IWM CHALLENGES PENNANT TRENDLINE -FINANCE SECTOR SHOWS RELATIVE WEAKNESS -FINANCE SPDR TESTS SUPPORT -- LIBOR MOVES
SHARPLY HIGHER -- US AND UK STOCKS
OUTPERFORMING EUROPEAN STOCKS -- GERMAN
DAX HOLDS KEY SUPPORT LEVEL
By Arthur Hill
IWM CHALLENGES PENNANT TRENDLINE... Link for today’s video. Stocks were
mixed most of Wednesday, but small-caps were showing some relative strength with
modest gains. Chart 1 shows the Russell 2000 ETF (IWM) breaking resistance in late
October and then consolidating the last few weeks. There are reasons to expect resistance
in the 77 area. Broken support and the 61.80% retracement zone potential resistance
here. However, the ETF broke wedge resistance with the October surge and formed a
bullish continuation pattern the last three weeks. A move above pennant resistance (76)
would signal a continuation higher and target a move to the summer highs (84-85).
Should IWM break pennant resistance, it is important that the breakout holds and
the ETF continues higher. Failure to hold the breakout would be quite negative, while
a support break would clearly reverse the October-November uptrend. Chart 2 shows
the S&P 500 ETF (SPY) breaking resistance and this area turning into support in
November. The cup is half full (bullish) as long as SPY holds this breakout. The
November low marks key support.
(click to view a live version of this chart)
Chart 1
(click to view a live version of this chart)
Chart 2
FINANCE SECTOR SHOWS RELATIVE WEAKNESS... The Finance SPDR (XLF)
remains one of the weakest sectors in the market. The market as a whole has been under
pressure the last six trading day (November 8 to 15). All sectors are lower over this
timeframe and the Finance SPDR is down the most. The S&P Sector Perfchart shows the
Finance SPDR leading the way lower with a 4.26% decline. In contrast, the Consumer
Discretionary SPDR (XLY), Technology SPDR (XLK) and Industrials SPDR
(XLI) show modest declines of less than 1%. These three are holding up quite well.
Once again, the finance sector is the Achilles heel for the stock market.
(click to view a live version of this chart)
Chart 3
FINANCE SPDR TESTS SUPPORT... Chart 4 shows the Finance SPDR breaking
above resistance in late October and then falling back in early November. The ETF broke
a steep trendline extending up from the early October low with this decline. The rebound
attempt above 13.50 failed to hold and the ETF is once again testing the early November
lows. Overall, it looks like a descending triangle is taking shape the last 3-4
weeks. While this is traditionally a bearish continuation pattern, it has been known to
mark a top or two. The lower high reflects a weak rally. The equal lows mark support or
the last bastion of buying pressure. A break below support confirms the pattern. The
height of the pattern (±1.25) is subtracted from the support break (±12.75) for a target
(±11.50). A break above resistance from last week’s high is needed to negate this pattern.
The indicator window shows the Price Relative (XLF:SPY ratio). This indicator confirms
what we are seeing on the PerfChart. XLF was showing some relative strength when the
Price Relative broke out in late October, but could not maintain as the Price Relative sank
the last three weeks.
(click to view a live version of this chart)
Chart 4
LIBOR MOVES SHARPLY HIGHER... Remember Libor? The acronym stands for
the London Interbank Offered Rate, which is the interest rate banks charge other banks
for loans. Pre-crisis (2007), one month Libor was hovering in the 5% area. The rate
dropped dramatically with a move to 1% by the end of 2008. The decline continued into
2009 with a drop below .25%. Libor has since been fluctuating below .275% since October
2010. The absolute level is not that important because it is tied the general trend in
interest rates. Big fluctuations, however, are important because they reflect the level of
confidence or trust between banks. Rising Libor reflects a higher premium on
lending to other banks (less confidence). This is clearly negative. Falling Libor
indicates more confidence between banks and this is positive overall. Chart 5 shows Libor
since 2009. The yellow areas show periods when Libor rose rather sharply. The rise in
early 2009 coincided with a sharp decline in stocks. The sharp rise in March-April-May
2010 preceded and then coincided with the April high. Currently, Libor has been rising
since late July. Again, this coincided with a sharp decline in the S&P 500 from late July to
early August. The current concern, from a stock market perspective, is that Libor
continues to rise and banks remain skeptical of each other. A sharp decline in Libor
would indicate growing confidence and this would be bullish for the finance sector and
stocks.
(click to view a live version of this chart)
Chart 5
US AND UK STOCKS OUTPERFORMING EUROPEAN STOCKS... Of all the
players in Europe, Germany is perhaps the most important to the European economy and
the Euro. German government bonds are viewed as the benchmark against which other
European bond yields are compared. The stock market is usually holds up the best on the
way down and outperforms on the way up. In fact, one could suggest that Europe may
just muddle through the debt crisis as long as Germany holds up. The PerfChart below
shows the performance of the S&P 500 and six other European indices over the last three
months (65 trading days). The US and the UK are the only two gainers. Relative
strength in the London FTSE 100 ($FTSE) can probably be attributed to the fact that the
UK chose not to adopt the Euro. Of the major European indices, the German DAX Index
($DAX) and the Netherlands Index ($AEX) are holding up the best with the
smallest losses. The French CAC Index ($CAC) shows the most weakness. The CAC is
even down more than the Spanish Bolsa de Madrid IBEX 35 Index ($IBEX) and the
Italian Milan Index ($MIB). This can be attributed to pervasive weakness in the big
French banks. From this PerfChart, it is clear that German and Dutch stocks are holding
up the best. As chartists, we should focus on these two for signs that troubles are
spreading to the stronger countries of Europe, which would be negative for the US.
(click to view a live version of this chart)
Chart 6
GERMAN DAX HOLDS KEY SUPPORT LEVEL... Chart 7 shows the German
DAX Indexhitting resistance in a key retracement zone and forming a potential Headand-Shoulders over the last two months. Working from left to right on the chart, notice
that the index broke a major support level with the August plunge. The rally back to 6400
retraced 50-61.80% of the prior decline and returned to broken support. Technical
analysis teaches us that broken support turns resistance. It is also common for corrective
advances to retrace 50-61.80% of the prior decline.
(click to view a live version of this chart)
Chart 7
Even though this looks like a good area for a reversal and continuation of the bigger
downtrend, keep in mind that the current trend since early October remains up.
The DAX established support with lows in the 5700 area. In fact, it looks like a small
Head-and-Shoulders is taking shape. A move below 5700 would confirm the pattern and
reverse the October-November uptrend. Such a bearish development would be negative
for the US. Chart 8 shows the Netherlands Index hitting resistance near the 50%
retracement and declining with a falling wedge this month. Watch resistance from the
early November high for a reversal of this falling wedge. Chart 9 shows the FTSE finding
support from broken resistance in the 5400 area.
(click to view a live version of this chart)
Chart 8
(click to view a live version of this chart)