This week’s economic releases and earnings results should steer our course for the next month. There are a number of key indicators sitting at key support and resistance. It’s time for investors and portfolio managers to plot their course and make your bets. Many already have, liquidating portfolios last week near the September highs. Was this a mistake? We’ll find out soon enough.
First, let’s talk about key technical indicators one should be watching this week. The first is the U.S. dollar. Since March, the dollar has been in a non-stop bearish trend while the stock market has been in a non-stop bullish trend. A falling dollar is also bullish for commodities, yet commodities have mostly been flat until September. Many stock market analysts have been calling for a dollar rally and a stock market correction since August because all markets must respect a reversion to the mean. The dollar is at key support now at the top of its channel which gives it a very good chance of breaking its intermediate trend. If the dollar continues to break to new lows, we can assume the stock market will jump higher during the earnings season. My gut feeling is that the dollar will continue to form new lows and extend its rally into year-end and then begin its bear market rally, but if I’m wrong I’ll be wrong this week.
Right now, the bearish trend in the dollar is intact.
- Moving averages are trending down
- We have yet to create a fail swing rally
- The intermediate trend channel has not been broken
- More than a 61.8% Fibonacci retracement points towards high probability of 100% retracement at 72
- Bearish shift holding in the RSI
- Elliott Wave count pointing towards an extended 5th wave down
The warning signs of a dollar rally are forming and should be considered, but may just be a false alarm if we break again to new lows.
- Bullish divergence in the RSI over the past two weeks
- RSI turning up at 40 – possible shift change in the RSI
- U.S. dollar is finding support at 76, near the top of its channel
Now, if the dollar rallies from here we should see a sell-off in commodities and the stock market. If it doesn’t rally and breaks 76, I think we’re headed much higher in gold, the stock market, and in commodities. Because of the compression at the top of the trend channel, a break below 76 could mean a move to 72 over a short period of time--rocketing gold higher. The question now lies in which trend is stronger: the intermediate trend down in the dollar or dollar support at 76.
Now that we’ve identified the first indicator to watch, the dollar, let’s talk about a few more that together may shed more light on the current course of the market and the correct investment course of action. The next market one should be watching is gold. Gold has broken out of a 1.5 year-long consolidation under ,000. The longer we stay above ,000, the more the breakout solidifies its new territory. I can remember telling clients in 2007 about the gold coiling and compressing into a spring. That like a coil, the harder you compressed gold under 0, the more explosive the breakout. Just as gold consolidated between 2006 and 2007, a breakout could spell the formation of a powerful new trend here above ,000.
How the stock market is behaving here can shed light on the dollar; and how the dollar is performing here at 76 can also shed light on the stock market. Since Monday, October 5th, we’ve had 6 consecutive closes higher than the open on the S&P 500. The NYSE Composite Index holds more than 2,000 stocks. Taking a look at breadth can give us an idea of how healthy this rally is. Compared to the July rally, the stock market is lacking the strength and accumulation we saw then. September’s volume rise with price but I fail to see the same situation so far in October. Nevertheless, the market still has positive to neutral readings that can allow for prices to continue higher over the intermediate term with increasingly more issues participating in new 52 week highs. Below is an updated chart from the one I created on 8/17.
Let’s start looking at some fundamental indicators that might shed some light on stocks. There are a few key economic releases this week that could steer market sentiment all on their own, namely: retail sales, Consumer Price index, and Industrial production. The FOMC minutes will be released on Wednesday, but will probably have less of an impact than retail sales that morning.
Retail Sales were stronger than expected in August—boosted by high gasoline prices and government incentives to help auto sales. Interestingly enough, excluding auto sales, retail rebounded 1.1% after a 0.5% fall in July. From what we know right now auto sales were down steeply in September; however, department store sales were up in last week’s Chain Store Sales report on 10/8. Chain stores reported weak home furnishings and building component sales, but it shows that despite continued weakness in the job market, the consumer is showing some interest in shopping. On 10/8, Ross Stores raised 3rd-quarter earnings outlook on favorable inventory shortage. Ross reported that total monthly sales (that’s right, top line growth) increased 12 percent. For now, the strength in consumer retail is coming from discount and bulk warehouse stores. Specialty retail may still continue to struggle this season. That sounds like a pair-trade to me.
If retail is going to improve, we’re going to need to build inventory, and that takes transportation. Interestingly, the Baltic Dry Index has been rising in October which tracks worldwide shipping prices from the different dry bulk cargo carriers. FedEx just announced on September 17th that they’re raising shipping rates on average of 5.9% for U.S. domestic and U.S. export services effective on January 4, 2010. Watching the transports will be critical over the next couple of months. Already this month, the Dow Jones Transports are lagging the Dow Jones Industrials and that isn’t a good sign. With rates rising and inventories at bare minimum levels, airfreight to meet deadlines may be an important industry to watch and trade. According to the International Air Transport Association (IATA),
“Compared to the low point of December 2008, seasonally adjusted freight demand has improved by 12%, but remains exceptionally weak at 16% below April 2008 levels when the fall in demand began. All regions saw improved demand conditions in August compared to July:”
Source: https://www.iata.org/pressroom/pr/2009-09-29-01.htm
Most of the components in the CPI have been fairly tame with housing (42% weighting) stabilizing as of the latest Case-Shiller Home Price Index report and energy doing the same. I don’t expect much excitement in the bond markets based off a tame CPI on Thursday. If I was a bond investor, I’d be more interested in any irregularities in the FOMC’s minutes on Wednesday that might not have been discussed at the last meeting.
S&P/Case-Shiller Home Price Index (1987-2009)
Source: Standard & Poor’s
Industrial production (IP) will be released on Friday. At the full recession stage of the economic cycle, IP is bottoming out. In the early recovery stage of the economic cycle IP is rising. It’s important that we determine whether IP’s trend is rising or relapsing. IP has reversed the downtrend with a revised 1.0 boost in July. Industrial Production in August increased 0.8% while IP excluding autos was up 0.4%. If September’s data shows another increase, it would appear that Industrial production has bottomed out.
Alcoa’s earnings last week were down, but better than expected. The “less bad” market seems to be continuing its role. Year over year comparisons look achievable as companies have drastically cut costs by slashing jobs and cutting back inventory. That is one of the key foundations to this year’s market recovery. Earnings estimates have been beatable and too pessimistic. We saw this in both the 1st and 2nd quarter this year. In the past two weeks, only two companies out of 20 earnings reports so far have failed to surprise above estimates. The question now will be how much of the top line (sales growth) has been improved and how concerned are investors in the top line as opposed to earnings.
Conclusion
Trend indicators are showing me that the intermediate trend in the stock market and the dollar are still holding. There are a few red flags that are showing us some signs to be aware of should more flags point towards a dollar rally and a stock market correction. I’m favoring a dollar break below support at 76 and a push towards 72 before we see a bear market rally in the dollar. Bernanke did much to try and jawbone the dollar higher last week. If I’m wrong about the dollar and the stock market, it’s going to be during this week. Gold’s clear break above $1,000 so far is helping both the stock market and the dollar continue their respective trends. The bond market is signaling deflation while gold and the stock market are signaling recovery and inflation in our future. With a majority of retail investors forcing their way into bond funds this year with interest rates as low as they are, you can make an educated bet on where the bubble is—but that’s another market observation to discuss later.
Estimations on the economic releases this week also look favorable for the stock market. I believe the CPI (to be announced Thursday) will be neutral to slightly higher with energy prices flat and auto sales down (17% of index weight) versus higher housing data (42%). Chain store sales helped last week, but may be offset from a decline in autos for a flat or better retail sales number in September (to be announced Wednesday).
There will be a lot to digest this week, but last week’s results from chain store sales and recent momentum up in gold and stocks are helping pre-qualify this week’s news. This is not a week to be golfing and missing out on earnings and economic news. Put your reading glasses on, turn on all single/dual/trio/quad/…/octuple market monitors, and tune in to your favorite market commentator to track this week’s market.
