Rally tires, but don't throw in the towel yet

In last week's post we determined the rally was moderating. This week we got confirmation that this is true.

An overview of the short-term technical picture is presented in the following chart of market statistics collected by our Alert HQ process. Each weekend we scan over 7200 stocks and ETFs looking for BUY and SELL signals. We also collect various technical information that we roll up into a chart like the one below:

As can be seen, we plot six different indicators. After the past week's market action we now have three moving in a direction that indicates continued strength in the market. The other three are registering the opposite.

Moving average analysis --

This week we saw a clear decrease in the number of stocks trading above their 20-day and 50-day moving averages. This is a definite sign of weakness. Nevertheless, the total count of those stocks trading above these levels is still around 4000 and that is well over half of all stocks. So generally speaking, there is still a reasonable amount of broad-based strength that remains.

At first glance it appears odd that the number of stocks whose 20-day moving average is above their 50-day moving average has increased again this week given what we just described in the preceding paragraph. We need to keep in mind that the moving averages lag the actual price action, hence the seeming incongruity. In the previous paragraph we discussed how the actual price had closed above or below a particular moving average. Here we are talking about how two moving averages are behaving in relation to each other.

In any case, the fact that this indicator has continued to increase should be taken as a positive for now. Unless we get a good bounce in this week's trading action, though, we will probably see the number of stocks whose 20-day moving average is above their 50-day moving average begin to decline. That would definitely be of some concern.

Looking at buying and selling pressure --

We see on the chart above that our remaining indicators are painting a mixed picture again this week. The Aroon analysis shows stocks in strong up-trends or down-trends. The chart shows the number of stocks found to be in strong up-trends has decreased slightly. However, we also see that the number of stocks determined to be in a strong down-trend has decreased.

We also plot the results of Chaikin Money Flow analysis. The number of stocks undergoing strong accumulation or buying has increased from about 850 last week to about 1000 this week. Not shown on the chart is the number of stocks shown to be undergoing strong distribution or selling. This indicator has decreased after a jump last week, with the number of stocks in this category going from 580 back down to 480.

Looking at the S&P 500 --

In the chart below we see that the SPDR S&P 500 ETF (SPY) has failed to break out completely but is still in the game.


After breaking above resistance at 140 or so, the ETF has fallen back to under $139. The ETF got close to the 200-day moving average but didn't manage to touch it let alone break above it. Volume has been decreasing slightly even as the ETF has moved up strongly from its March low. All these are cautionary indications.

On the other hand, there are two trend lines in play and the ETF has managed to stay just above both of them. Note in the chart above how the downward sloping trend line meets the upward sloping trend line just about at the point where SPY is currently sitting.

Conclusion --

The moving average analysis seems to show a market that for the short term has peaked and is retracing it earlier advance. The Aroon and DMI analysis indicates that the weakness may not be accelerating. The S&P 500 seems to be hanging in there, just barely. All in all, things are somewhat precarious but not outright bearish. We could be in a simple consolidation phase or beginning of a new trading range.

This upcoming week, however, has a very full economic calendar. Now that we have laid out the technical situation, we should be prepared for the reports that are coming that could cause the market to jump or to plunge. Some of the big ones to watch out for: retail sales, CPI, initial claims, the NY Empire State Index, the Philadelphia Fed manufacturing survey, building permits and housing starts. In other words, we will get a read on consumer spending, inflation, manufacturing and housing - all the important indicators of economic health.

It is likely that at least some of this week's economic reports will disappoint. So be prepared for more volatility. Until proven otherwise, though, I am sticking with my thesis that we will not be seeing a precipitous fall to the neighborhood of the January and March lows. Don't throw in the towel on this market, yet.

Moving averages and DMI for stocks in the S&P 500 - what can we learn?

Here are some interesting tables of data I just derived from running the Alert HQ process. We scan about 7200 stocks and ETFs each weekend looking at various technical analysis characteristics. The following tables show some numbers for the stocks in the S&P 500.

Moving Average Analysis --

Here we present the number of stocks in the index whose 20-day moving average is above their 50-day moving average. The data is presented by industry sector.

20-day MA above 50-day MA	Industry Sector
55	Consumer Discretionary
25	Consumer Staples
33	Energy
57	Financials
25	Health Care
44	Industrials
49	Information Technology
17	Materials
6	Telecommunications Services
23	Utilities

When the 20-day moving average of a stock is above its 50-day moving average, it is generally considered to be a bullish sign of strength in the chart.

From the table we see that after the recent down week in the markets there are still 334 stocks out of 500 with a 20-day MA above a 50-day MA. That is roughly equal to two thirds of the stocks in the index.

The good news is that it indicates the stocks comprising the index are in a strong position.

The bad news is that this seems to indicate a continued overbought situation.

The unexpected news is related to the industry sectors.

The numbers are highest for Financials and Consumer Discretionary. These are the two sectors that most analysts, pointing to the ongoing credit crunch, housing problems, a weary consumer, etc., consider to be the weakest from a fundamental viewpoint. It proves, however, that the stocks that were most beaten down a couple of months ago have made quite a comeback. Well over half of the stocks in each of these sectors are doing well. Can they hold onto their gains?

Many analysts have also been surprised that the Health Care sector has not performed better given that it is often a refuge when markets are in trouble. We see here that Health Care isn't doing all that badly with approximately half the stocks in the sector reflected in the number above.

Large cap tech was expected to do well and we see that the Information Technology sector is indeed delivering sizzling strength with 49 of 71 stocks still bullish.

There are no surprises in the Energy sector. With oil prices going through the roof, it would be natural to expect this sector to be leading the market and we see 33 of 36 stocks with their 20-day MA above the 50-day MA.

DMI Analysis --

The chart below presents the result of applying Wilder's DMI analysis to the stocks in the S&P 500. This chart paints a distinctly different picture.

DMI - UP Trend	Industry Sector
22	Consumer Discretionary
10	Consumer Staples
16	Energy
19	Financials
9	Health Care
23	Industrials
31	Information Technology
8	Materials
6	Telecommunications Services
12	Utilities

DMI, or Directional Movement Indicator analysis, attempts to determine the direction of a trend and how strong that trend may be. The TradeRadar software interprets a decent value of ADX, over 20, to be sufficient to make it on this list.

We have a total of 156 stocks registering an UP trend. This is less than one third of the stocks in the index.

Looking at DMI, suddenly the Financials don't look nearly so strong. Same with Consumer Discrectionary.

Energy stocks are still doing well but it is clear there has been a weakening in trend.

Conclusion --

What are these market statistics telling us? Don't be surprised if we see a rotation out of over-bought and weakening Financials and Consumer Discretionary and into other sectors. The recent market rally has crested and general weakness in stocks was detected again this week. This was especially evident in Financial stocks.

The combination of DMI and moving average analysis indicates that many stocks have reached a peak and their short-term trend is no longer up. The 20-day MA may still be above the 50-day MA but the direction of the 20-day MA is now probably down. The question is whether the support of the 50-day MA will hold for many of these stocks whose DMI already says the trend has become neutral or down.

If we are actually in a new trading range as I discussed in a post last week, it might make sense to see some of the former leaders decline, making room for a new set of market leaders on the next upswing. It would also be expected to see DMI registering less stocks in a clear UP trend.

And if the major indexes indeed test their lows again, we might see numbers for Utilities and Consumer Staples rise even further.

NOTE: this post is a correction and expansion of yesterday's post which had some incorrect numbers.

Alert HQ for the week ending May 9, 2008

This post is to announce that the latest list of stock alerts is up and available at Alert HQ. Each week we scan over 7200 stocks and ETFs looking for fresh BUY and SELL signals. This week's results are now available.

This week the major averages were down roughly 2%. Oil, AIG and the perennial party pooper Citigroup were the major drivers. As we wrote last week, the current rally was weakening and a potential new trading range might be developing. Against this backdrop it was hard to find too many stocks going up. As a result, our Alert HQ list of signals has shrunk this week to only 9 BUY signals. In addition, we have 4 SELL signals.

Looking back --

Here are a few examples of BUY signals from last week's TradeRadar Alert List and the gains they generated in just five days (and during a down market, too):

• A company providing business process outsourcing to the financial industry gained 19%
• A semiconductor designer and intellectual property provider gained 8%
• A marketer of a range of information technology products and services gained 7%
• A home-based health care provider gained 6%
  

These BUY signals were on last month's TradeRadar Alert List. Here are the gains they generated in just four weeks:

• A pharmacy benefit manager has gained 22%
• A semiconductor manufacturer has gained 21%
• A diversified industrial and engineering company has gained 15%
• A provider of worker's compensation and liability insurance has gained 13%

Looking ahead --

As usual, later this weekend I will be writing another post to describe my analysis of the market statistics the Alert HQ software has generated. At first glance, it appears that market internals are weakening, as can be expected when the markets experience a down week. How bad is the damage? Stay tuned for the full analysis.

How vulnerable is the economy to individual industry sectors?

I recently wrote a post where I offered that the economy was seeing bear markets in certain specific industries. I mentioned the airline industry, homebuilding and financials and that it seemed that the other sectors of the economy were in OK shape.

In thinking about this I began to wonder how much impact the industries in bear markets would have on the economy as a whole. As a way to begin to gain some insight on this, I looked at the details of the government's Gross Domestic Product report. The GDP report provides a number of data tables that break down the headline number into various components.

Unfortunately, the numbers provided are not quite specific enough to zero in on airlines, for example or even financials. Still, it has been a useful exercise.

The approach I took was to look at two aspects of the issue. First, what percent of GDP a particular industry represented. Secondly, how had that percentage changed from a year ago.

In the first quarters of 2007 and 2008, we had the following results for industries that are in trouble:

Sector	% of GDP, 1Q-2007	% of GDP, 1Q-2008
Motor vehicles and parts	3.3%	3.0%
Furniture and household equipment	3.1%	2.9%
Residential Investment	5.1%	3.8%
Transportation	2.6%	2.6%

In the following table, we show some sectors that are thought to be causing consumers pain:

Sector	% of GDP, 1Q-2007	% of GDP, 1Q-2008
Food	9.7%	9.7%
Gasoline, fuel oil, and other energy goods	2.4%	3.0%

It's true that I'm no economist, but what I think can be derived from these tables is that the U.S. economy is so huge and complicated that problems that are isolated to a few sectors may not actually tip the economy as a whole into a severe recession. As can be seen in the tables above, no one sector comprises more than a few percent of GDP.

The auto industry is clearly in trouble and as a percentage of GDP we see it has fallen about 9% (from 3.3% to 3.0%) over the last 12 months. Nevertheless, as only about 3% of GDP, this sector cannot alone be considered the driver of a recession.

We see a similar situation with Residential Investment. It has dropped 25% but it was only 5.1% of GDP to start with.

There are areas where inflation may be causing price increases that may force certain sectors to become larger as a percentage of GDP. Food, for example, is a large component at 9.7% but it is holding steady. Gas and fuel are obviously climbing, registering a 25% increase, but as a percent of GDP are still in low single digits.

The conclusion I draw from this is two-fold. First, if we see enough industry sectors decline, we will indeed see a meaningful drop in GDP that would lead to recession. Secondly, if some sectors decline but most stay steady, as we are seeing in the most recent GDP report, there is a good chance we will avoid recession or perhaps only experience a mild recession.

Source:
Bureau of Economic Analysis, National Economic Accounts
(http://www.bea.gov/national/index.htm#gdp)