Is It Rally Time Yet?
by David Yu
"There is only one side of the market and it is not the bull side or the bear side, but the right side." --- Jesse Livermore
There’s no need to be a bear or a bull, but there’s every need to be a true student of the market, who studies the language of the market objectively. The grand debate of the bullish and the bearish ideologies may fulfill some of our emotional needs, but it renders little pertinence to the understanding of the market’s constant and unpredictable fluctuations. If the purpose of being in this business of investment is to be profitable, then we'd want to put aside our personal beliefs and heed the teaching of the market.
Let's turn to the market and see what the market's saying about Friday's action. Is it rally time yet?
In
last Sunday’s market commentary, I pointed out how the market would be buoyed
last week by the favorable confluence of the interest rates, the
mortgage refinancing volume, the Personal Consumption Expenditure, the
retail sector, and finally the price of oil. We know that if we’d only
pay attention to the consumption, we’d have a very clear view to the
path of our economy, and thus, the market. Since the retail sector is
directly affected by the consumption, let’s take a look at it first.
Chart 1 below shows a high degree of positive correlation between the
S&P Retail Index and the 4-week SMA (simple moving average) of M1 (green
curve), which is the most liquid forms of money that consists of
currency in the hands of the public; travelers checks; demand deposits,
and other deposits against which checks can be written. The black dotted
zigzag lines are the weekly fluctuations of M1. I use the
4-period simple moving average to smooth it out. The red curve is the
S&P Retail Index. The Fed’s money stock report has an 8-day lag time behind
the weekly S&P data.
M1's 4-week SMA had been in a downtrend due primarily to the $49 billion
sharp decline from 5/30 to 6/13 (from 1 to 2 on the chart).
Coincidentally, in the following week (6/13-6/20), the Retail Index
dropped 3.60% (black short slant arrow). And, then from 6/13 to 6/27, M1
increased $37.1 billion (from 2 to 3). This provided a big uptick for the
Retail Index, and it should also give the moving average of M1 a lift
this week when the report comes out.
Chart 1
Removing the Retail Index and the moving average
gives us Chart 2 that provides a better visual of the weekly M1
movement. On this chart, we can see a very strong uptrend in progress
from June through December of the election year last year. The strength was
particularly noticeable in the final three months of 2004. It didn’t even
touch the lower channel support line once (see x marks). The reversal of
M1 uptrend occurred abruptly after the election. From 12/27/2004 to
1/10/2005, M1 dropped a hefty $55.8 billion. This knocked M1 supply into
a sideway motion. And, that’s what happened to the Retail Sector.
The weekly S&P Retail index was 443.23 for the week ended 1/3/2005, and
it’s at 446.32 as of 7/5/2005. The difference is less than 1%. This,
interestingly, also set the market
going sideways. The weekly S&P 500 moved from side to side, from 1186.19
to 1194.94, during this same period.
As I’ve mentioned last week, the consumption stems primarily from
extracting the equity from the “wealth effect” of the home price
appreciation via mortgage refinancing. And, the interest rate movement
has a positive correlation with the refinancing volume. So, let’s check
in on the interest rates next.
Chart 2
Since banks generally peg mortgage interest rates
to the bellwether 10-year T-bond yield, let’s take a look at this 7-10
year T-bond iShares, which has an inverse correlation with the yield.
The technical pattern on Chart 3 shows an obvious trading range after it
broke the uptrend around June 9. That's confirmed by the 9-day RSI that never went over the overbought territory of 70 or under
the oversold territory of 30. In addition, the PVO (Percentage Volume
Oscillator), one of the best volume (or enthusiasm) indicators, also
stayed within a range. These all translate to a range bound interest
rate after the previous period of decreasing rates (increasing bond
prices). This seems to be in concert with the recent M1 trend.
However, Chart 3 does show some bearish bias.
If the bond prices continue to form lower highs, the dotted red slanting
arrow could become the upper resistance line of a bearish Descending
Triangle pattern. This could potentially mean higher interest rates,
which would reduce the refinancing volume and would then reduce the consumption. But, this
bearish bias may be neutralized by the
short-term oil price top.
Chart 3
Last Sunday, I mentioned how the equivalence of a
tax relief from the drop of 8%-10% gasoline price at the pump in April
and May, due to the
drop of 17.44% in the price of crude, had provided a boost to both the
consumption and the consumer confidence. To carry this further,
let’s take a look at the price of the crude as a ratio to the Dollar by
dividing the oil price into the USD Index.
Here once again, from the CCI's lower highs formation, it would
seem that the price of oil had just topped out. However, as I also
mentioned last Sunday, the decline this time may not be as drastic as it
did in April and May. The reason is that the intermediate term uptrend
trendline (blue line) that started after the New Year is still far from being violated. The
dip below this trendline in May coincided with the France “No” vote to
the new EU constitution referendum. It’s highly probable this dip in oil
price was due to the sudden rise of the USD. And, without accounting for
those 4 days of irregularity, the uptrend seems very well intact.
It’s very likely that the price of oil could come down and test this
trendline again within a month. Nevertheless, barring unforeseen events,
it should continue to hold above this trendline. And, that is why the
market is going to stay “afloat” for now. However, I can’t see how it’s
technically possible for any meaningful rally to gather momentum. Friday’s “big” rally should not
be deemed as the commencement of such momentum. Since there’s no
intraday volume available for the major indices, I’d like to use QQQQ
intraday chart as the proxy for the market.
Chart 4
On this 30-minute, 15-day intraday chart below (Chart 5), I blacked out about three quarters of Thursday’s action that appeared to be the obvious reaction to the event in London. And, without taking Friday’s parabolic rise into account, that leaves us with the market pretty much resuming its sideways movement right under 37.20 (red arrow) since June 28. Coincidentally, 37.2 happened to be the approximation of the average of Friday’s “aftermath” high and Thursday’s “bombing” low.
Chart 5
This average seems to indicate that without the London “bombing” low and
the “aftermath” high, the market should continue to wander around the
37 - 37.20 area. Since any sudden reaction in the market tends to eventually
revert back to the means, it shouldn’t come as a surprise if the market
reverts back to the sideway movement along the 37 support level next
week.
The move of the 12-period RSI (6-hour on this 30-minute chart) to the
80’s territory also indicates Friday afternoon’s action was an
overbought reaction. And, the TRIN Index table shown below also confirms
this overbought condition. NASDAQ’s TRIN Index reading dropped from the
“healthy” 0.88 to 0.71 to the extreme overbought reading of 0.43 on
Friday.
Perhaps it'd be time better spent to take a vacation rather than sitting around waiting for the major rally to take place.
email: david_3011 @ yahoo.com
Space before and after @ was left intentionally to avoid spamming. Please remove this space when sending your emails.