Trading Places with Tom Bowley

Here's One Case For A Near-Term Top

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Market Recap for Tuesday, December 5, 2017

On the surface, Tuesday's action may have seemed as just a slight hiccup in the stock market's unrelenting pursuit of higher prices.  After all, all of our major indices suffered just fractional losses and the Russell 2000's loss of 1.02% wasn't horrible considering its meteoric rise since mid-August.  And who could be too concerned with the NASDAQ 100's ($NDX) gain of a point?  Well, me for one.  The NDX may have finished up one point, but it finished 72 points off its intraday high and continued an emotionally draining downtrend that began in earnest last Wednesday:

The NDX is in the throes of a short-term down channel and will likely suffer until that upper downtrend line is broken.  It had an opportunity intraday on Tuesday to break it, but failed.  That could lead to more short-term selling as we approach a seasonal period when we typically see weakness in equities.

Technology (XLK, +0.02%), while finishing back on top of the sector leaderboard yesterday, failed miserably at its 20 hour EMA and afternoon selling carried this influential sector to a one month low:

This downtrend remains a downtrend....until it doesn't.  As other overbought areas begin to see profit taking, a very big question will be, "Does technology see money rotating back into it?"  If that answer is no, then we'll likely see a much more substantial bout of profit taking in our major indices.

Pre-Market Action

Futures look to continue the uncertainty that's been building in recent action.  With 30 minutes left to the opening bell, Dow Jones futures are down 50 points and the NASDAQ shows slightly higher percentage losses.  

The 10 year treasury yield ($TNX) is under pressure, falling 2.5 basis points to 2.33% and that buying of treasuries, which sends yields lower, is not a good development for equities near-term.  Crude oil is down over 1% this morning and that may pressure energy stocks as well.

Current Outlook

I've documented in this blog that technology had momentum issues before the selling began.  You can CLICK HERE and check out my Current Outlook section from one week ago.  Negative divergences matter.  Nothing in technical analysis provides us guarantees, but negative divergences do point out substantial risk and managing risk is what trading success depends on.  You need to see the potential risks before the selling begins and adjust your portfolio accordingly.

So why might our major indices continue on their recent path lower?

To me, it's very simple.  Three of our four aggressive sectors - financials (XLF), industrials (XLI) and consumer discretionary (XLY) - are or have recently been extremely overbought.  The XLF and XLY currently have daily RSIs in the mid-70s.  Even worse are the weekly RSIs where the XLF, XLI and XLY show readings of 72, 69 and 75, respectively.  The technology ETF (XLK) still has a weekly RSI of 66.  Past, more significant, downturns have seen all of these sectors' weekly RSIs drop into the 40s.  I don't believe we're heading there currently, but let's keep things in perspective.

Let's look at a long-term weekly chart of the XLK:

First, let me point out that the longer-term momentum in technology is bullish and accelerating.  This suggests that the short-term weakness that the group is experiencing is likely to be a blip on the long-term radar.  In other words, I fully expect to see money rotate back into this group in the not-too-distant future.  But we do remain overbought and a normal test of the rising 20 week EMA would indicate the possibility of another 3% decline.  If other short-term overbought sectors sell off and technology does not see that money rotating in, then our major indices are likely to follow the historical path of weakening into mid-month.

Sector/Industry Watch

Internet stocks ($DJUSNS) will be an important group to watch.  The DJUSNS filled its gap on Tuesday and certainly could be poised to recover.  That will be a necessity if the XLK is poised to break its downtrend.  Check out the DJUSNS chart:

The DJUSNS is very near critical short-term support comprised of trendline support, gap support, and price support, not to mention a daily RSI of 42 (many key bottoms during uptrends form with the RSI at or near 40).  

Let's watch this group closely.

Historical Tendencies

On Monday, I posted that the second week of December tends to be quite bearish.  Here are a couple more historical facts on the NASDAQ.  This century, the NASDAQ has fallen 11 of 16 years from the December 8th close through the December 15th close and the average loss during the period has been approximately 1.6%.  So in addition to very overbought conditions on longer-term index charts and short-term sector charts (like the XLF, XLI, XLY, etc), history is not exactly on the side of the bulls as we move into the middle of the month.

Key Earnings Reports

(actual vs. estimate):

BF.B:  .62 vs .53

(reports after close, estimate provided):

AVGO:  4.51

Key Economic Reports

November ADP employment report released at 8:15am EST:  190,000 (actual) vs. 186,000 (estimate)

Q3 productivity released at 8:30am EST:  +3.0% (actual) vs. +3.2% (estimate)

Happy trading!

Tom

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