Let’s look back at what took place last week and how that fits in with what has been taking place in the markets over the last few weeks.
At the end of last week’s piece I suggested we would be range bound for a while as the market digested the huge gains seen in the first three days of trading in December. The market started last week looking up at formidable resistance at the 1228 level. The market was muted Monday as the S&P 500 was off less than 2 points.
The trading in the metals complex last Monday was anything but muted. Silver prices reached a 30-year high as ongoing European debt-contagion fears and Federal reserve Chairman Ben Bernanke’s talk about a possible third round of quantitative easing lead to the buying of metals. In an interview with CBS’ 60 Minutes Mr. Bernanke signaled that the central bank could expand its $600 billion Treasury purchase program to address the high unemployment rate, fueling inflation sentiment. Silver for March delivery closed Monday at $30.13. The silver ETF (SLV) broke above final resistance of $28.72 and closed up 3.2% and had its highest close ever. Gold for February delivery closed at $1424.20, a 1.3% gain. The gold ETF (GLD) also set an all time closing high, but closed just below its all time intraday high.
The positive action in metals continued in the early morning Tuesday before a sharp correction followed. Metals gave up their gains and actually closed below the prior days low. This marked a false breakout for metals and they underperformed the market for the rest of the week.
Profit taking in metals took place ahead of data coming out of China over the weekend. There was an annual economic policy meeting held in China over the weekend. The market feared there would be a rate hike in China to slow their economy. This action would make metals less attractive. Fears increased Friday as China’s central bank hiked reserve requirements again. This morning the metals complex is reacting favorably to the release. Inflation in China in November jumped to a two-year high of 5.1%, for year-on-year growth of 9.6%. This number was widely expected, but so was a hike in interest rates. Rates in China remained unchanged and commodities across the board are up today.
Financials led the way higher last week. The yield curve steepened dramatically. That simply means the difference between the amount banks pay depositors, virtually zero, and the interest they can receive through making loans or simply buying treasuries dramatically increased. Based on the changes in the structure of the yield curve last week, banks are literally printing money.
The market pulled in slightly on Wednesday to the 1220 level. This move down looked like a false breakout for the index as it couldn’t hold above 1227. The market grinded higher the remainder of the day Thursday and Friday to end the week at the 1240 level on the S&P 500. The S&P 500 ended the week at a 2-year high and the NASDAQ closed at a three year high. The Dow failed to push above its November high. This sets up a possible negative divergence as all three of the major indexes failed to confirm the move to fresh 52 week highs. Last week I pointed you to the key resistance levels of 1228 for the S&P 500 and 11452 for the Dow. The S&P 500, NASDAQ and small cap indexes have all moved to 52-week highs. The Dow has not confirmed the move. Typically when one of the major indexes fails to confirm a move to new highs, a negative divergence, the market sells off. So, continue to eye the 11452 level on the Dow. As I write the Dow is tap dancing around that level. If 11452 is not taken out over the next few days do not be surprised to see the market selloff. Any pullbacks should continue to be controlled and short term in nature with so many stocks and industries performing well.
Let’s walk through the above chart of the S&P 500. The market had a double bottom in May and June and tried to rally. That rally failed, hitting the yearly low of 1010 and again had a failed rally. That last pullback to 1039 was the right shoulder of an inverted head and shoulders pattern (arrows indict the points on the pattern). The straight lines mark the waves higher in this rally. The direction in charge (higher in this case) moves in 5 waves. The waves are as follows, W1 1010 to 1129, W2 1129 to 1039, W3 1039 to 1227, W4 1227 to 1173, we are now in W5. Textbook technical estimates for the length of Wave 5 are 100% of Wave 1 (1129-1010=119) or 61.8% (.618*(1227-1039) =116) of wave three. Take those numbers off the last low of 1173 and you get an upside target for the S&P 500 of 1289 to 1292. That is what the technical textbook says. Central bank actions, here and abroad, shifting interest rates, upcoming Q4 earnings announcements and several other unforeseen factors will move the market on a daily/weekly basis. The bulls remain in charge here. The technical landscape gives us clues as to when the market is poised to move even higher or pause and consolidate gains.
