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With the S&P 500 having moved higher for a third consecutive week and now sitting 9.3% above the February 11, 2016 low, it is fairly easy to argue that the worst of the bear market may be over. The bulls will go even farther, suggesting that we've already seen the low of the bear market and that the recovery process has begun.

As such, it would seem to be a very good time to check in on our major indicators in order to see if either team has the edge here. But first let me remind readers that with the exception of our "Leading Indicators Model," none of the indicators/models we are about to review are designed to be predictive in nature.

The approach I take to the markets isn't about predicting what the market is going to do next. History has shown that no one - repeat, NO ONE - has been able to consistently predict what Ms. Market is about to do for any real length of time. Sure, there have been some great "calls" by some gurus over the years, but most have wound up being one-hit wonders.

To review, the goal of the approach I employ is to get it "mostly right, most of the time." The idea is to avoid the big mistake in the markets. Put another way, we want to try and stay on the right side of the really big, really important moves in the markets.

Therefore, the indicators and models we employ are not designed to be "timing" oriented. They will rarely, if ever, sell the top and/or buy the bottom of big moves. No, the idea is to have models that will "confirm" what is actually happening in the market.

To be sure, such an approach isn't flashy and will never land us any major media coverage. However, the goal is to add value to the markets over the long term by reducing exposure to the markets when risk factors are high and to stay mostly invested when the risk factors are low.

So without further ado, let's get to it.

First, let's take a look at the near-term price action via a daily chart of the S&P over the past year.

S&P 500 - Daily

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The first item of note here is that stocks have really gone nowhere for quite some time as the S&P currently stands about where it was in the summer of 2014.

In the category of restating the obvious, it is now clear that the bulls have embarked on a spirited move over the past three weeks. The good news is that the S&P broke above the first key resistance level at 1940 last week and has since put a fair amount of space between it and that important line in the sand. This suggests that there may be "real" buying going on at the present time. I.E. Something more than the usual intraday millisecond trend following blasts that tend to move the market a few percent before reversing.

Next, we should note that the next test for the bulls isn't very far away. Although chart analysis can be more art than science, we see that there is (a) a key Fibonacci retracement level sitting at the 2000 mark, (b) key intermediate-term resistance in the 2020 zone, and (c) an intermediate-term downtrend line currently in the vicinity of 2030ish. Thus, the going may get tougher for the bulls in the next week or so.

What Do The Indicators Say?

Okay, enough of the chart watcher stuff. Let's move on to the indicators, which are driven by math instead of subjectivity.

First up are a group of indicators/models that focus on the price action of the market from both the short- and intermediate-term time frames.

As I've mentioned in previous editions of this exercise, the first thing to do is look at the color of the boxes. And the bottom line is there is an awful lot of green in this set of indicators/models. In fact, the only two indicators that are not positive at this time are the weekly cycle composite (which projects a modest advance this week and then good gains the two following weeks), and the long-term 200-day, 50-day crossover indicator.

In short, these models confirm what we see on the charts - prices have improved in a meaningful way.

The question, of course, is whether or not the current joyride to the upside is anything more than a bounce within an ongoing bear market. For clues on this issue we need to move on and look at the market internals, external factors, and our primary big-picture cycle models.

But first, with price having run very far, very fast, let's look at the "early warning indicators" to gauge if a pullback might be in order in the near-term.

Not surprisingly, these indicators/models suggest that the market is indeed overbought from a short-term perspective and is close to becoming so from an intermediate-term basis as well.

The only positive on the board here is the longer-term sentiment model, which tells us that there was an extreme level of pessimism seen during the depths of the decline. However, with the short- and intermediate-term sentiment indicators neutral and negative respectively, we should conclude that the sentiment winds are no longer at the bulls' back.

This situation is also confirmed by the average historical return from this batch of indicators, which currently stands at just +0.7% per year. Thus, it is easy to suggest that a modest pullback is likely in the near-term.

Next, let's look at the momentum indicators to gauge the "oomph" behind the current move...

Given the veracity of the recent bounce, it is not surprising to see a lot of green here. Perhaps the most notable improvement can be seen in our Industry Health Model - aka my "desert island" indicator.

The only holdout in this group is the long-term volume relationship model, which remains solidly in the red. The key here is to recognize that supply volume dominated demand volume during the decline. And the extreme negative reading tells us that there was significant damage done to the internals. My takeaway is this indicator is a gentle reminder that all is not (yet?) well from the technical health perspective of this market.

But with the historical average annualized rate of return reading for this group of indicators currently nearly double the buy-and-hold return of the stock market, the bottom line is that momentum is pretty decent at this stage.

But...

My main concern at this point regarding both the price and momentum indicators is the fact that the character of the market has clearly changed over the past few years. The bottom line is algorithmic trading now dominates the game on a daily basis. As a result, moves that once took days now occur in hours. Moves that used to take weeks, now take place in a day or two, etc.

Because of the abundance of outsized moves that occur on a daily basis, most shorter-term price and momentum indicators have been "fooled" by the near-term price action on a consistent basis since the beginning of 2014. Thus, my fear is that this time will be no different.

So, given that price and momentum indicators have displayed a propensity to get fooled lately we need to move on to a review the external factors that have historically driven stock prices and my favorite longer-term models.

But since I've already rambled on long enough for one morning, we'll save a review of the bigger picture stuff for tomorrow.

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Turning to This Morning

The big news overnight comes from China where the government announced its official forecast for the rate of economic growth for 2016 to be a range of 6.5% - 7.0%. In addition, Beijing is looking for the rate of inflation to be in the 3% zone for the year. Stocks in Shanghai cheered the news with a modest gain, however the rest of the globe appears to be starting the week in the red. Concerns about "policy divergence" is back this week as another strong jobs report in the U.S. suggests the Fed will continue to raise rates while the ECB is widely expected to present more stimulative measures when it meets this week. Despite oil moving higher again this morning, stock markets in Europe are lower and U.S. futures point to a pullback at the open on Wall Street.

Today's Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

Major Foreign Markets:
    Japan: -0.61%
    Hong Kong: -0.08%
    Shanghai: +0.81%
    London: -0.94%
    Germany: -0.87%
    France: -0.84%
    Italy: -1.91%
    Spain: -0.30%

Crude Oil Futures: +$0.46 to $36.38

Gold: +$2.40 at $1273.10

Dollar: higher against the yen euro and pound

10-Year Bond Yield: Currently trading at 1.909%

Stock Indices in U.S. (relative to fair value):
    S&P 500: -10.60
    Dow Jones Industrial Average: -60
    NASDAQ Composite: -24.20

Thought For The Day:

If you don't like something, change it. If you can't change it, change your attitude. -Dr. Maya Angelou

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Here's wishing you green screens and all the best for a great day,

David D. Moenning
Founder: Heritage Capital Research
Chief Investment Officer: Sowell Management Services

Looking for More on the State of the Markets?

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the Oil Crisis
      2. The State of Global Central Bank Policy
      3. The State of the Stock Market Valuations
      4. The State of Global Growth

The State of the Trend

We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 6 months, and long-term as 6 months or more. Below are our current ratings of the three primary trends:

Short-Term Trend (1 - 3 Weeks): Positive
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend (1 - 6 Months): Neutral
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend (6 - 18 Months): Moderately Negative
(Chart below is S&P 500 daily over past 2 years)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:

  • Key Near-Term Support Zone(s) for S&P 500: 1950(ish)
  • Key Near-Term Resistance Zone(s): 2000-2020

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...

  • Trend and Breadth Confirmation Indicator (Short-Term): Positive
  • Price Thrust Indicator: Positive
  • Volume Thrust Indicator(NASDAQ): Positive
  • Breadth Thrust Indicator (NASDAQ): Positive
  • Short-Term Volume Relationship: Positive
  • Technical Health of 100+ Industry Groups: Moderately Positive

The Early Warning Indicators

Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

  • S&P 500 Overbought/Oversold Conditions:
          - Short-Term: Overbought
          - Intermediate-Term: Neutral
  • Market Sentiment: Our primary sentiment model is Neutral

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.

  • Weekly Market Environment Model Reading: Neutral

Indicator Explanations

Trend and Breadth Confirmation Indicator (Short-Term) Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates an All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Price Thrust Indicator Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line's 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a "thrust" occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Indicator Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Indicator Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Bull/Bear Volume Relationship Explained: This indicator plots both "supply" and "demand" volume lines. When the Demand Volume line is above the Supply Volume line, the indicator is bullish. From 1981, the stock market has gained at an average annual rate of +11.7% per year when in a bullish mode. When the Demand Volume line is below the Supply Volume line, the indicator is bearish. When the indicator has been bearish, the market has lost ground at a rate of -6.1% per year.

Technical Health of 100 Industry Groups Explained: Designed to provide a reading on the technical health of the overall market, this indicator takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as "positive," the S&P has averaged returns in excess of 23% per year. When the model carries a "neutral" reading, the S&P has returned over 11% per year. But when the model is rated "negative," stocks fall by more than -13% a year on average.

Weekly State of the Market Model Reading Explained:Different market environments require different investing strategies. To help us identify the current environment, we look to our longer-term State of the Market Model. This model is designed to tell us when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model tells us whether the odds favor the bulls, bears, or neither team.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided "as is" without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.