ 100 that would be accomplished with a close below 7580 and 2870 for the S&P 500.
As long as these levels hold, the small number of stocks leading the charge higher can continue to carry the day. My guess remains that the market can hold up until mid May if the current rally lasts as long as the rally from the low on April 2, 2018.
Dollar
As long as the Dollar holds above the March 20 low of 95.74, the potential for a quick pop that could carry to 99.00 to 100.00 can’t be eliminated. However, positioning in the Dollar has become a crowded long trade, so the next really big move is more likely to be down than up. Once a top in the Dollar is confirmed there is potential for the Dollar to decline an equal amount after it peaked in January 2017, or by more than 15 points. (103.80 – 88.25 = 15.55)
Euro
The positioning in the Euro suggests that an upside reversal is coming. Positioning is not quite as extreme as it was in early 2017, but it shows that the Euro is becoming a crowded short. As long as the Euro remains under the down trend line, the trend is down. However, once the Euro breaks out above the down trend line a rally to 1.17 could follow within a few months.
Gold
In mid February as Gold was trading above $1340 Large Speculators were long 145,647 contracts (green line middle panel). With Gold now down more than $70 Large Specs have lowered their long position to just 56,273 contracts. The only time they carried a smaller long position was in the period between August and November last year as Gold was bottoming. The change in positioning suggests that Gold is approaching an intermediate low.
From its high in February Gold fell $64 and an equal drop form the secondary high of $1324 would target a low near $1260. A 50% position in GLD is recommended if Gold trades under $1265.
Gold Stocks
As noted last week the depth of any decline would be determined by the relative strength of the Gold stocks to Gold. After improving since GDX’s low in early September, the relative strength of Gold stocks to Gold weakened materially last week and closed outside its multi-month channel (bottom panel). This increases the probability that GDX can drop to $20.25, the low in late January and the initial high in October 2018.
In the April 8 WTR I recommended a 33% position if GDX fell below $21.60 which it did on April 17. Increase the position to 66% of GDX trades below $20.60. If Gold falls below $1250 and the relative strength of the Gold stocks weakens further, a Decline to $19.50 can’t be ruled out. Increase the position to 100% if GDX trades below $19.60.
Treasury Bonds
TLT traded below $122.23 and overlapped wave 1 (in red), so the odds of a rally above $126.68 have greatly diminished. Despite the decline TLT is not oversold as measured by its RSI, so a decline below $118.64 is possible, which may set up a buying opportunity.
British Pound
A 100% position in the British Pound thorugh its ETF (FXB) was recommnded at an average price of 127.79.The instruction were to use stop on 50% of the position on a close below 126.10 with a stop of 125.70 on the remaining half. FXB closed below 126.10 on April 18. FXB has fallen to the blue support line which has been tested on 4 separate occasions. This suggests that FXB is poised for at least a bounce in the short term. For now lower the stop on the remaining half to 1.2515.
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The MTI generated a Bear Market Rally (BMR) buy signal on January 16, 2019 (green arrow) and climbed above the green horizontal trend line on February 26, as it did on March 30, 2016. This increases the probability that a bull market has been confirmed. Prior to a decline the MTI would be expected to at least flatten out as it did in September. However, the reversal in January 2018 was so quick the MTI effectively topped as the S&P 500 peaked.
Given the way the market has rallied since the December low and the divergences discussed between the major market averages and the increased concentration in the mega cap stocks, the potential that the current rally will be followed by a decline to test the December low cannot be entirely dismissed. At a minimum a decline that brings the S&P 500 below 2700 is likely before Halloween. This outlook would be reinforced should the S&P 500 manage to rally to a new all time high while measures of internal strength remain weak.
In the April 1 WTR I warned that higher rates were coming and could negatively impact the sectors that have benefited from lower rates:
“If interest rates rise in coming months, as the chart of Treasury bonds and TLT suggest, a rotation out of the interest sensitive sectors that have benefited from the decline in long term rates since November is likely.”
Last week Real Estate got hit and Utilities appear to be set up for additional weakness.
The Russell 2000 has really been underperforming the S&P 500. This pattern of Russell 2000 weakness emerged before the selloff in the overall market in the second half of 2015, and prior to the big decline in the fourth quarter. Repeat performance? We’ll see.
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.
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