Stock Market Ready for a Bounce Within Intermediate Downtrend

By: Andre_Gratian

Current Position of the Market

SPX: Very Long-term trend - The very-long-term cycles are down and, if they make their lows when expected (after this bull market is over) there will be another steep and prolonged decline into late 2014. It is probable, however, that the steep correction of 2007-2009 will have curtailed the full downward pressure potential of the 120-yr cycle.

SPX: Intermediate trend - SPX has made a triple top, which is a bearish pattern. It has now given a strong indication that an intermediate correction is underway.

Analysis of the short-term trend is done on a daily basis with the help of hourly charts. It is an important adjunct to the analysis of daily and weekly charts which discusses the course of longer market trends.

Market Overview

If there was any doubt left in anyone's mind that we are in an intermediate correction, last week should have erased it. All three indices have now broken and closed below their intermediate trend line from the October 2011 low, and the DJIA and NDX are now decisively trading below their 200 DMA, while SPX has only breached it by a fraction. Overall, the NDX remains the weakest index, while SPX is the strongest, although last week, NDX showed signs of improving its relative strength.

By Friday's close, it looked as if prices were beginning to stabilize and another near-term counter-trend rally was about to take hold. This was reflected in the fact that after making a new low, all three indices closed slightly higher. The SPX met with a price projection of 1372 and rallied immediately. AAPL also appeared to stabilize after meeting another Fibonacci projection at 535. On the Point & Figure chart, AAPL and SPX both showed signs of accumulation after having reached their price targets. On Friday alone, SPX created a base of almost 30 point across, a sure sign that buyers were matching sellers point for point instead of the latter being in total control.

Positive divergence developed in the hourly indicators early in the day, and a 16-point rally from the low was almost enough to confirm a turn in the SPX. But after mid-day prices started to retrace once more, possibly in a test of the lows. If it is successful, a positive opening on Monday could bring about the near-term reversal which failed to materialize on Friday. Whatever takes place, there is no indication that a larger trend low is in place. The daily indicators are not in a position to give a buy signal. We should be aware, however, that the weekly indicators are now oversold and that better days might be in store for the bulls before too long, but perhaps only as a reprieve within the intermediate decline which appears to be under the influence of an important cycle due to bottom in January.

Chart Analysis

Last week I showed this chart and mentioned that SPX was still above three levels of support which would have to be broken in order to confirm that it had achieved intermediate downtrend status. The first two were very close together: the support from a previous congestion level established in September, and the blue trend line from the October low. The first was broken last Wednesday, and the second on Thursday. On Friday, the SPX challenged its third support, the 200-DMA, which essentially held, although it was penetrated by a few points. However, with the NDX and DJIA clearly closing below theirs, we can say that the market as a whole, has met the acid test and is now in a confirmed intermediate downtrend.

Before last week, the indicators were beginning to firm up, but the latest weakness sent them back down to the low of their range from which they turned up slightly on Friday. The NYMO (courtesy of StockCharts.com), which is positioned below the price chart, has dropped back to the level of the green line where it has found support before. Odds are that it will turn up again along with a rally in the index and break above its blue downtrend line.

The hourly chart indicators are far more bullish looking than the dailies. They are showing positive divergence, especially the A/D indicator at the bottom (courtesy of Q charts) which has remained positive while the price was re-testing the low of the day. SPX found support at the bottom of its down-channel, but this shows a lack of price deceleration which will most likely have be followed by lower prices after a bounce.

The rally we get from here could be limited by what was previously a support line turned resistance across former lows and may perhaps only consist of a back-test of the blue trend line. This could limit the rally to about 1400 which is what is intimated by the P&F chart if there is no change in the base pattern on Monday morning. After bouncing, the index will either enlarge its base or make a lower low toward the end of month in preparation for a much better rally.

Cycles

The cycle which was supposed to bottom next week may have done so this week instead, on the early side of its phase projection. It should give the bulls a little reprieve, but perhaps not for long. A better low may be achieved in late November followed by a decent rally, before starting on the final declining phase into January in conjunction with the 66-wk cycle low.

Breadth

The McClellan Summation Index (courtesy of StockCharts.com) has continued to decline along with the decline in price, but its RSI has reached an oversold level which normally precedes a rally in the NYSI and in the indices. If this is only a temporary rally followed by another drop into January, the RSI could end up making a double-bottom pattern similar to the previous one.

Sentiment Indicators

The long term indicator of the SentimenTrader (courtesy of same) continues to be stuck in neutral, and it will probably have to move into the green before it begins to signal the arrival of a market low. For now, the green reading of the short term indicator is far too benign to warn of anything important. (The same signal on October 19 was meaningless.)

VIX

It's always helpful to look at what the VIX is doing at potential reversal points. Here is an hourly chart of the VIX compared with the SPX for the past four months (courtesy of Q charts).

Starting in the middle of September, VIX began to diverge from the SPX. While the SPX was making new highs, VIX started to refrain from making new lows. This suggested that SPX was nearing a top. After the index started to decline, VIX continued to forecast a continuation of the trend until, on 11/7, SPX made a new low which was not confirmed by a new high in VIX. The latter continued to decline into Friday along with the SPX instead of going against it.

I believe that this a strong warning that SPX is about to have a reversal -- something that other conditions discussed earlier also suggest. It does not forecast what kind of a reversal it will be, but it is likely to signal the end of the coming bounce, just as it is signaling the end of the current decline.

XLF (Financial SPDR)

The same warning comes from comparing XLF to SPX.

The charts below are also courtesy of Qcharts. In this case, the divergence between XLF and SPX has existed for a longer period of time. It started on 10/12, where the first green star is placed. At that point, XLF made a higher high while SPX was making a slightly new low, and the relative strength of the financials has continued to show ever since.

Last Friday, XLF essentially held at a much higher level relative to SPX, barely nicking its 9/26 support while SPX was breaking below its 8/30 low. That makes XLF significantly stronger on a relative basis than the SPX.

I believe that VIX and XLF tell different stories. VIX is short-term oriented, signaling the approach of a reversal over the near term while XLF is saying that the internal strength of the market is greater than it appears, that it has not made a major top, and that when it does, it will be signaled by the XLF showing relative weakness just as it did at the 2007 top. The market has confirmed that we are in an intermediate decline but, when this is over, there is a very good chance that it will rise to a higher level than the one just achieved in mid-September.

BONDS

TLT also seems to be confirming that the equities market is in an intermediate decline. After holding above its 200-DMA since mid-August, it has started to break out of its consolidation area, moving and closing outside its channel and above a previous near-term high. It has also risen back above its intermediate (green) trend line.

All this is positive action, but it must follow through. Otherwise it will simply extend its consolidation and eventually roll over and make new lows. In order to prove that it is de facto resuming its uptrend, it will have to get above 127 and, if it does, it could be on its way to meet its long-standing projection of 137.

That's a lot of "ifs"! Let's give it a little while to prove itself but, considering the fact that we think that the market will not make its intermediate low until January, that's plenty of time for it to reach its long-term target - unless, of course, it decides to start going along with the equity market instead of against it.

GLD (ETF for gold)

After finding its support on its bottom channel line -- which caused a slight bounce -- GLD broke it and found better support on the 200-DMA. The re-bound from this level may now be over -- or will be at 169. If it is, it would confirm that the index is in an intermediate downtrend in sympathy with its 25-wk cycle which is due to make its low in late December. If GLD moves past 169, the analysis will have to be reviewed.

UUP (dollar ETF)

After breaking out of its intermediate up-channel, UUP found support at the level of a previous low which it was able to maintain even though that was briefly breached on the downside. After building a small base, the index started an uptrend which is now meeting resistance at the 200-DMA. This may cause a hesitation in its upmove, but it has now established enough of a count to take it up to about 22.60 before it starts another period of consolidation.

The move which started in July of last year is a long-term move which should eventually take the index up to about 25.00. The high of 23.10 most likely capped the first phase of the uptrend, and it is also likely that UUP is now gearing up for the next phase which should eventually take it to its 25.00 target -- the equivalent of 90.00 for USD.

USO (United States Oil Fund)

"USO continues to perform as expected, continuing its inexorable long-term journey to 28, and then 22."

No change in the predicted behavior of UUP. It has found temporary support on a trend line parallel to the top channel line, but this should only cause a holding pattern. The above projection to 28 and 22 are based on P&F counts. There is even a potential count to 8 which sounds fairly unrealistic at this time but cannot be entirely dismissed unless it has not been reached by the end of the coming bear market which is estimated to end in October 2014.

Summary

After another down week during which SPX and DJIA matched exactly the length of their previous declining phases - while NDX showed some minor relative strength - the indices are most likely ready for another bounce of 2 or 3 days within their intermediate downtrend.

The extent of this bounce will be determined on Monday morning (depending on how the market opens) and passed on to subscribers.

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