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Good morning. The bad news is that China's Shanghai and Shenzen market indices fell more than 2% overnight (Shanghai -2.41%, Shenzen -3.47%). The good news is that European and U.S. markets don't seem to care.

Based on the action in both Europe and the U.S. this week, it would appear that the focus is more on oil and the renminbi than the performance of Chinese stock market indices.

So, before this day gets started in earnest, let's take a look at what's going on in the Chinese currency market and oil.

For starters, the trade data out of China was actually better than expected, leading some to argue that the fear of further declines in the yuan may be overblown.

The data out of China shows that exports fell 1.4% year-over-year in December, which followed a 7.1% decline in November. However, the key is the December number was much better than expected as analysts had been looking for a decline of 8%. In addition, imports fell 7.6%, which was also better than the consensus for a drop of 11%.

Here's where the action in the yuan gets interesting. You see, in yuan terms, Chinese exports actually increased 2.3% on a year-over-year basis. Analysts note that the improvement is likely due to the depreciation in the yuan. So, if you are a Chinese exporter, you continue to applaud the devaluation in the currency.

The economic data, when coupled with continued "policy support" (i.e. central bank intervention) led to stability in the yuan overnight. And Yuan stability has obviously been a big theme in China over last few days. The PBoC fixed yuan at 6.5630 vs 6.5628 on Tuesday, marking fourth straight session of stability between the two markets.

Diving further into this currency situation, we find that according to Xinhua, the PBoC has allowed additional overseas central banks to enter the onshore yuan market. The PBoC said seven institutions completed registration with the China Foreign Exchange Trading System, which signaled their official access to the Chinese forex market.

The point is that China is enlisting some of its friends including the Reserve Bank of India, the Bank of Korea, the Monetary Authority of Singapore, the Bank Indonesia, the Bank of Thailand, the Bank for International Settlement, and the International Finance Corporation into the game. The PBoC reports that the total number of central banks and similar institutions playing in this market is now 14. Interesting.

Then there is the issue of strong-arming. Bloomberg reports that China's foreign exchange regulator, SAFE, has verbally instructed some mainland China banks to limit yuan outflows and reduce offshore yuan positions and liquidity.

All of this would appear to bring new meaning to the phrase, "Don't fight the Fed!"

Oil Update

Turning to oil, the big story yesterday afternoon was the price of crude falling below $30 for the first time since December 2003. But as is usually the case in these types of markets, the breach of the big, round number led to some short-covering and oil is moving higher in today's trade.

Since the "correlation" trade appears to remain in the "on" position between stocks and oil, this means higher prices in both Europe and the U.S. futures markets so far today. But be sure to stay tuned as the downtrend in oil is entrenched, to say the least, and traders are likely to fade any serious advances in the near-term.

Remember, important bottoms in this type of market are "a process" and not a singular "event."

What Me Worry?

While much of the globe is more than a little nervous about the happenings in China, Fed officials in the U.S. don't appear to be overly concerned. Richmond Fed President Lacker is the latest Fed official to downplay concerns surrounding China.

Lacker noted that the real economies of the U.S. and China are less linked than one would think. The Atlanta Fed President pointed out that the US market's heightened volatility last summer following China stock market slump and surprise yuan devaluation looked like an overreaction in hindsight and that we are likely seeing more of the same now.

On the U.S. front, Lacker reiterated his preference for four rate hikes this year and also stressed that inflation developments will have an outsized influence on the "near-term policy normalization path."

Today's Pre-Game Indicators

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

Major Foreign Markets:
    Japan: +2.89%
    Hong Kong: +1.13
    Shanghai: -2.41%
    London: +1.09%
    Germany: +1.08%
    France: +1.47%
    Italy: +1.77%
    Spain: +1.40%

Crude Oil Futures: +$0.17 to $31.09

Gold: -$4.10 at $1080.90

Dollar: lower against the yen, higher vs. euro and pound

10-Year Bond Yield: Currently trading at 2.129%

Stock Indices in U.S. (relative to fair value):
    S&P 500: +9.70
    Dow Jones Industrial Average: +64
    NASDAQ Composite: +24.35

Thought For The Day:

If there's only one answer, then this must not be a very interesting topic. - Ron Jeffries

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

David D. Moenning
Founder and Chief Investment Strategist
Heritage Capital Research

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 China's Renminbi
      2. The State of Oil Prices
      2. The State of the Earnings Season
      3. The State of Global Central Bank Policy

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: Negative
(Chart below is S&P 500 daily over past 1 month)

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

Long-Term Trend: Neutral
(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: 1900
  • Key Near-Term Resistance Zone(s): 2000(ish)

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

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: Oversold
          - Intermediate-Term: Oversold
  • Market Sentiment: Our primary sentiment model is Positive

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: Moderately Negative

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.


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.