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Sunday, January 17, 2010

After a mixed week, caution may be the best short-term strategy

Earnings season kicked off this week and investors were in a sour mood.

Alcoa (AA) started things off with a miss and that set an ugly tone. JPMorgan Chase (JPM) beat earnings expectations but came in light on revenues, increased loan loss reserves and posted declining results in some business areas that had previously been on fire. Investors took the opportunity to bail on the stock and this put pressure on the rest of the financial sector. If JPMorgan Chase is considered the best run bank in the U.S., what does that say about the others, like Citi?

Intel (INTC) reported on Thursday after the close and they couldn't have done better, beating expectations on the top line and the bottom line and providing positive forward guidance. Investors, however, would have none of it and the stock sold off hard as did the rest of the semiconductor sector.

After Friday's doom and gloom, the TradeRadar weekend Alert HQ signals took a decidedly bearish tone. Looking at the indicators we track across the whole market, however, there may be a different conclusion.

The view from Alert HQ --

Charts of some of the statistics we track at Alert HQ are presented below.

For this first chart we count the number of stocks above various moving averages and count the number of moving average crossovers, as well. We scan roughly 7000 stocks and ETFs each weekend and plot the results against a chart of the SPDR S&P 500 ETF (SPY). Despite the awful market action on Friday, you can see from this chart that very little damage was done to the overall market. Yes, the number of stocks above their 50-day moving average declined a little but the number of stocks whose 20-day moving average is above their 50-day moving average actually increased! And SPY has barely wobbled in its strong up-trend.

The next chart provides our trending analysis. It looks at the number of stocks in strong up-trends or down-trends based on Aroon analysis.

This chart shows a similar situation: very little effect from last Friday's sell-off. Using Aroon analysis to count the number of stocks in strong up-trends and down-trends, we get another indication of the strength of the overall market. This week's results show the market to be in pretty healthy shape though it might soon be approaching an over-bought state.

Conclusion --

Though earnings season brought some unease to market participants, stocks as a whole held up pretty well. It appears that there is less patience for the "less bad" kind of earnings report, witness the 11% plunge in Alcoa's stock price, and a fair amount of "sell the news" attitude as we saw with Intel.

Where stocks go next will be function mostly of earnings reports but we do have some important economic reports that could move the market this week. We'll see building permits and housing starts, the Producer Price Index, the weekly initial and continuing jobless claims, the Conference Board's index of leading indicators and the Philadelphia Fed's manufacturing index.

As for those pesky earnings, a bevy of bellwether companies will be reporting this week including Citigroup, ADTRAN and Cree (both companies I have written about), IBM, Wipro, Bank of America, Morgan Stanley, Wells Fargo, eBay, Goldman Sachs, Taiwan Semiconductor, AMD, Google, GE and many more. In other words, we should get a good read on the financial and tech sectors this week.

This week could be make or break for this market. Underlying strength is so far intact but worrisome signs have cropped up at Alert HQ. This is a divergence that suggests "caution" may be the best short-term strategy. A bad week for earnings reports could deal a serious blow to stocks but a good week could see us notching new highs again. It's always surprising and dangerous investing during earnings season, so be careful and be sure to double-check your stops.

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