Written by Jim Welsh
Macro Tides Weekly Technical Review 18 November 2019
Red Line for the S&P 500
The more touches a trend line experiences the more important the trend line becomes. The rising red trend line connects the major low in February 2016 and 8 additional touch points.
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After the February 2016 low, the subsequent lows occurred in November 2016, February 2018, March 2018, May 2018, and all provided support allowing the S&P 500 to continue rally to its peak in September 2018. After the S&P 500 convincingly broke below this support line in early October 2018, the S&P 500 rallied to tag it in November and December, before plunging to a significant trading low in December 2018. As the S&P 500 rallied off the December low, it touched the underside of the red trend line at the April 2019 high and July 2019 high. These touches were followed by quick corrections of -7.6% and -6.8%. As this is a rising trend line the current resistance is 3130 to 3145 by November 22.
As discussed last week a number of sentiment indicators have reached levels normally associated with at least an approaching high, which is supported by some momentum indicators. More momentum indicators have weakened since November 11, even as the S&P 500 pushed to a number of new highs last week. If it weren’t for the expectation of a trade deal with China, the S&P 500 would have already 2 begun to correct.
On November 5 optimism for a deal reached its highest level since mid April, and likely climbed further in the week of November 11 as the S&P 500 reached new highs. Of the 12 trading days so far in November, the S&P 500 has been lower on only 2 days. This suggests that much of the positive reaction a trade deal would elicit has already been factored into the S&P 500, and leaves the S&P 500 more vulnerable to a downside surprise.
Federal Reserve Chairman Jerome Powell visited with President Trump at the White House on November 18. While the meeting is certainly worthy of a head line, President Trump’s Tweet is more notable. President Trump described the conversation as wide ranging and the tone was very good and cordial.
This is quite a shift from describing Chair Powell in the most unflattering terms as the President has done for most of Powell’s tenure, including calling him a bigger enemy of the U.S. than China’s President Xi. Why the big shift in President’s rhetoric toward Chair Powell?
China’s hog population has been decimated by the swine flu which has shrunk the number of hogs in China by more than 35%. This has led to a huge increase in hog prices and a large increase in overall food inflation.
As China’s middle class has grown during the last decade the demand for a higher protein diet has led to the consumption of more meat and chicken. China needs to buy hogs and the U.S. has the capacity of supplying that need, but China has refused to commit and according to Jim Cramer is dickering on price.
On October 11 President Trump announced that a framework for a Phase I trade deal had been realized and held a press conference in the Oval Office with China’s trade minister. At that time China had supposedly committed to purchasing $40 to $50 billion of U.S. agricultural products, which ignited the current rally in the S&P 500 off the low of 2856 on October 3.
It was reported last week that China is unwilling to put a dollar amount on their agricultural purchases, so it appears China has retreated from that commitment. Over the weekend it was reported in China that Chinese negotiators believe that since the Trade War began with the imposition of tariffs, it should end with tariffs being removed. There is no way President Trump will agree to roll back tariffs, without significant progress and agreement on the important issues that have been on the negotiating table for more than a year.
I have been skeptical that a trade deal will be achieved with China and have felt that China was merely employing a Trade Rope-A-Dope strategy to string the talks along so election pressure would push President Trump to accept a less stringent deal. China’s central bank lowered its 7 Day Reverse Repo Rate on November 18 for the first time in more than four years, clearly signaling that policymakers are ready to act to prop up slowing growth.
If Chinese policy makers really believed a trade deal was imminent, the PBOC would not feel the need to move now. This action by the PBOC adds credibility to the news coming out of China in the last week, and suggests the odds of a trade deal have dropped.
President Donald Trump summoned Federal Reserve Chairman Jerome Powell to the White House on Monday November 18 to discuss the economy and interest rates. The impromptu nature of the meeting with Powell makes me wonder if there is something to read between the lines. If President Trump thought he would be raising tariffs soon, he would want to know if Powell would respond quickly since the stock market will not take a trade failure well.
The U.S. economy is slowing even more so far in Q4, and estimates of GDP growth have been slashed in the past week by more than 0.40%. GDP is now expected to grow around 0.83% in Q4.
Just about every strategist and economist interviewed points to the strength in consumer spending as to why the U.S. economy remains in fine shape and why growth is likely to accelerate in the first half of 2020.That may happen but what is known is that consumer spending has weakened sharply in the past six months.
Notice how much consumer spending dropped after the correction in the stock market in the fourth quarter last year. Meeting with Powell may be Trump’s insurance policy that the FOMC would stand ready to quickly offset weakness in the stock market and consumer spending before Christmas, especially if President Trump reiterates his willingness to raise tariffs in mid December.
Stocks
Last week I noted that the 10 largest stocks based on capitalization comprise almost 24% of the S&P 500, which is the third highest in the past 30 years. When so much ‘strength’ is so concentrated in just a few stocks, the overall market is more vulnerable should those 10 stocks begin to weaken. Another example of that concentration is evident by the fact that the capitalization of Apple and Microsoft is now 4 equal to the entire $2.3 trillion capitalization of the Russell 2000. Who needs the Nifty Fifty, or the Big 10, when the Dynamic Duo is worth more than 2000 stocks.
The S&P 500 has rallied from 3066 on November 1 to 3122 on November 18 or +1.82%. However, in the 11 sessions since November 1 market breadth has been negative on 7 days and the A-D Line has flat lined. This is not a good sign for a market making a new all time closing high on 7 days.
The deteriorating breadth is also evident in the number of stocks making a new 52 week high or low. On November 4, 214 stocks made a new high but that figure has shrunk to just 115 on November 18. Conversely, the number of stocks recording a new 52 week low has increased from 11 on November 4 to 77 on November 18.
Dumb Money tends to follow the market up and down and reacts to trends, rather than anticipating trend changes. Smart Money is inclined to anticipate trend changes by selling into strength and buying into weakness. According to Sentiment Trader, Smart Money has the lowest exposure to the market in more than a year, while Dumb Money exposure is near the highest level of the past year.
To put this into perspective, the high in April was the highest in a decade. This is another sentiment indicator suggesting that a top in the S&P 500 is approaching, much like the CNN Fear & Greed Index, Weekly Investors Intelligent survey, and daily Call / Put Ratio discussed last week.
Last week I recommended a 20% short position if the S&P 500 traded above 3097 through the purchase of the 1 to 1 short S&P 500 ETF (SH), which was executed at $25.10. Increase the position to 40% as long as the S&P 500 is above 3100 on November 19. Use a close above 3160 as a stop on this position.
Treasury Bonds
If the trade negotiations with China collapse, Treasury bond yields are going to fall, potentially to the low of 1.429% in the first half of 2020.
As noted in the October 28 WTR:
“The pattern in the 30-year Treasury bond yield is the same as the 10- year. If wave (c) is equal is wave (a), the 30-year Treasury yield could push up to 2.48%, and is poised to move above 2.378% soon.”
On November 7 the 30-year Treasury yield rose to 2.443%. My guess is that Treasury yields will exceed the highs of November 7 before a trading low is established. If this pattern analysis is correct the 30-year yield will test or drop below 1.905% in the first half of 2020 to complete wave 5 from the high last November.
Treasury Bond ETF (TLT)
Last week I recommended a 50% trading position in TLT if TLT traded under $134.00 using $131.40 as a stop. Last week TLT traded down to $134.79 before rallying up to $138.61. The rally from the low of $134.45 appears to be 5 waves, which suggests the low is in place. Establish a 50% position if TLT trades down to $137.05 which is the 38.2% retracement of the rally from $134.45 to $138.61. Increase the position to 100% if TLT trades down to $135.55, using a close under $134.10 as a stop. If Treasury yields fall as expected in coming months, TLT has the potential of trading above the August high of $148.67. This trade is risking less than 1.7% to potentially make up to 10.0%.
Dollar
The Dollar rebounded to 98.44 on November 13, just pennies above the 50% retracement (97.41) of the decline from 99.67 to 97.15, before reversing lower. This trading action reinforces the expectation that the Dollar will fall to 96.00 or lower in coming weeks.
Gold
As long as Gold holds below $1480, a drop below $1446 is expected. It is possible that a drop below $1446 will complete wave c from $1516 and potentially complete the larger a-b-c correction from the high of $1556. If correct, Gold should rally back to $1516 and a possible retest of the high of $1556. Establish a 50% position in IAU if Gold trades under $1446, using $1425 as a stop.
Gold Stocks
If Gold drops below $1446, buy GDX using $25.90 as a stop. A rally to $28.25 seems likely if the recent low of $25.97 holds, with a chance GDX will rally to $29.30 or higher.
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 confirming the uptrend. The progressive weakening in the technical structure of the market since late April led me to reduce exposure.
When the S&P 500 was trading at 2877 at 7am on May 16 I lowered the exposure in the Tactical U.S. Sector Rotation Model Portfolio from 100% to 50%. I lowered exposure to 25% in the Tactical U.S. Sector Rotation program on June 11 after the S&P 500 gapped up to 2903 at the open. I lowered exposure to 5% from 25% at the close on Wednesday when the S&P 500 was 2913. I sold the 5% position in Technology ETF (XLK) shortly after the opening on July 1.
I established a 25% short position in the S&P 500 through the purchase of the 1 to 1 inverse ETF SH on July 23, when the S&P 500 traded above 2995 (SH $26.09). The short position was increased to 40% on August 8 when the S&P 500 was trading at 2930 (SH $26.69). The short position was reduced to 20% on August 28 when the S&P 500 was trading at 2882 and SH was sold at $27.09. The remainder of SH was sold on September 25 at $26.03.
When the S&P 500 traded up to 3040 on October 28 I purchased a 20% position in SH for my managed accounts at $25.59. SH is the 1 to 1 short S&P 500 ETF that gains in value when the S&P 500 declines. My expectation is the S&P 500 has the potential to drop to 2830 in coming weeks.
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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