Markets Continue to Struggle for Direction

Friday, September 28th

Worries send market lower again on Friday. Welcome to the volatility. You and I have gotten spoiled over the last ten weeks or so with the markets drifting higher and the sentiment in relatively positive mode. That is changing as fear and uncertainty relative to Europe creeps back into the sentiment. Valid or not we are returning to the mid-June to mid-August time frame. That was a news driven period of what felt like daily directional changes. If this happens again we have to shift our strategy to adjust for the trading environment. We will look at this more going into next weeks trading.

Economic data is the primary drag from my view. Yes, Europe is a worry, but we should look at our own situation before we start worrying about others. Durable goods fell 13.1%, Chicago PMI fell to a level of contraction in manufacturing, consumer spending rose due to higher oil prices and income was essentially flat. Across the board the data is weak and with the end of the month and quarter we will get a fresh batch of data in the coming weeks along with lower earnings expectations. All of this will keep us on our toes going forward.

We did hit stops on the week and adjusted other stops to account for the renewed volatility. Not willing to throw in the towel and create short positions just yet, but there will be some trading opportunities we will address using the EGG Model. This weekend we will post the EGG with that trading in mind.

We have made adjustment to the S&P 500 index Model to account for the new volatility as well. We are looking to own larger positions in the sectors offering the best short term trading opportunities. The two primary components used will be SPY (total index) and SH (short the total index).

Hope springs eternal, but investors are starting to show signs of fatigue relative to the negative data points and the pressure on the uptrend is at work. Manage your stops, adjust your time horizon, and understand your risk tolerance during volatile periods.

Below we address the sectors looking forward:

1)  US Equities:

S&P 500 Sectors-to-Watch РThe index has picked up directional volatility. The last three days of trading have been up and down. We did hold above the 1430 support levels, but nothing is safe at this point. The sentiment is shifting to the negative side based on the worries building.  The index closed down 23 points or 1.5% loss for the week.  The chart below of the 10 sectors shows the last pivot point on August 30th and the current mess as it has played out this week. Telecom is still leading overall with the others trading near the index itself. Utilities continue to be the laggard.

The worry factor we discussed above is in play and showing up very clearly on this chart. The news from Europe to the poor economic outlook is starting to weigh on investors confidence. Basic materials, energy and industrials have shifted the fastest on the downside. If we changed the start point to the high on September 13th (current high) the downside has been lead by financials along the these three sectors. There is no leadership to speak of over the last two weeks and that is concerning looking forward.

Financials – Bounced off support at $15.45 Wednesday, bounced Thursday and held again on some selling Friday. The issues aren’t specific to the sector, but the sector has been leading to the downside. Watch to see how this plays out near term. If we hold support a trade on the upside is what we are watching for on a bounce effect in the broad markets.

WATCH: XLF – $15.75 Entry

Energy –¬† Broke below $73 support and the 30 day moving average, but bounced along with crude oil prices on Wednesday. Does energy have more upside or is the downtrend ready to take hold. The trend off the June low is still in play short term. Watch and trade the upside if it follows through.

WATCH: XLE – $73.98 Entry

Telecom – The leadership of the market tested lower again on the day, but the uptrend is still in effect. Watch for the opportunity to put the play back on with a reversal back to the upside. RIMM attempted to help the upside gain more than 11% on Friday. The parts are moving and they are a equal opportunity.

Healthcare – The sector continues to push gradually higher, but is testing the move higher. IHF and IHI have both provided the leadership as they hit new highs, but are in the process of testing as well. Pharma is still struggling and XPH is at key support near $59. Hold positions and manage the stops.

WATCH – XLV – Entry @ 38.10 & $39 — Stop $39.60

Semiconductors РThe sector bounced Thursday with the rest of the market. We now look for a move back above the resistance at 388 on the SOX index if were are going to long the sector near term. A move lower and we reopen the downside positions.

NASDAQ Index – The index has been under pressure from the large cap technology stocks selling. the bounce was enough to off set any short opportunities for now, but watch the support at 2782 to hold.

WATCH: – QQQ – $69.50 is next resistance.

Transportation Index РThe transports are key indicator for the health of the economy. We are tracking this to see how it compares with first, how the market is doing relative to the sector. Second, to see if the sector is reflecting the economic data. IYT, iShares Transportation ETF is testing the key support level at $86.75 and this is the number to watch short term to confirm a move below support. Thus currently we see the index reflecting the economic data more than the market overall. Negative sign for stocks.

2)  Currency:

Dollar РThe dollar, like stocks, is being pushed up and down based on the daily sentiment towards Europe. The downside pressure on the dollar has met support currently and any hope of the dollar rising is tied to Europe continue to provide a fear factor. We got the bounce off support and now we watch to see if the dollar resumes selling bounces higher. Be patient and see how this plays out.

WATCH: UDN – downside play on the dollar.

3)  Fixed Income:

Treasury Bonds РTLT sold to $118.25 on the Feds stimulus announcement. That support level held and the bounce off the low is gaining momentum relative to the uncertainty in Europe. Our trade on the move off support is working short term and our stop have been raised to reflect the move higher in bonds. We took a small position in TLT on the move above $122.45.

WATCH: TLT – Entry $122.50 / Stop – $123.50

4)  Commodities: Gold snapped back on Thursday and held for the most part heading into the weekend. The break lower was temporary, and we have to watch and see how it play out from here. Gold miners bounced back from the selling as well. Silver held support on the bounce back.

WATCH: SLV – $33.80 Entry.

DBA РBroke below the $29.50 support level as agriculture sells overall. Small bounce on Friday to show there are some buyers still in the sector. Watch the downside risk short term. If the bounce develops it may be added to our watch list.

DBB – Base metals were selling towards support at $19.44. Watch to see if it holds?

OIL – Bounced on the news in Europe back above $91 on Thursday. Watch support to hold at $90 and the resistance at $100. could offer some trading opportunities as a trade.

5)  Global Markets: The global markets resumed selling on the worries in Spain and Greece. They bounce on Thursday relative to assumptions about Spain. Those assumptions reversed again on Friday pushing the EAFE lower along with support near the $52.80 level. Trouble brewing!

WATCH: EFU – Watch for downside short opportunity.

6)  Real Estate (REITS) РThe sector tested the recent high and support is holding at $64.20 (IYR). Watch your downside risk if you still own this sector. We are looking for upside play if support holds.

WATCH: URE – watch for entry

REM moved higher over the Fed stimulus, but has been selling on risk concerns the last two days. This shows the potential volatility of the ETF and it needs to be managed accordingly.

WATCH: REM – hold $15 support

7)  Global Fixed Income РThe issues with sovereign debt in Europe keeps us out of the asset class currently, but we are seeing some changes in confidence with the ECB stepping into the picture near term. Global bonds have been in rally mode since the June lows. PIMCO Global Advantage Strategy Bond (PAFCX) is hitting new highs and worth watching as a opportunity in the sector. Emerging market bonds (EMB) tested lower and bounced off support to move higher. International Corporate Bonds (PICB) and International High Yield Bonds (IHY) remain in a long term uptrend and moved higher on Friday. Manage your downside risk. Not willing to jump into the asset class at these levels.

Ideas and Beliefs On The Horizon:

Spain as we have discussed was a potential issue for the broad markets. The uncertainty is starting to play out currently and we have to be aware of the downside risk it poses. Nothing has been officially done and everything is nothing more than rumors. The real answer will depend on the deal with the IMF and the ECB. EWP tested support at $28 and bounce. However, on Friday it broke that support and is looking at $26.50. If you like short plays this is setting up based on the direction. Thus, we are getting some answers on how this issue will impact the market globally and domestically in the US. Still all rumor driven, and we will continue to monitor the situation.

China was moving on infrastructure stimulus, but the spat with Japan derailed the progress along with economic worries. Watch FXI as the up and down impact of news creates some short term volatility. This story will unfold into a upside play if the stimulus works or a downside play if the sentiment shifts. The current volatility is tied into the issues above with Spain as well as the uncertainty for the economic picture in China. Still looking for the directional trade as this all unfolds.

Attention will turn towards the Presidential election soon and certain sectors will start to react to whoever is leading. For now that is Obama and as we get closer to November investors will factor in specific policy events they believe will influence the markets. Healthcare is one sector responding on the upside to the news. One to watch is the tax hike on dividends (from Obama). Long term it will be neutralized by the Fed keeping rates at zero, but shorter term it could create some opportunities.

The economic picture remains a mess plain and simple. The stimulus in play has masked what the true impact should be to the equities market. This is a big concern going forward and one that will eventually get priced into the markets. The data continues to decline as seen in the reports. As the quarter ends we face a new round of data points and earnings. If the preliminary analysis is correct earnings for third quarter may be another negative for investors. We have to prepare for the worst and hope for the best. Either way keep your focus and monitor the data relative to the overall goal and objective.

What am I watching now:   Leadership following the FOMC stimulus on Thursday (9/13) is what I am tracking currently to get pulse on the impact and opportunities from the stimulus. Scanning this at the end of this week resulted in the following:

Leaders –¬†Short Semiconductors (SSG), Short Crude Oil (DTO), Short Real Estate (SRS), Short Financials (SKF), Short Oil & Gas (DUG), Natural Gas (UNG), India (EPI). Losers – Financials (XLF), Metals & Mining (XME), Natural Gas Stocks (FCG) and Spain (EWP).

Digging further the following are some opportunities we are adding to the watch list for next weeks trading:

1)  SLV Рtested support last week and is now in position to move higher watch for the break above the previous high.  2) Oil bounced off support at $90 and closed the week near $92. USO is play on move above resistance and XLE above $73.80. 3) Bank of America entry on test of support and move back through resistance to continue the uptrend. 4) YHOO on move through the top of the channel. This is a opportunity on the new CEO leading the company back to life.  5) MSPD gapped higher and is consolidating. Looking for a break above the $3.55 level for entry and trade.

Watch and play according to your risk tolerance. Everyone has different trading styles and you have to find what works for you and your personality. Don’t put yourself in positions you don’t understand or take risk you can’t tolerate. Not every trade results in a profit, but controlling your downside risk determines your long term results. Trade smart.