The Future Starts To Look Grim

I am talking about the future of the economy.

I am starting to see signs of a new recession and a new bear market. For now, this is just speculation with no technical confirmation from the markets, but there are a few clues that hint in this direction.

First, here is the chart of the leading indicators for the OECD countries and for the emerging economies. The chart is taken from the ECB latest monthly report.

The red line and circles are mine. Notice that the series is starting to turn. The same turns coming from such levels in the past have been leading economic recessions.

Then, a leading indicator of economic and stock market performance has just broken its bull market range: Gallup Economic Confidence Index. This break is confirmed by the advance data for July for the UM Consumer Sentiment (chart not included).

Looking back into history, I learned to trust confidence indicators. The above is a strong signal of future trouble. I found that such a signal is to be taken seriously when the move is confirmed by the Index of Major Purchases in Europe - a consumer confidence measure that is calculated by myself using data from the monthly consumer survey in Europe.

The recent weakness of this index is as big or bigger than at past major tops.

The above does not necessarily have implications for the intermediate term for now, but it might have after a few months. I think the market will start to anticipate the expected H2 2011 economic acceleration, probably after weakness into the August NFP number next week. Still, if economic data does not come in strong enough this autumn, the bull market will probably end.

I am labeling this post "the next bear market" because I intend to gather more data on this as it becomes available.

Out at 1328

We got a too big pullback and no big bounce after the 10 am data. Intraday cpc is also too bullish.

Long at 1332.5

I am looking for a strong rally today

Ready for Break-Out

Above, in the weekly chart, the SPX is up against strong resistance. By the looks of it, it is ready to break out above. With the debt ceiling raise deadline approaching very fast, I think the market will rally in advance, starting today.

A bearish case can be still made. Indeed, the latest two strong up days did not generate more than 90% of the volume to the upside. Also, the 13 day ema of TRIN has dropped unusually fast on July the 11th. A strong day down from these levels would switch me to the bear camp, but I do not think this can happen until there is a clear resolution on the debt ceiling.

Out at 1328.25

I was stopped out immediately after the Sunday open.

My outlook had switched to bullish but the current market action, if it results in a big trend day down, will make me look again for a move to the 1270 zone.

Long at 1335.25

The market corrected about 11 points (double the previous corrections in this up move) and it seems to hold the 1334.5 support.

I am now looking for new highs on the daily chart. My range bound scenario is wrong.

Out at 1323.5 ES

The market is acting weak near the close. This is normal behavior after a strong day like yesterday but I do not want to risk it, especially since my initial target of 1330 SPX was reached

Holding Longs

The market is already at my expected target but the EU summit is tomorrow. Also, with signs of agreement over the debt ceiling coming from the US, I do not think traders are going to risk it on the short side today. We might even get a nice surprise from the housing data at 10 am. Thus, I will keep my longs unless there is significant weakness today. The next target to the upside is SPX 1340.

Long at 1311.25 ES

Smaller than usual position size because the market is already up a lot.

Short Term Roadmap

My very short term outlook (several days) has changed. I now expect a multiday direct rise until the EU summit on Thursday. Then, I expect a further drop just below the 200 DMA.

The main reason for this move up is the way the market tries to anticipate the outcome of the EU summit. This scenario is confirmed by yesterday's strength after the lunch.

I expect this rally to stop around the SPX 1330 daily resistance and be followed by a further drop to the 200 DMA because I think the market will fall into the Q2 GDP report on the 29th and also, because I noticed that this is a good general roadmap for bigger corrections. Here is the January 2010 correction:

A match between what is expected to happen now and what generally happens suggests the scenario has some good odds of success.

Out at 1299.5

I do not like the persistent strength after the lunch and I did not have the best entry.

Short at 1303.5 ES

Looking for a big trend day down.

Weekly Wrap Up, July 11 - July 15 2011

Economy: Retail Sales report suggesting future consumer strength

The pace of change of real retail sales has started to slightly accelerate from between the green horizontal lines, a turn that usually suggests the series will rise in the near future.

S&P500: The market looks prone to play the range-bound theme

As the weekly SPX chart above shows, the initial powerful thrust upwards (green ellipse) has not had follow through (red ellipse). Since breadth has been weak lately and since it stayed weak, as the TRIN 13 day ema suggests, the market will most probably retrace towards the bottom of the range shown above.

Looking Forward

Next week will be marked by an ongoing earnings season, ongoing negotiations over the debt ceiling, by housing data and by a big EU summit on Greece. I think the market will anticipate/react to most of these events by falling. Only the EU summit may induce some upside for the market as it will probably try to anticipate a positive outcome.

Trading

I will be looking for short-term short entries on Monday or Tuesday. Although there were some good pull backs last week, I deferred shorting as I expected the incoming economic data and Ben Bernanke's testimony to represent reasons for a multiday pull-back.

As the market fell this last week, it seems that smaller pull-backs were 10 points long and a larger pull-back was 20 points long. At Friday's close, the market had already retraced 10 points from the intraday low on Thursday.

Range-Bound

The market action after the bad employment report on Friday is not something that fits in my new bull leg scenario. Also, one indicator I watch for breadth, the 13 day EMA of TRIN, dropped unusually fast on Monday's sell off (the scale is inverted), a behavior uncommon to bull legs.

Adding yesterday's very weak close made me change my short term outlook. I am expecting a drop in the next weeks to the SPX 1260-80 zone, before any significant upside. This way the market may continue to play the range-bound theme and look similar to the range in 1991, after the big 30% + rally that started in 1990.

This market weakness fits the anticipation of a weak Q2 GDP report at the end of the month, as well as probably a not too good earnings season.

Stopped Out at 1331

I had left a stop loss overnight.

I will look to reenter starting tomorrow. I hope this pull-back does not get too big to allow everyone to try the long side.

Weekly Wrap Up, July 5 - July 8 2011

Economy: Bad employment number

Despite the bad NFP number for June, the average pace of change in private payrolls is showing just some normal volatility as it did in previous expansion cycles.

S&P500: The market is ready to power higher

Previous up legs closed higher almost every week after the inital rally off the lows.

Shorter term, the 1341 SPX support on the daily chart was not broken while the market registered a normal 20 points correction:

One Week, One Stock: Intercontinental Exchange (ICE) - looking good

Yearly sales growth is expected to register a mild slowdown in FY 2012, which does not look ominous and should not bring earnings surprises.

Using the historical P/E range and an estimate for the EPS at the end of FY12, I got an average price target of 166.

I discounted the Zacks.com EPS estimate by 10% in order to be conservative. At 128, Friday's close, the stock looks undervalued. Also favoring the upside is the recent trend of estimated EPS revisions:

source: Zacks.com

Looking Forward

Next week we get a Ben Bernanke testimony, a retail sales report and a CPI report among other data. I think the market will anticipate these events by moving up.

In light of the recent employment report, I think the market will rise into BB's speech. Also, there are strong expectations from the retail sales report and I expect the CPI to come in showing a further slowdown in its average pace of change.

Ideas

(continued from last week's wrap up, ideas section)

The intraday movements of the put/call ratio would have suggested long entries starting at 2:00 PM, eastern time. Not bad!

Trading

I am long from 1330.5 ES (entry posted here).

I will be looking for opportunities to further add to this position as the market confirms Friday's after-the-lunch strength.

Update

The sell off following the NFP number is an opportunity to buy. Around 1330 ES the correction from yesterday's high is about 20 points big, double the previous one. The real bearish development would be a move to 1325 ES, which would make me close my long position.

Long at 1330.5

The market has started to move up after a 10 point correction.

I do not like the fact that tomorrow the ECB will probably raise the interest rate but this is cancelled out by a depressed put/call ratio and the prospect of a strong NFP number on Friday.

Weekly Wrap Up, June 27 - July 1st 2011

Economy: ISM New Orders vs Inventories ratio suggests future economic strength.

The ratio above is at levels from where it usually starts to go up, meaning that in the near future businesses will be faced with increased new orders compared to their inventories. This means rising capital expenditures, employment and inventories, in other words, increased economic growth.

S&P500: Strong week pointing higher.

Last week market action was very strong. As seen in the chart above, previous such strong weekly candles coming after greater than 7% corrections led to more upside.

Generally, strong bull legs are followed by weaker ones (purple arrows). In 2010 the market went up 17% after the 32% rise in 2009. Now, after the 30% rise from September 2010, a 15% rise would put the market at 1446.

Breadth was strong: in just one week there were 2 consecutive days with greater than 80% up volume and one day with greater than 90% up volume.

One Week, One Stock: First Solar, Inc. (FSLR) - looking bad

Sales growth is expected to slowdown a lot in FY 2012 ...

... while operating margins are dropping fast on a yearly and quarterly basis ...

... and EPS estimates are revised down

However, the market already knows it and the stock is down ...

... so it may get close to a buy point as soon as the problems with operating margins go away.

Looking Forward

Two major events next week:

> European Central Bank meeting: a rate hike is in the cards. Corrections of about 1% or to the 1.44 zone, before the announcement, are buying opportunities for EURUSD.

> US Employment Report: My current view is that the market will anticipate a strong number since other indicators for June were strong. I will buy SPX on pull-backs before the announcement.

Ideas

Time the intraday market swings by fading spikes in the put/call ratio (detailed post here)

No Spike, No Short

The market went up after lunch but the ratio din not spike at all. This kept me from going short again. The intraday behavior of the ratio kept me out of trouble today, when the market just went through the roof.

If my analysis of the ratio is correct, too many shorts (myself included) entered after the big move up on the ISM number, thinking the market cannot go much higher. Since the ratio did not spike as the market kept rising, I am assuming many shorts are keeping their positions, which may induce a further rally early on Tuesday.

Using the CPC for Intraday Timing

Here is an example of how I used the intraday readings of the total put/call ratio to time my entry and exit today.

In the chart below, SPX is represented by 30 minute candles and the CPC (put/call ratio) by the blue line. The cpc values are provided at the end of each half an hour by the CBOE.

My longer term analysis suggested the market could correct today, so the question was where to short. Generally, I believe fading extremes in sentiment offers the best entries, so I thought that extremes in intraday sentiment would be quantified by bigger spikes in the cpc values. I was looking for spikes bigger than 0.1 in the ratio to qualify as extremes.

The first extreme, in bullish sentiment, came at the end of the first hour of trading (second 30 minutes bar). The ratio had spiked from 0.95 to 0.81, so a short entry was granted (in fact I had entered short earlier as the market shot up higher - posted on the blog -, but I was close enough to the ideal case). This short entry is marked by the red circle.

However, after 30 minutes, at 11:00 am, I noticed the ratio had spiked down (on the inverted chart), first green arrow. This qualified as a bearish extreme in sentiment and it was surprising to me because the market had barely dropped. So, I chose to close half of myshort (not posted on the blog), marked by the green circle.

When, at 12:00, despite the rising market the put/call ratio continued lower (on the inverted chart), second green arrow, I decided it was time to close the rest of my position (posted on the blog), second green circle, expecting the market to move higher on the back of the rising bearish sentiment.

At the moment, I am waiting for the next "bullish spike" on which I would try a second short entry for a steep drop into the close.

Out at 1327.5

The market will probably move down after lunch time but, for now, it looks ready to head higher.

Short at 1323.75

Small size and looking for a fast drop; 10 points, maybe.

The No Pullback Rally

The market has risen for four days in a row, each time closing strong, at its highs. I looked back into this and previous bull market and found some similar cases. My requirements were a strong move up after a bigger correction, multiday rally with very small intraday corrections.

I found that corrections, when they come, are not larger than 10-15 SPX points. Also, the market keeps going up relentlessly, many times to new highs. As the rally gets longer, there are some corrections of 20-25 SPX points, but nothing more.

Here are the instances I looked at:

> March - April 2011, September 2010, December 2010, July 2009, September 2009, May 2005, Oct-Nov 2004 <

Here is Oct-Nov 2004:

To sum up, a 10 points correction would be a benediction at these levels. I think we will get it today. If it comes early, I will try to buy it, if it comes after lunch time, I will wait until Tuesday.