Historic Rally Signal

SUMMARY:
- Two unexpected moves yield a positive Friday though down for the week.
- Swap spreads improve ahead of SP500. Historically a rally signal.
- Market holds a new consolidation attempt in the face of more bad economic data, first wave of earnings. All in all, not bad work.
- Holdouts crack as a new crop of stocks stand ready to take their place.

Lots of early depression but market shakes it off.

A day that started somewhat unexpectedly as futures were way down. Overnight they were fine, but a couple of hours before the open they simply lost there nerve. IBM and AAPL goosed earnings but MSFT disappointed, but nonetheless the market recovered Thursday and was in decent shape overnight after GOOG beat as well. In the morning, however, the positives turned over. GE earnings were in line with lowered expectations. It kept its dividend. It didn't have a lot to say about the future. Nothing bad mind you, just couldn't say much of anything, especially nothing positive. They futures seemed to say 'that's it' after that release.

They slid lower and just kept sliding toward the open, indicating 2% losses on the open. No relief from other earnings releases either. COF reported an 11% drop in credit card spending. HOG said worldwide sales fell 13% in Q4 and it couldn't offer guidance. Playboy missed and announced layoffs. Sounds like it is time to go and name your price on a Harley, hire a Playboy bunny to accompany you, and pay for it all on the credit card. Maybe it is time for a bunny bailout. After all, Larry Flynt says the economic downturn is damaging our libido.

Stocks started lower, testing the Tuesday lows right off the bat. That was the start of unexpected move #2. Maybe it was not that unexpected. Yes things were depressingly gloomy at the start but they were so gloomy that when the market opened at the Tuesday lows and held the selling abated. A steady climb from the open to the end of the day took the indices positive sans DJ30. There was no change in character on the session as the indices did not break any significant resistance or change their near term patterns. What the day did was keep them working laterally after the August to November selloff to begin the new year.

This little lateral move is part of the larger 3 month consolidation following that sharp selloff. During this lateral move the market has taken the worst economic news since the Great Depression and has continued to consolidate. As we noted frequently, this is a good indication as the market has reached the point where it has absorbed all the bad news or has anticipated it. There was a hiatus in early January when it sold after the jobs news, but it is trying to catch itself this past week, absorbing more bad news and then getting a bit of decent news in the form of some earnings.

TECHNICAL. Intraday it looked grim at first, but after a much lower open in the midst of a lot of negatives the indices rebounded with all but DJ30 hitting positive. Gloom to positive. Not bad action.

INTERNALS. Given how bad things were and the fight to recover the losses the internals were not bad. Breadth was modestly positive on NYSE, a hair negative on NASDAQ. Volume was down on both, still above average on NASDAQ but lower and just below average on NYSE. Overall, price/volume action has leaned to the positive side the past week. New lows hardly expanded at all on the week. Overall the market internals were pretty solid for the week. Even on the downside days the internals were so extreme they were indicative of reversals in themselves.

CHARTS. Quite an intraday turn, but in the end there were no breakouts or change of character in the indices, but the action was not bad nonetheless. Friday the indices held the lows for the week and bounced, holding their lateral range or shelf that has formed after the selling the second and third week of January. SP500 is holding the early December lows, but it is just a hair away from tripping and falling to test the November and bear market lows. NASDAQ and SP600 are holding the December lows as well. DJ30 is actually holding over the October intraday low. Near term the action this week, coupled with the action in leading stocks, is a near term positive. Looking over the prior 6 weeks you still have those head and shoulders toppy patterns trying to form. This week did nothing to alter that as all the indices did was move laterally. Since October, however, there is that 3 month consolidation that is overall positive. Lots of bad news but managing to hold up.

LEADERHSIP. Friday saw some of those tocks that patiently held support during the market selling jump upside. The chips held their form and then jumped Friday on strong volume. Energy jumped back in the game and on some volume. Metals were up but volume was not. Decent but more trade would be nice. Financials were up as well, but it was a low volume bounce that really has the look of a relief bounce. There are good stocks holding support in their pullbacks even through the bad news and overall market selling. Those will be the emerging leadership if this move and they are stirring. Drugs, health care, tech, chips, small business services, and energy are perking up even before a full test of the November lows by the indices. They can still test those lows, but the action in the leaders is trying to prevent that move.


THE ECONOMY

Nothing but bad reports yet some tidbits of positive news.

Since the September shutdown in the economy the economic reports have been on a one-way express to crap. As of this week the headlines had not improved with housing starts hitting a 50 year low as reported Thursday.

LIBOR had improved quite nicely and indeed it is still is vastly improved from last summer. It is still, however, on a rebound that started when the new administration announced addition regulations for financial institutions receiving TARP funds (a.k.a. federal zombie bank funds) as well as loud democratic grousing about tax cuts contained in the proposed and ever-growing stimulus package. Friday it was up again, hitting 0.24% overnight (0.21% prior, 0.40% 1-month (0.39%), and 1.17% 3-month (1.16%). Modest moves, but the prior gains were more sizeable and pushed the 3-month rate up from 1.09% just a few days back.

Despite this there are modest improvements in a wide array of reports. Most if taken individually would be nothing more than a statistical blip. Putting them all together you get an ever so modest improvement in prospective economic activity.

Swap spreads, a leading indicator, have improved.

The first is a really impressive one though it pertains more to the stock market but it is directly related to the economy. Swap spreads are a measure of the risk involved in financial transactions. Wider spreads mean more uncertainty and risk as more up front profit margin is required by the parties in order to transact the deal. Narrower spreads indicate calmer markets as the parties demand less gain on the exchange. Right now swap spreads have recovered impressively, i.e. narrowing rapidly the past month.

The significance is that spreads reflect improvement or deterioration in areas that facilitate economic activity and are thus precursors to actual movement in the economy. That means they are also precursors to moves in the market. Right now spreads have improved dramatically while the market has note. After a rally off the November low that took the indices up through early January the indices have come back to test. They came back more than you would like, but they are trying to set up the past week. With the 3-month consolidation in place and a cadre of high quality stocks in place as well, the market is trying to set up to follow the spread indicator higher.

Other areas of modest improvement.

Barton Biggs noted today that the PMI reports have shown an uptick the past month. True. Chicago improved to 34.1 from 33.7. Still well below the breakeven at 50, but it is a very bad recession and this is the first tick higher since the plunge. What about the service ISM? It improved to 40.6 from 37.3.

Factory orders showed non-defense capital spending up 3.9% annually, the first gain in 4 months and the best gain in 10. Computers rallied 12.5%. Commercial construction rose 0.7% and is up 12.1% the past three months.

Real disposable income rose 1% and rose 7.1% annually for the past three months. Real spending rose 0.6%. Income is rising as inflation falls, and inflation is falling mainly due to the tumble in oil and gasoline prices. Larry Kudlow estimates that that gasoline price drop is equivalent to a $350B tax cut.

It is not an overwhelming, straight flush of positive data. Then again, it never is in the early stages. We initially scoffed at the modest improvement in the PMI data, noting it would need another couple of months of improvement, but that does not mean it is discounted. Especially so when you factor in the other data that is making its own improvements as well. You can see why the market is firming with leadership that is trying to set up for the next break higher. That keeps us looking for the break higher in the stocks.


THE MARKET

MARKET SENTIMENT

VIX: 47.27; -0.02
VXN: 46.6; +0.77
VXO: 45.63; -1.36

Put/Call Ratio (CBOE): 0.77; -0.11


Bulls versus Bears:

This is a reading of the number of bullish investment advisors versus bearish advisors. The reason you look at this is that it gives you an idea of how bullish investors are. If they are too bullish then everyone is in the market and it is heading for a top: if everyone wants to be in the market then all the money is in and there is no more new cash to drive it higher. On the other side of the spectrum if there are a lot of bears then there is a lot of cash on the sideline, and as the market rallies it drags that cash in as the bears give in. That cash provides the market the fuel to move higher. If bears are low it is the same as a lot of bulls: everyone is in and the market doesn't have the cash to drive it higher.

This is a historical milestone in the making. Bulls are impressively low considering we are in general a very optimistic country. The few bulls is a positive indication because it means most everyone that is getting out is out and there is money on the sidelines. In other words the ammunition boxes are full and as the market recovers investors will start opening up the boxes and firing. Little by little they will be forced to put more money into the market and there will be some rushes higher in fear they are missing the train. You relish times when sentiment is so negative because it means some tremendous buys are setting up. This could indeed be the opportunity of a lifetime, and you take advantage of it by buying quality stocks and letting them work for you as long as they will. If we can hold them for years, great.

Bulls: 38.7%. Substantial drop from 43.0%, the current top of the recovery as the market rallied off the November low. A rise from 25.3% in December and quickly starting to fall once the market encountered the January selling. Remains above the 35% threshold for the second week, below which is considered bullish. It does not mean the action is now bearish. That level is up at 55%. Bullishness bottomed on this leg lower at 21.3% in November 2008. This last leg down showed us the largest single week drop we have ever seen, falling from 33.7% to 25.3%. Hit 40.7% on the high during the rally off the July 2008 lows. 30.9% was the March low. In March the indicator did its job with the dive below 35% and the crossover with the bears. A move into the lower 40's is a decline of significance. A move to 35% is a bullish indicator. This is smashing that. For reference it bottomed in the summer 2006, the last major round of selling ahead of this 2007 top, near 36%, and 35% is considered bullish.

Bears: 37.6%. Right back up from 34.4% after a 2-week decline to the 34's from 38.5% before that and off from the 46.2% hit mid-December. Back above the 35% level considered bullish for stocks, but as with bulls, still well below the level considered bearish for stocks. Bearishness hit a 5 year high at 54.4% the last week of October. The move over 50 took bearish sentiment to its highest level since 1995. Extreme negative sentiment on this move. 35% is the level that historically indicates excessive pessimism. As with the bulls the jump in bears did its job after hitting 44.7% in the third week of March. Bearishness peaked at 37.4% in September 2007. It topped the June 2006 peak (36%) on that run. That June peak eclipsed the March 2006 high (33%) and well above the 2005 highs that spawned new rallies (30% in May 2005, 29.2% in October 2005). This is a huge turn, unlike any seen in recent history.


NASDAQ

Stats: +11.8 points (+0.81%) to close at 1477.29
Volume: 2.16B (-6.56%). Not a bad week for volume. On the Tuesday selling it was lower. It was preceded by a couple of solid, above average volume sessions though expiration played a role in that. Wednesday it was up on a NASDAQ rise. Up big Thursday on the selling, but as noted at the time, it was all the MSFT selling that pushed it above Wednesday. All in all, a net positive for the techs.

Up Volume: 1.63B (+1.199B)
Down Volume: 517.255M (-1.383B)

A/D and Hi/Lo: Decliners led 1.14 to 1
Previous Session: Decliners led 3.1 to 1

New Highs: 5 (-1)
New Lows: 156 (+33). Never moved up much during the test lower.

NASDAQ CHART: http://investmenthouse.com/ihmedia/NASDAQ.jpeg

Down for the week thanks to that ugly Tuesday return from holiday. That closed NASDAQ below the October low but above the early December lows at 1400. It is moving in a lateral shelf for the week as it found some support. Still a very tough near term picture for the techs as they are having a tough time getting back together after a lower low. Indeed, it is the late December consolidation at 1500, the higher low prior to the January selling, that is holding NASDAQ back at this juncture. Improved price/volume action is good along with some building patterns in some big tech stocks. A break over 1500 is a first start.

SOX (+4.15%) jumped back up through the late December pullback consolidation. Tried to move through the 18 day EMA but faded to close at that level. Trying to break up the head and shoulders, but still has to get over 225 to break it up (closed at 208).

NASDAQ 100 CHART: http://investmenthouse.com/ihmedia/NASDAQ100.jpeg

SOX CHART: http://investmenthouse.com/ihmedia/SOX.jpeg


SP500/NYSE

Stats: +4.45 points (+0.54%) to close at 831.95
NYSE Volume: 1.42B (-8.64%). Volume faded below average after a week of above average trade. Not a lot of pop Friday; the financials rallied but they did so on lighter trade. Price/volume action has improved some here as well.

Up Volume: 935.132M (+593.109M)
Down Volume: 476.581M (+45.984M)

A/D and Hi/Lo: Advancers led 1.36 to 1
Previous Session: Decliners led 4.38 to 1

New Highs: 34 (-5)
New Lows: 98 (+5)

SP500 CHART: http://investmenthouse.com/ihmedia/SP500.jpeg

SP500 struggled back to flat on the session, holding above 800 as it did all week. That didn't change things other than halting the selling for now. There was no break over the October low (849 closing). The pattern still remains quite bearish near term despite this consolidation. A test of the low down at 741 is still not out of the question given the financials and their continued drag on SP500. The past two sessions they moved in a relief bounce, but they were hitting up against resistance to tend the week and volume was much lower. Not a real hopeful sign that the needed change in attitude toward financials is taking place. We will see. Without their help SP500 looks ready to test the November low.

SP600 (+0.29%) was not in leadership mode Friday. It did hold the low for the week and bounced but it was tough sledding for the small caps. They are below the October low and the mid-December low, and that leaves them still in a bearish head and shoulders. Has some serious upside to do to break up this pattern and avoid a selloff to the prior low in November.

SP600 Chart: http://investmenthouse.com/ihmedia/SP600.JPEG

SP400 CHART: http://investmenthouse.com/ihmedia/SP400.jpeg


DJ30

Similar story for the Dow as it tested the lows for the consolidation of the week and then rebounded. It made it to positive but needed Viagra as it could not keep it up. Holding over the October intraday low but just below the October closing low. It too has work to do, but its pattern is more of a trading range and it has held the lows in the range and is in position to bounce back up toward 9000. With the improvements in some economic data we may just see that move, and we could still look to play it.

Stats: -45.24 points (-0.56%) to close at 8077.56
VOLUME: 370M Friday versus 420M Thursday. See what a major selloff in MSFT can do? After spiking Thursday volume fell right back.

DJ30 CHART: http://www.investmenthouse.com/ihmedia/DJ30.jpeg


MONDAY

Back to a full week of trade and hundreds of earnings reports. A load of economic data on top of that including an FOMC monetary policy 2-day meeting. Information overload. At least it keeps everyone busy trying to figure it all out.

The past week started bad but it did its best to salvage things. Given the bad news and the first really big week of earnings, holding up after the initial Tuesday selling was not bad action. The market remains in a weakened position with a lot of overhead supply near term, but it is also slugging out a 3 month consolidation in the face of continuing bad news.

Indeed the news is bad enough that it has taken down some of the holdouts that were considered safe havens all along. Last week saw STT, one of the so-called safe bank stocks, get ripped open with a dull deer antler after its earnings unexpectedly imploded. WMT capped lower after the first week of January. WMT's recession rise is over, and the money that was camped in there is getting taken out. Consumer staples are also getting taken down, something you would not expect from a truly weak economy for many more months CLX and PG were heading down Friday yet again. When all of the 'safe' stocks are taken down that is typically the sign of a bottom getting put in place whether short term or longer term.

At the same time, as discussed all week, there remain a cadre of high quality stocks that sold off in the 2008 selling but have now rallied off the lows, and unlike many market stocks, have held up nicely with orderly, shallow pullbacks while most of the market sold hard. There are chips (e.g. BRCM, NVLS), metals (SCHN, STLD, RIO), small business (HMSY, EPIQ), energy (NBL, oil service companies), biotech, healthcare, and drug stocks that are set up well and indeed are starting to move higher. They have done their time so to speak, and as the 'safe havens' fall in a sign the bear market is pulling down the last holdouts, they are ready to move in and fill the void. Think of the dinosaurs dying off and the small mammals coming in and filling the void. From small beginnings . . .

So we start the week of massive earnings looking at the stocks that have done their time and are in position to move higher. You have to really like that they are from diverse sectors, lending some credence to an idea they are pointing to a coming upside economic cycle. Maybe it is just another piss-ant rally in an overall bear market, but there are many stocks that can move well that are in good position to do just that. We have positions in some already and will look to add to those as well as pick up positions in new stocks on the move.

As for the downside, well, there are the financials. A low volume bounce to resistance to end the week has some of those looking right for some downside plays. We will look at them and see if they present anything. After all, SP500 is still poised for a fall to the November low. That sounds somewhat tragic for the market, but that would still be part of the consolidation and while not pleasant, not fatal.


Support and Resistance

NASDAQ: Closed at 1477.29
Resistance:
1493 is the October 2008 low & late December 2008 consolidation low.
1499.21 is the 2008 closing low
The 10 day EMA at 1507
1521 is the late 2002 peak following the bounce off the bear market low
The 50 day SMA at 1521
The 18 day EMA at 1524
1536 is the late November 2008 peak
1542 is the early October 2008 low
1565 is the second low in October 2008
The 50 day EMA at 1576
1603 is the December peak
1620 from the early 2001 low
1644 from August 2003
The 90 day SMA at 1662
1752 from 2004
1782 from August 2004
1786 is the November 2008 high. Key level.
1948 is the early October 2008 gap down level

Support:
1440.86 is the low on this selling
1428 is the November 2008 low
1398 is the early December 2008 low
1387 is the 2001 low
1295 is the November 2008 low


S&P 500: Closed at 831.95
Resistance:
839 is the early October 2008 low
The 10 day EMA at 847
848 is the October 2008 closing low
853 is the July 2002 low
857 is the December consolidation low
The 18 day EMA at 860
866 is the second October 2008 low
889 is an interim 2002 peak
The 50 day EMA at 893
896 is the late November 2008 peak
899 is the early October closing low
919 is the early December peak
The 90 day SMA at 940
965 is the 2003 consolidation low
995 from June 2003 consolidation peak
1008 is the November 2008 peak
1065 is the Q4 2003 level that SP500 started the run to 2007 after the first run in the recovery.

Support:
818 is the November 2008 low
815 is the early December 2008 low
804 is the low on the January 2009 selloff
800 is the March 2003 post bottom low
768 is the 2002 bear market low
741 is the November 2008 low


Dow: Closed at 8077.56
Resistance:
8141 is the early December low
8175 is the October 2008 closing low. Key level to watch.
8197 was the second October 2008 low
The 10 day EMA at 8263
8419 is the late December closing low in that consolidation
8451 is the early October closing low
The 50 day SMA at 8506
8521 is an interim high in March 2003 after the March 2003 low
8626 from December 2002
The 50 day EMA at 8659
8829 is the late November 2008 peak
8934 is the December closing high
8985 is the closing low in the mid-2003 consolidation
The 90 day SMA at 9012
9200 is the July peak in the 2003 consolidation
9323 From June 2003 peak
9575 from September 2003, May 2001
9654 is the November 2008 peak

Support:
7965 is the mid-November 2008 interim intraday low.
7882 is the early October 2008 low. Key level to watch.
7702 is the July 2002 low
7524 is the March 2002 low to test the move off the October 2002 low
7449 is the November 2008 low
7282 is the October 2002 low


Economic Calendar

These are consensus expectations. Our expectations will vary and are discussed in the 'Economy' section.

January 26 - Monday
December Existing Home Sales (10:00): 4.40M expected, 4.49M prior
Leading Economic Indicators, December (10:00): -0.3% expected, -0.4% prior

January 27 - Tuesday
January Consumer Confidence (9:00): 38.0 expected, 38.0 prior

January 28 - Wednesday
Crude oil inventories (10:40): 6.1M prior
FOMC policy decision (2:15)

January 29 - Thursday
December Durable Orders (8:30): -1.8% expected, -1.5% prior
Initial Jobless Claims, 01/24 (8:30): 589K prior
New Home Sales, December (10:00): 400K expected, 407K prior

January 30 - Friday
Q4 chain Deflator-Adv. (8:30): 0.5% expected, 3.9% prior
GDP-Adv., Q4 (8:30): -5.2% expected, -0.5% prior
Chicago PMI, January (9:45): 34.2 expected, 35.1 prior
Michigan Sentiment Revised., January (9:55): 61.9 expected, 61.9 prior
Employment Cost index, Q4 (10:00): 0.7% expected, 0.7% prior

By: Jon Johnson, Editor
Copyright 2008 | All Rights Reserved

Jon Johnson is the Editor of The Daily at InvestmentHouse.com

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