Market's Bill of Health: Momentum Continues to Weaken

August 16th, 2013

by Chris Puplava

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In our last Market's Bill of Health on July 26th we noted the following:

[T]he biggest red flag currently is the divergence in weekly MACD buy signals as subsequent peaks have trended lower. This divergence may foreshadow a market correction in the weeks ahead or it may simply indicate a high degree of sector rotation. If we see the cyclical sectors of the market weaken…that would tend to suggest the weakening readings in weekly MACD buy signals are in fact suggesting a market correction coming rather than sector rotation.

In the weeks following, the cyclical sectors did indeed begin to weaken and, of course, the market followed suit with the current correction off its highs. Although the market's short and intermediate-term outlooks have now weakened, the market's long-term outlook still remains strong, as we will show below, which still does not suggest we've put in a major market top.

S&P 500 Member Trend Strength

As shown below, the long-term outlook for the S&P 500 is clearly bullish as 85.8% of the 500 stocks in the index have bullish long-term trends. The market's short-term outlook has been downgraded two notches since our last report to “neutral-bearish.”

S&P 500 Trend Strength

*Note: Numbers reflect the percentage of members with rising moving averages: 200-day moving average (or 200d MA) is used for long-term outlook, 50d MA is used for intermediate outlook, and 20d MA is used for short-term outlook.

The most important section of the table below is the 200d SMA column which sheds light on the market's long-term health. As seen in the far right columns, you have 86% of the S&P 500 stocks with rising 200d SMAs and 77.6% of them above their 200d SMA. Also, eight out of ten sectors are in long-term bullish territory with more than 60% of their members having rising 200d SMAs, with the two weakest sectors being utilities (51.6%) and telecommunications (33.3%).

Of note is the deeply short-term oversold condition in the financial sector which has led the decline as only 8.6% of the sector's members are above their 20d moving average. With that said, we must recognize that the sector still boasts a strong long-term outlook as 90% of its members have rising 200 day moving averages.

Source: Bloomberg

Market Momentum

The Moving Average Convergence/Divergence (MACD) technical indicator is used to gauge the S&P 500's momentum on a daily, weekly, and monthly basis. As seen in the table below, the momentum for the S&P 500 has weakened as the S&P 500 is now on a daily and weekly MACD sell signal.

Source: Bloomberg

Digging into the details for the 500 stocks within the S&P 500 we can see that the daily momentum for the market continues to erode as it has slid from 92.4% of stocks with daily MACD buy signals on 07/26/2013 to the current 12%.

The intermediate momentum of the market has also eroded as the percent of stocks with weekly MACD buy signals has fallen from 66.8% on 7/26 to 47% this week.

The market's long-term momentum remains solid at a strong 81% this week, though it has softened a little from the 87.4% reading also on 7/26.

Source: Bloomberg

As stated at the opening, we've been concerned about the diverging intermediate momentum of the market with price as the S&P 500 has been hitting new highs while the percentage of its members with weekly MACD buy signals has seen lower highs at each peak, which has been foreshadowing a market correction. While we have seen a loss in the market's short-term and intermediate-term momentum, its long term momentum has not seen any major dent.

Source: Bloomberg

52-Week Highs and Lows Data

What continues to be encouraging about the market's advance is that new highs continue to dominate new lows with more than 9 new highs for every new low seen this week. That said, what is a little concerning is that the new lows are occurring in cyclical sectors, concentrated in technology, consumer discretionary, and financials. Given the cyclical sectors tend to lead the market, we will need to watch if the three sectors mentioned above improve or begin to bring down other sectors with them.

Market Indicator Summary

The weakness we have seen in the market over the last two weeks has been sufficient enough to push the market into a short-term oversold condition. The percent of S&P 500 advancing issues and percent-up volume has reached two standard deviations below the mean as has the McClellan Oscillator, with the market typically rallying in subsequent days when this condition has been seen. Because sentiment has not reached an extreme (AAII survey in 4th panel below) I do not think this correction is over, but rather expect a short-term bounce early next week likely led by the financial sector (most oversold). With that said, any sustained rally attempt will likely prove fleeting until we see the bears come out of their caves and sentiment turn more bearish.

Source: Bloomberg

Other indicators of market sentiment also confirm we haven't seen enough bearish sentiment associated with a bottom. We would need to see the put/call ratio jump north of 1.05 and the 24-day rate of change in the VIX index move north of 25%.

Source: Bloomberg

Summary

The weakness in the weekly MACD readings despite the market moving higher over the last few months suggested a market that was losing steam and in need of a pause. The market's short and intermediate momentum have worsened but not enough to put a dent in the market's long-term momentum or trend. Currently the market is short-term oversold and could rally early next week, but, given the lack of bearish sentiment, any rally attempt next week will likely fizzle out until sentiment reaches higher levels. As highlighted last week in “Possible Short-Term Top; No Bear Market on the Horizon”, even though we are in a correction I do not expect the market to be forming a major top as recession-risk still remains quite low along with the market's long-term momentum and trend remaining strong.


Originally posted at Financial Sense

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