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Stocks enjoyed their best weekly gain of 2016 last week as the Dow Jones Industrial Average closed up +2.62%, the S&P 500 rose +2.84%, the NASDAQ Composite advanced +3.85%, and the Russell 2000 was up +3.91%. Interestingly though, oil, as measured by the US Oil Fund ETF (USO), rose only 2.64% and closed only marginally above last week's cycle low. In addition, the yield on the US 10-year remained under 1.75% and the VIX is still over 20. Hmmm....

To be sure, a bounce in the stock market was to be expected. Everybody on the planet knows that stocks had become very oversold from a short-term perspective and the sentiment indicators had moved into extreme negative territory. And the bottom line is this combination usually causes traders to "go the other way" - at least for a trade.

On that note, StreetAccount summed things up nicely: "The positive spillover from last Friday's bounce seemed to largely be a function of short covering in combination with oversold conditions, overly defensive positioning and depressed sentiment. Tuesday and Wednesday were reported to be the largest cover days since October 2014, with both fundamental and quant-driven players involved. Momentum shorts were the big outperformers as a number of weak balance sheet, commodity leveraged, cloud software and Internet and social media stocks found some reprieve."

Thus, from a short-term perspective, it appears that it is "game on" in terms of the next 5% move in the markets. From a bigger-picture perspective, we're in a bear market. However, given the state of the decline and the fact that countertrend moves are normal (i.e. markets don't move in a straight line) the bulls were certainly owed an opportunity to make their case.

The chart below makes it clear where the current lines in the sand are. In short, a meaningful break above 1940 would suggest that the bull argument has legs and that a test of 2000 would likely be the next stop. However, a "rally failure" in the coming days would likely lead to another "retest" of the lows in the 1810-1830 zone.

S&P 500 - Daily

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In my humble opinion, it is the latter scenario that could hold the key to the major trend. You see, the big question at hand is if the current worries in the market have been overdone. And another successful test of the lows would represent a clear sign to the fast-money types that the lows of the bear move may be in.

But... (You knew that was coming, right?) If the S&P 500 were to break down below the 1810 area, the mood of the market would likely turn very sour, very fast and talk of "price discovery" in terms of valuations would likely become the theme of the day.

Is This Move Different?

For folks that don't play the macro view game and instead focus on the price action on the charts, the question of the day is if this decline is going to wind up being any different from those seen since the current secular bull market (i.e. a move that lasts more than 5 years) began on March 10, 2009.

Take a look at the next chart, which is a weekly chart of the S&P going back more than a decade.

S&P 500 - Weekly

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Looking at the current decline, it is fairly obvious that stocks are currently trending lower within a defined channel. It should also be noted that stocks have made a series of "lower lows" on the chart. Finally, it is fairly clear that stocks could bounce in a spirited fashion and still remain in this channel. As such, the bears would appear to be in control at this point in time.

Now compare the current action to the last two bearish periods stocks have experienced - the 2010 Greece Crisis and the 2011 Europe/U.S. Debt Downgrade debacle.

In 2010, the S&P did make a lower low on a weekly basis (labeled #2 on the chart) but then traced out a "head and shoulders bottom" soon after. Thus, the 2010 "bad news panic" quickly gave way to strong rally.

Next is the 2011 "mini bear." This time the market dropped very fast - a move that scared folks half to death. However, I note that the S&P never made a "lower low" on the weekly chart. And once another round of QE was announced, stocks marched higher for some time - interrupted only by the occasional flirtation with Greece/Europe.

Lest we forget, it was global central bank intervention that eventually rescued the market in both cases. And to be sure, there is more QE coming from the ECB and BOJ. But with the U.S. Fed currently pursuing a divergent monetary path (which is supported by the recent inflation data) I'm not sure investors should count on the same outcome this time around.

The bottom line here is that from a chart perspective, it is clear that the current move looks very different from the two previous bearish market cycles - well, so far at least.

The Key to the Intermediate-Term Remains Oil

Unless you've been living in a cave for the past year, you know that the current decline in the stock market is being sponsored by the crash in oil prices. To review, the key concern is that the bust in oil will spill over into other parts of the global economy.

So, the bulls argue that if oil prices can stabilize and the global economy doesn't worsen, then the current decline has likely discounted the potential negatives and stocks can move forward from here.

The good news is that oil is starting to display some signs of life from a short-term perspective. On the chart below, one can argue that oil is currently tracing out a double-bottom pattern. Thus, the key will be a break above the $10 level on the chart of the USO.

US Oil Fund (USO) - Daily

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The problem is that while oil has showed some signs of bottoming from a short-term perspective, the same cannot be said when looking at the situation from a longer-term perspective.

US Oil Fund (USO) - Weekly

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The bulls will argue that the current move in oil has surely "priced in" the oversupply situation and that the dance to the downside has been overdone in a major way. However, unless one is an expert on the history of oil prices, we are at the mercy of the market and traders here.

So, the key in the near-term on the oil front will be signs of stabilization.

The Longer-Term Worry Is The Banks

From a big-picture perspective, the deciding factor to the question of whether the current decline gets worse likely lies with the banks. Remember, the U.S. economy is doing just fine at this time. But if the major banks of the world start to come under pressure due to contagion stemming from the oil bust, well, things could definitely get ugly.

Speaking of the banks, take a peek at what is happening in a couple of big European banks right now. Below are monthly charts of Credit Suisse (CS) and Deutsche Bank (DB) going back 20 years.

Credit Suisse (CS) - Monthly

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As you can plainly see, something is clearly wrong with the chart of Credit Suisse as the monthly chart has recently broken below support that went back to 2003.

Deutsche Bank (DB) - Monthly

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And the same thing is happening to Deutsche Bank (DB), which is now at a fresh all-time low.

It should also be noted that these banks are now trading BELOW their respective 2008 lows. And the bottom line is that can't be a good thing.

The next logical question then becomes, how are the U.S. banks holding up?

KBW Bank Index - Weekly

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The good news weekly chart of the KBW Bank Index is in significantly better shape than the two European banks shown above and is WELL above the $20 low seen in early 2009.

The bad news is that the weekly chart of the US banking sector has broken down below important support and appears to be in "price discovery" mode to the downside here.

The Takeaways...

In sum, stocks and oil would appear to be embarking on a counter-trend move at this time. And the bottom line is no one can know how long or how far this move will go.

From my seat, the keys to watch going forward include the following: (a) a meaningful bottom in oil, (b) improvement in the banks on both sides of the Atlantic, (c) improvement in valuation readings, and to a lesser extent, (d) the removal of the uncertainty surrounding the race for the White House.

Publishing Note: I am traveling again this week. Thus, morning reports will be published as my schedule permits.

Turning to This Morning

The stars appear to be aligning for the bull camp this morning. First and foremost, oil is moving higher again . Second, China markets rallied on the back of big changes at the country's market regulatory commission as well as more talk of easing/stimulus. This combination has led to higher prices in Europe, with basic materials and energy shares shining. And then, not surprisingly, futures in the U.S. are following suit. Thus, stocks are poised for a strong open and Wall Street, which should put a key line in the sand in play.

Today's Pre-Game Indicators

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

Major Foreign Markets:
    Japan: +0.90%
    Hong Kong: +0.93%
    Shanghai: +2.34%
    London: +1.31%
    Germany: +1.65%
    France: +1.63%
    Italy: +2.67%
    Spain: +2.04%

Crude Oil Futures: +$1.10 to $30.74

Gold: -$20.70 at $1210.00

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

10-Year Bond Yield: Currently trading at 1.777%

Stock Indices in U.S. (relative to fair value):
    S&P 500: +20.97
    Dow Jones Industrial Average: +174
    NASDAQ Composite: +47.61

Thought For The Day:

Dream as if you'll live forever, live as if you'll die today. -James Dean

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

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

Intermediate-Term Trend (1 - 6 Months): Negative
(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: 1810
  • Key Near-Term Resistance Zone(s): 1940

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