Market Wrap, Thursday, 04/30/2009 SPX 888 Gets the Square by Keene H. Little Click here to email Keene

HAVING TROUBLE PRINTING?

I have shown the Gann Square of Nine chart in the past and pointed out how it's constructed and how to use it. I'll go over it again today as a refresher and for new subscribers. I recommend the use of it since it can be a valuable addition to your tool box. I'll start off with a simple version of it to show how it's constructed. I did mine in Excel since it has the ready-made squares to use. Starting with the number 1 in the center you then move to the left for the number 2 and then start spiraling clockwise and incrementing one at a time. You'll see that the first complete revolution (square) ends with the number 9, hence the "square of nine" chart.

Gann Square of Nine chart construction

You then keep spiraling out as you build the chart as large as you want. I built mine out to accommodate SPX 1576, the 2007 high. I then put "radials" every 15 degrees on my chart so that I can more easily identify prices that are 90, 180 and 270 degrees from any price. The usefulness of the chart is in identifying prices that are related to another number on the chart. Numbers that are a complete revolution around are considered to be "master squares". It's common to see relationships between numbers that are 90, 180 and 270 degrees from the original number.

I've copied a portion of my chart (I apologize for the small numbers but I wanted to show as much of the chart as possible to give a sense of it) which shows the master square relationship between the October 2002 low of 768 and the October 2007 high of 1576. If you count the "rings" you'll see there are 6 and this makes for a very important relationship because there are 6 sides to a cube (it's a numbers thing). As I've mentioned previously, it was one reason back in October 2007 I was pounding the table to get flat the market and to short it. One square below 768 is 661 and this was a downside target as we were heading for the March low. This was a big reason why I was strongly suggesting taking profits on any short play or to at least drag your stop down close.

Gann Square of Nine chart for SPX

I highlighted 882 which is one square above the 768 low and it's where SPX stalled yesterday and closed below again today. Moving over to 666-667 (the actual March low) we see two squares up is 888-889. Today's high was 888.70. Magic? I'll gladly believe in magic if it works. If pixie dust will make me money I'll use it. Gann believed the market "vibrated" off these kinds of number relationships (and the square of nine chart is also a Fibonacci spiral) and I've seen it work enough times to pay attention to it.

Not shown on the above chart is the number 943 which is in the lower section of the chart. Notice the two highlighted (red) radials around the master squares at 1576 and 768--if you follow those to the downside you'll see that 943 is on the opposite radial, 1-1/2 times around from 768. That equals 540 degrees (360 + 180) which is also a very common relationship, especially for a correction. What's significant about the number 943? It was the January high.

I've been showing on the weekly chart the possibility that the current rally off the March low will lead to another leg down to a new low. I hardly know for sure whether that will happen. I've got an EW (Elliott Wave) count, especially on the techs, which points to that possibility. Let's assume that today's high is going to be it for the March-April rally and we start a deeper pullback from here. What are some possible downside targets using this Gann Sof9 chart? Square to SPX 888 (once around) is 773-774 and that's the pullback possibility I'm showing on the daily chart below. If we're going to make a new low for the year then moving another 180 degrees down from 666-667 gives us 615. I'll be reminding you of that number if it looks like we might get the new low but first we have to see what kind of pullback we'll get, assuming we'll be getting one now.

Moving onto our regular price charts, I've redrawn the parallel down-channel for SPX on its weekly chart based off the trend line between the January 2008 and November 2008 lows. The top of the channel is where SPX has now rallied to and as overbought as this market is I'd say there's a real good chance price is going to pull back from here.

S&P 500, SPX, Weekly chart

On the weekly chart I show a decline from here to a new low but as shown on the daily chart there is the possibility we've already seen the low for the year (although it could get retested) and that we'll only get a pullback that then leads to another rally leg into the summer. As I had mentioned above, in the Square of Nine discussion, we could see a pullback to the 773 area and then get a stronger bounce, either as part of the decline to a new low or one that leads to a new rally leg. But I'm getting way ahead of myself--we haven't even started down yet. It's a potential setup and after today's price action I think it has become a stronger possibility.

S&P 500, SPX, Daily chart

Of course trying to pick a top in this market the past few weeks has been an exercise in frustration. It's been a market that won't die. Lots of choppy price action (usually indicative of an ending pattern), bearish divergences, many overbought indications, trend-line and price level resistance and more. But the market has continued to rally in the face of all of this. By the time the market turns back down most of the bears will have packed up their marbles and gone home, and that of course takes away the short-covering pressure that aids the market rallies. So as my kids always asked me, "are we there yet"? I think, just maybe, yes, we're there.

Today's rally stopped at the broken uptrend line from March 30th through the April 9th low. This is the same trend line that stopped the rallies on April 22nd and 24th. Usually 3 tags of a resistance line is all you're going to see. After that the bulls give up and the bears get braver. Today's close was also the 2nd failure to hold above the late-January high near 877 and we've got a bearish shooting star candlestick at resistance. It needs a red candle tomorrow to confirm the reversal pattern. Assuming we'll start down from here, and as depicted on the chart, we could get just a pullback into May before heading higher again into the summer or we could start a choppy decline to a new low into July. We'll have to play it one leg at a time while we let price tell us what it's up to.

Key Levels for SPX:
- bullish above 890
- bearish below 847 and more bearish below 826

The 120-min chart shows better the failures to rally back above the broken uptrend line from March 30th. It came down to the broken downtrend line from last Friday so it remains bullish if that holds the red dashed line shows the possibility for another rally leg up to around 900. It would be bullish with a rally back above today's high but I would be very careful and not trust it until it can firmly break above 900 and hold above. A break below 847 would be a confirmed break of the uptrend line from March 30th (and from the March 6th low) drawn through the April 21st low. Keep an eye on the uptrend line on RSI since a break of its uptrend line from April 21st would be a heads up that price is going to do the same.

S&P 500, SPX, 120-min chart

I wanted to show the NYSE weekly chart tonight because I'll make reference to it in the next two charts. I've drawn in parallel lines to mark its decline from the October 2007 high and like SPX today's rally stopped at the top of the down-channel. I show the possibility for a new low from here (dark red) with a downside price projection of 3540 in July (where the 5th wave would equal the 1st wave) as well as just a pullback before pressing higher again (pink).

NYSE, NYA, Weekly chart

I had mentioned above that we have a number of overbought indications. I looked at the charts showing the number of stocks above their 50-day and 200-day moving averages and it's an eye opener. First, take a look at the number of stocks trading above their 50-dma's and you can see it's more overbought than it was at the top of its rally in October 2007, at the top of its bounce in May 2008 and at the top of its rally in January 2009. Each of those tops was followed by a strong decline. History doesn't necessarily repeat but would you want to enter a long position here? There is a negative divergence between the higher high in the number of stocks above their 50-dma and the lower price high between April vs. January.

Percent NYSE stocks trading over 50-dma

Now looking at the number of stocks above their 200-dma my first thought was "nice bullish break of the downtrend line from April-June 2007. BTW, notice the big negative divergence in October 2007 with the higher price high but much lower high in the number of stocks above their 200-dma's. This told us we had a much smaller participation of stocks making new highs, always a warning in a rally. Then we had bullish divergence at the March low with a lower price in the NYSE but a higher low in the number of stocks trading below their 200-dma's--a good indication that fewer stocks were selling off with the index.

But we have a different kind of negative divergence at the moment with the number of stocks trading above their 200-dma and the index price. This could be thought of as bullish in that the index could follow the stocks higher. But the fact that NYSE has not been able to even test the same downtrend lines yet is a warning, especially when considering the chart above showing how overbought we are. Only about 30% of the stocks are above their 200-dma's and do not yet have the support of the majority. This sets up a pullback while the rest of the stocks get a chance to at least do some catching up.

Percent NYSE stocks trading over 200-dma

Moving on to the DOW's chart, its rally stopped today at the broken uptrend line from March 30th which coincided with the trend line along the highs since April 2nd, both intersecting the century mark at 8300. That's why I had the key level for the upside at 8300. A break above that level would be bullish whereas a break back down below 7790 would now be the bearish signal that at least a larger multi-week pullback has started.

Dow Industrials, INDU, Daily chart

Key Levels for DOW:
- bullish above 8300
- bearish below 7790 and more bearish below 7400

The techs have been on fire lately but we've seen this story before--when techs and small caps outshine the blue chips it's usually been the signal of the end rather than the beginning. It seems those late to the rally then jump on the high-beta wagon and scoop up the sexy techs and small caps. Meanwhile the unloading of inventory in the large caps has already started. It's something to think about when you see it happening. It was one of the warnings back in October 2007 when the techs kept rallying without the blue chips.

Today's rally in NDX had it spiking above the line of resistance that's been holding it back since early April--the broken uptrend line from November through the January and early-February low. It also rallied strong above its 200-dma (a feat not matched by the Nasdaq which hasn't even tagged its 200-dma yet). But then it gave it all up and closed below its opening price. Bullishly it held 4 points above its 200-dma but bearishly it closed back under the top of a rising wedge pattern more easily seen on its 60 or 120-min chart (the top of the wedge is drawn from its April 9th high). A break above the wedge followed by a drop back inside the wedge leaves a throw-over finish and a sell signal. The shooting star candlestick needs a red candle tomorrow to confirm the bearish reversal pattern. But if the uptrend line from March holds, currently near 1374, the upside Fib projection at 1473 remains a good target.

Nasdaq-100, NDX, Daily chart

Key Levels for NDX:
- bullish above 1395
- bearish below 1303 and more bearish below 1230

The semiconductors got a big rally today, which obviously helped the tech indexes, but the bulls couldn't hold today's gains. So don't pop the champagne quite yet. We may have seen a throw-over finish to its upside pattern with a spinning top doji finish. A red candle tomorrow could leave an evening star reversal pattern. This is a do-or-die position for the bulls tomorrow.

Semiconductor Holder, SMH, daily chart

A little parallel up-channel for price action since the March 30th low crosses a price projection at 511.53 early next week for the RUT so that's the upside potential if the bulls can keep the rally going with beginning-month money. That's where the rally off the March low would have two equal legs up. But two equal legs up from the November low is at 490.29 so that objective has been met. Here again the bulls need to keep this going otherwise there is the risk we saw the end of the rally today. The positive thing that I see is that price is holding above the top of the parallel down-channel for price action since the November low.

Russell-2000, RUT, Daily chart

Key Levels for RUT:
- cautiously bullish above 512
- cautiously bearish below 465

Bonds have been selling off ever since the Fed announced on March 18th that they were going to start monetizing the debt. Well, they didn't exactly say that but it's what they're going to be forced to do. They'll be selling gobs (that's a technical term) of Treasuries to fund our massive debt and soon there won't be enough takers. The first time they have a failed auction (where there won't be enough buyers to sop up the supply being offered) will be the day you see Treasury prices crater. But first the Fed will be there as buyer of last resort.

The reaction on March 18th was a huge spike in Treasury prices--woohoo, the Fed is here to save the day. Mighty Mouse and Uncle Benny will be doing so much buying that it will boost the prices of Treasuries. And then the selling began. The bond prices are below where they were before the Fed made its announcement. Mighty Mouse stepped on his cape. As Greenspan would say, we now have a conundrum.

The Fed desperately wants, nay needs, Treasury prices to stay high so that yields stay low. The resurgence in the housing market is dependent upon this, as well as borrowing in general so that we get consumers borrowing and spending their way to wealth again and businesses borrowing to build more capacity that's not needed. How else are to pull out of this mess? But the bond market is not cooperating and bond prices are dropping as bond holders worry about coming inflation (and therefore requiring a higher yield to compensate for their risk in holding low-yielding bonds).

So it will be interesting to see how this drama plays out, especially as I look at the chart of TLT and see where it stopped today. The uptrend line from June-November 2008 is located very close to the level of the January 2008 high (identified as the lower red horizontal line on the daily chart). It's also at the bottom of a potential bull flag pattern for the drop from the March 18th high. I would expect a bounce from here but how big is the question. A break back above 104 would be bullish whereas a bounce and then break below 97 and the uptrend line from June 2008 would be bearish, especially if that trend line then acts as resistance. This is where the Fed is biting his finger nails in anticipation.

20+ Year Treasury ETF, TLT, Daily chart

The choppy price action in the banking index has me scratching my head at the moment as I can't quite figure out if it's consolidating over the past two weeks in preparation for another rally leg (with an upside target near 115) or if topped out near 106 and is simply holding on before letting go. A break below 94 would signal it's letting go.

Banking index, BIX, Daily chart

Gold is taking its sweet time letting us know who's going to win the battle between the bulls and the bears. Its recent rally up to its downtrend line from February, and just shy of its 50-sma continues to support the bears. A rally back above 920 now would be bullish (and the break of the downtrend line on RSI is a clear warning to gold bears like me that it could happen). It found support again today at its broken downtrend line from March 2008 so there is clearly some bullish potential here. The larger pattern supports the continuation lower but it takes a break below 865 to confirm the bears rule for now.

Gold contract, GC, Daily chart

Gold stocks continue to look more bearish than bullish to me (could be my bear-colored glasses when it comes to gold and stocks). The impulsive (5-wave) decline off the March high followed by a corrective bounce that failed at its broken uptrend line from November is what continues to support my belief that GDX has lower prices ahead. In fact if the wave count is correct we're about to see the 3rd wave down kick into gear and a hard selloff would be typical from here. Back above its recent 34.86 high could mean either a higher bounce before tipping back over or the start of a stronger rally leg. So in that case I would abandon my short play in GDX but not feel terribly bullish about it, yet (I'd want to see what gold and stocks were doing at the time).

Gold miners ETF, GDX, Daily chart

Another potential bull flag can be seen for oil. A break of its downtrend line from December, currently near 29.15, would be bullish and above 30 would be confirmation the bulls are running with the ball. But a turn back down and drop below 26 would likely see an acceleration of the selling.

Oil Fund, USO, Daily chart

Today's economic reports continued the stream of bad news we've received on the economy but the market didn't care. When it has an agenda it pays no attention to news. In reality the market rarely pays any attention to the news since news follows the market and not the other way around (but can often be the catalyst for the market move). Personal income and personal consumption expenditures (PCE, something the Fed watches closely) both dropped in March and for an economy so dependent on consumer spending it's not a good sign. The uptick in retail spending is not likely to hold.

Economic reports, summary and Key Trading Levels

Friday morning we get consumer sentiment, factory orders, the ISM index and auto sales. None should have a dramatic effect on the market.

The March-April rally is long in the tooth. Did you know that saying came from inspecting horses that were for sale? The buyers would check the horse's teeth to see if the gums had receded thereby determining the age of the horse. But I digress. Many of the larger market participants are on the sidelines or reducing their inventory during the latter part of this rally. Smaller buyers are now chasing it higher with the help of short covering on a daily basis as frustrated bears keep covering their positions. It's one reason volume is falling off. It's also a reason we're seeing a very choppy rally--it's usually an indication of an ending pattern and once large institutions have unloaded or hedged their inventory they're more than happy to see a large pullback so that they can load up again.

My sense that we're nearing the end of the rally, if it wasn't reached today, could of course be all wrong. I know many are calling for a strong rally leg out of the April consolidation. Overbought conditions can be worked off in time as well as price, which many are claiming was done during the April consolidation. By many measures I watch I don't see enough of the overbought measures worked off. I don't discount the possibility for a strong rally leg out of here but I also don't believe that's the higher probability at the moment. I won't argue with price which is why a new high from here would have me out of short positions and watching to see how it develops. It's hard for me to trust the upside when I see so many signals telling me to look for the end of the rally instead of the start to another major leg up.

The following are some signs that I watch for in a rally to help determine its robustness or its weakness. Right now we're getting some bearish non-confirmations as this rally presses onward and upward:

1. The VIX is not making a new low below its April 17th low while SPX makes a new high above its April 17th high. There is not the same bullish enthusiasm about this leg of the rally. Today's candle is a bullish hammer at a higher low.
2. We're seeing selling into the close rather than buying--this is a change in character for the market as most of the rally saw buying in the late afternoon.
3. Negative divergences between new price highs in April but lower highs in the momentum oscillators such as MACD and RSI.
4. New 52-week lows have consistently outpaced new highs throughout the two-month rally, a hallmark of a bear market rally.
5. Volume is dropping during the latter part of the rally, an indication that buyers are standing aside and even selling into rallies. Selling volume is starting to overtake buying volume (see the table at the beginning of tonight's newsletter).
6. MSFT has not been able to hold its post-earnings rally and has not confirmed the rally in NDX.
7. The euro, which has tracked our stock market very closely is well off its March 19th high. While the stock market has been chugging sideways/up since then the euro has been dropping in a sideways/down move.
8. The signals from the number of stocks trading above their 50 and 200-dma's, as discussed in the beginning of the newsletter, are bearish.

These signs do not mean the rally is destined to immediate failure. But now that we've reached month end many are going to be nervous about the "sell in May and go away" crowd coming in. It makes sense to move into profit protection mode and even consider some short plays. As we near the late-January and early February highs, which ended up trapping many bulls before the market broke down hard into March, there will be many who follow through with their promise to God to get out even if given the chance. And they promise (again) that they'll never again ignore their stops. It's why previous highs are often resistance levels.

If you're interested in playing the short side I think this is a good place to start nibbling. I say nibble because we don't have any confirmation that the market has topped out. I like to pick turns, as many of you know, but that involves a few attempts and the only way to be successful in doing that is to carefully manage your risks. Trade lightly and stop out quickly when proven wrong. When the trade starts working then you can start adding to your position. Then start peeling off your position when it looks like the market might start finding support and then add back on when support breaks. It's a different technique than momentum trading and I highly recommend paper trading it to get a feel for it. Don't worry about not making money because you're paper trading--this market will always be here. Learn to make money before you start risking money.

Good luck as we head into May. Trade carefully and I'll be back with you next Thursday.

Key Levels for SPX:
- bullish above 890
- bearish below 847 and more bearish below 826

Key Levels for DOW:
- bullish above 8300
- bearish below 7790 and more bearish below 7400

Key Levels for NDX:
- bullish above 1395
- bearish below 1303 and more bearish below 1230

Key Levels for RUT:
- cautiously bullish above 512
- cautiously bearish below 465

Keene H. Little, CMT
Chartered Market Technician

Please note:

Option Investor will be moving its website back to Denver this weekend and although we have planned for this for many weeks there are always problems in execution.

In order to allow time for the move there will be no intraday email Market Monitor updates on Friday. The actual Market Monitor (standalone program) will not be affected and will be running normally since the recent rewrite was done in Denver.

The email newsletters normally published on Saturday may not be delivered until Sunday. If you don't get a newsletter that you should get, or an extra one that you don't normally get, please bear with us. We will work through any problems as quickly as possible. We hope to have everything running smoothly on Monday.

Thank you in advance for your understanding.