Technical Picture Continues to Weaken

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Last week I talked about the continued deterioration in the technical picture of the market. Well, unfortunately we saw more of the same in the trading that followed. Last week I gave these critical support levels for the market: SPX 1356/Dow 12,700/NASDAQ 2945/Russell 782. Last Wednesday a positive divergence developed in the markets. The S&P 500 and NASDAQ both closed below support; but, the Dow held and the Russell 2000 went below support intraday and closed above 782. This type of positive divergence in an oversold market often leads to a short term advance.

That didn’t really happen at the end of the week last week. There was an attempt at a rally last Thursday but it was muted. After the close Thursday J. P. Morgan announced a large trading loss and the markets were under pressure Friday.

Just 58% of stocks in the S&P 500 are now in sound position technically. That reading was off 7% last week and down a whopping 26% from its recent high. The smaller cap readings are also weakening and currently only 53% of small cap stocks are either advancing or basing. That is 32% lower than recent highs. We aren’t in a “coin flipping” environment yet but we are getting close. It is becoming increasingly difficult to pick winners in the current environment.

I sold some stocks last week that began to break down technically. I will continue to do so if the technical condition of the markets further deteriorates. Obviously the situation in Europe is weighing heavily on the markets. While I can see that I am not going to wow you with my great insights in European politics. The daily headlines will continue to impact our markets and will force me to remain nimble.

I mentioned above that a positive divergence developed last week. That divergence appears to be getting wiped out this morning. But, the numbers that will signal that this leg of the selloff is waning are on the upside: 1367/12,935/2962/797. Frankly, these numbers do not look like they will be threatened in the next few days. 

Intermediate term danger numbers are now, 1342/12,700/2900/780. If these numbers all give way the intermediate term trend will be clearly bearish and the long term trend will also take a hit. First quarter earnings were much better than expected and the market acted favorably, that seems like a long time ago. The markets are all up for the year, but it doesn’t feel that way. Investor sentiment appears extremely bearish. The most recent survey of the American Association of Individual Investors – AAII reached its most bearish reading since early October. 42.1% are now bearish. This has typically served as a very accurate contrary indicator. People get way too optimistic just as they should take some profits and look to throw in the towel at bottoms. 

I will continue to monitor the key levels for the major averages. Also, I will look at key support levels for the individual names I own. When individual names break down technically I will sell them and look for better opportunities.

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About Thomas J Smith CFA