Is The Rally Over Or Just Starting?

This seems to be the debate amongst most traders with the next CPI report on Wednesday. The one-day $10 drop in the price of crude last week encouraged those who think inflation may have peaked. Many are wondering whether June’s data will also suggest a change in the inflationary trend.

Over the past few weeks, investors seem to be less concerned about inflation and more concerned about what many see as an unavoidable recession. Each week the economist’s odds of a recession seem to get higher as noted in a recent NY Times article JP Morgan Chase chief economist Bruce Kasman has “raised their expected probability of a recession in the next 12 months to an “uncomfortably high” 35 percent. “Others like Goldman Sachs have odds closer to 50%.

Of course, the official determination of a recession is based on the GDP and the forecasts for the second quarter GDP have also been lowered in the past few weeks to just barely positive. Given these negative headwinds, the positive action in the stock market was reassuring to some investors.

The Nasdaq 100 Index led the market higher gaining 4.7% but is still down 25.7% year-to-date. It was followed by the iShares Russell 2000 as it was up 2.4% followed by a 1.9% gain in the S&P 500.

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It was still a mixed week as the Dow Jones Industrials were only up 0.8% as its components are likely to be hurt more by the strength in the US dollar. That also hurt gold which was down 3.6% and is now down 5.1% YTD. The Dow Utility Average was also lower, down 3.1% after a sharp gain the previous week.

The weekly chart of the S&P 500 shows that it is still above the four-week low at 3636.87, line a. If this level is broken the next good support is at 3393.52, line b, which is a downside target for some bearish analysts.

A few of these analysts became even more negative last week and as they are looking for another 20% decline or more from current levels. They do not expect the S&P 500 to get much above 4050 before a further decline. A move above the May high at 4177.51, point 1, in my opinion, is needed to change the prevailing bearish sentiment.

The average investor, as polled by the American Association of Individual Investors (AAII), is not positive on the stock market for the next six months as the bullish % was 19.4%. Only this small percentage expect stock prices to be higher in six months while 52.8% are bearish and expect stocks to be lower.

According to Bespoke Investment, the four-week average of bulls-bears has been “below -10 (meaning on average bears have outnumbered bulls by at least 10 percentage points) for 23 straight weeks.” There was a stretch of 26 consecutive weeks which ended in February 1991. The April 14th reading of 15.8% (point 2) was the lowest reading since September of 1992.

The weekly S&P 500 Advance/Decline line is still below its WMA and is negative. The A/D line needs to move above the downtrend, line c, to signal that the market’s correction is over.

The weekly technical outlook for the Invesco QQQ QQQ Trust (QQQ) does look more positive. For the last three weeks QQQ has been unable to move above $296.75 but if it is overcome the declining 20-week EMA is at $314.17. The 38.2% Fibonacci resistance level from the November 2021 high is at $322.54 with the downtrend, line a, at $336.78. The 50% resistance level is at $339.

The weekly bullish divergence (line d) in the Nasdaq 100 A/D line was pointed out two weeks ago (Don’t Count On Another Rally Failure) and it is still intact with last week’s close above the WMA. The A/D line now needs to overcome the resistance at line c, to confirm the divergence which would be a positive for the intermediate-term. The daily relative performance analysis (not shown) indicates that QQQ is starting to lead the SPY PY SPY which increases the odds of a further rally.

The wild card this week is the start of earnings season with JPMorgan Chase JPM (JPM) and Morgan Stanley MS (MS) reporting on Thursday. The weekly chart of JPM still shows a well-established downtrend as it closed last week at $114.36 which was below the July pivot at $117.76. The 20-week EMA has been declining since early in the year and is now at $125.57.

The weekly relative performance diverged from prices at the all-time highs, line a, indicating JPM was not stronger than SPY. The RS is now back below its WMA. The on-balance-volume (OBV) has been leading prices lower since it dropped below support, line b, in April. Though JPM could still move higher on its earnings there are no signs of a change in the major trend.

A day or two of strong advance/decline numbers early in the week will support the bullish case which I continue to favor because of the positive action in the QQQ. The largest sustained market rallies occur when the daily A/D lines are trending higher which is not the case right now. Therefore one should continue to carefully analyze the risk of all new long positions.

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