Are The U.S. Markets Sending a Warning Sign?

After an incredible rally phase that initiated just one day before the US elections in November 2020, we’ve seen certain sectors rally extensively. Are the markets starting to warn us that this rally phase may be stalling? We noticed very early that some of the strongest sectors appear to be moderately weaker on the first day of trading this week. Is it because of Triple-Witching this week (Friday, March 19, 2021)? Or is it because the Treasury Yields continue to move slowly higher? What’s really happening right now and should traders/investors be cautious?

The following XLF Weekly chart shows how the Financial sector rallied above the upper YELLOW price channel, which was set from the 2018 and pre COVID-19 2020 highs. Early 2021 was very good for the financial sector overall, we saw a 40%+ rally in this over just 6 months on expectations that the US economy would transition into a growth phase as the new COVID vaccines are introduced.

We are also concerned about an early TWEEZERS TOP pattern that has set up early this week. If price continues to move lower as we progress through futures contract expiration week, FOMC, and other data this week, then we may see some strong resistance setting up near $35.25. Have the markets gotten ahead of themselves recently? Could we be setting up for a moderately deeper pullback in price soon?....Read More Here.

The Dollar, Weak Earnings Indicate a Top is Near For The S&P 500

Can we still look to the financials to guide us on market movements?

Earnings season is now upon us and so far the only major earnings component that has been released is the J.P. Morgan earnings report that came in Friday before the market opened. After the report was digested by the marketplace, prices fell dramatically.

While the charlatans in Washington try to sell the American public into believing that the U.S economy is starting to firm up, the underlying truth is that the recovery has been relatively weak. If it were not for the massive liquidity injections provided by the Federal Reserve through multiple quantitative easing adjustments, risk assets would likely be priced significantly lower.

Inquiring minds combed through the data provided in the J.P. Morgan earnings release and a few major outcomes were placed front and center. Earnings disappointed overall due to a massive decline in investment banking activity. Investment banking profits represent a large portion of all of the major banks’ earnings.

On Friday the guys at Zero Hedge provided the following chart in its article titled, “Charting Disappearing Investment Banking Revenues And Profits, JPM Edition.” The chart below illustrates the massive decline in investment banking revenue:

To make the chart a bit easier to follow, the blue bars represent investment banking revenue. It is rather obvious that investment banking revenue is in free fall having dropped nearly 50% since the first quarter of 2011. In addition, I would point out the sharp declines in total net income (purple) and the massive decline in equity market revenue (green).

It is without question that the other major banks that have a large investment banking presence are likely to experience similar revenue losses. A significant reduction in investment banking gross revenue puts tremendous pressure on total bank revenues in this quarter and looking ahead.

I am of the opinion that major money-center banks like Bank of America and Citigroup are likely to experience similar revenue reductions. We will know for sure in the coming weeks as most of the large banks are set to report earnings in the near term. Clearly this expected reduction in overall revenue will likely have a major impact on the financial sector of the economy.

The financial complex is absolutely critical when looking at broad index returns. It is common knowledge that broad indexes such as the S&P 500 and the Dow Jones Industrial Average struggle to rally when the financial complex lags. The same can be said for the semiconductor sector as well.

Recently financials (XLF) and the semiconductor (SMH) sectors have worked considerably higher on relatively light volume. Both XLF and SMH are trading into major resistance and both are starting to show signs that they are nearing a potential top  The daily charts of XLF and SMH are shown below:

XLF Daily Chart

SMH Daily Chart

Both the XLF and SMH daily charts illustrate that a major top may be forming in both sectors. It is widely noted that if the financials and semiconductors are not showing strength in a rising market, a correction or major reversal may not be far away.

I have been writing about the potential for a major top to be forming for several weeks now and I find that I am not in the majority in this viewpoint. Recent sentiment and momentum in U.S. equities demonstrate that we are very overbought at this time. Retail investors are extremely bullish and the Volatility Index (VIX) is trading near recent lows.

I am unsure whether this is a major top that leads to strong selling pressure or whether a correction is a more likely outcome. What I do know is that tops are a process, not a singular event and at this point more and more evidence is supporting the viewpoint that equities may be getting tired and some profit taking is likely.

In addition to the lackluster price action in the charts above, earnings releases have been revised lower in the 4^th quarter of 2011. In fact almost 3.5 companies have announced earnings revisions to the downside for every company that has indicated a stable to rising earnings announcements. This type of scenario has not been present since the first quarter of 2008 which as we know was not exactly a great time frame to be looking to put cash into risk assets.

Furthermore, Goldman Sachs analysts came out with the following commentary, “While the 4^th Quarter is typically the strongest quarter for earnings, estimates have fallen 9% since the summer and are now below both realized 2^nd and 3^rd Quarter results.” Goldman Sachs is also expecting significant price pressure coming from a weak U.S. economy and the fears of a European recession in 2012. Overall, the estimates are far from bullish and are in fact quite concerning when looking at the current valuation of U.S. equities.

The impact that a stronger U.S. Dollar will have on domestic companies which are used to having a competitive advantage when looking at earnings due to currency adjustments could produce negative surprises. Typically positive earnings adjustments are likely to be revised to the downside as the U.S. Dollar has rallied sharply higher in light of the weakening Euro currency. The weekly chart of the U.S. Dollar Index is shown below:

The U.S. Dollar Index is consolidating directly beneath resistance which is generally seen as a bullish development. I expect a breakout over new highs is only a matter of time. It is unlikely that in the long term the U.S. Dollar can rally while stocks trade flat or work their way higher. While this is always possible, the likelihood of that scenario is unlikely due to earnings pressures that would occur if the Dollar pushes higher in the intermediate term.

In addition to the variety of above mentioned factors which could have a major impact on equity valuations, the S&P 500 Index is trading into major resistance. Unless the S&P 500 Index can work above the 1,325 area it is unlikely that a new bull market has begun.

If the S&P 500 Index manages to work above the 1,325 level then my analysis may be proven completely incorrect. However, right now the S&P 500 Index has a lot of overhead resistance at the 1,292, 1,300, and 1,310 price levels. The daily chart of the S&P 500 Index is shown below’

Ultimately we are coming into the final week for the January options contracts which are set to expire at the close of business this coming Friday. I would not be shocked to see some volatility late this week and potentially even higher prices for equities.

However, my expectation is that once the January expiration hangover is behind us, increased volatility and lower prices are likely ahead for U.S. equities. The earnings announcements this week will likely have a large impact on the price action. Heads up, risk is exceptionally high!

To learn more about Options Trading Signals visit J.W. Jones Options Newsletter website.

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Evidence Supports the Bears’ Case for the S&P 500

I am not one to discuss fundamentals or macro views, but this situation in Europe is beginning to morph into a media frenzy. Price action in the marketplace is changing rapidly in short periods of time based on the latest press releases coming from the Eurozone summit.

I cannot help but comment on the seemingly arbitrary actions coming from this high profile meeting. Nothing has happened that market participants were not already privy too. The European Union is going to strengthen their EFSF fund by levering it up roughly 4 : 1. I have yet to hear how exactly they plan on doing this, but this action was no surprise to anyone that has read an article about the sovereign debt crisis in the past month.

There was also discussion about backstopping European banks’ capital position. Since European banks are holding billions (Euros) of risky sovereign debt instruments, it would make sense that their capitalization is a primary concern of Eurozone leaders based on current fiscal conditions. I would argue that the banks should be well capitalized regardless of economic or fiscal conditions in order for a nation to have a strong, vibrant economy that has the potential to grow organically.

The final piece of this week’s political nonsense involves write-downs on Greek debt in the neighborhood of 50% – 60% in order to stabilize Greece’s debt to GDP ratio. Apparently Eurozone leaders want to structure the write down so as to avoid payouts by credit default swaps which act as insurance against default. How does a bond take a 50% – 60% valuation mark down without a creating an event that would trigger the payout of CDS swaps?

If a write down of that magnitude does not trigger the CDS swaps, then I would argue they are useless as a tool to hedge against the default risk carried by sovereign debt instruments. If the CDS swaps do not payout as projected by European politicians, the risk assumed by those purchasing government debt obligations around the world would be altered immediately.

The impact this might have on the future pricing of risk for government debt instruments could be extremely detrimental to their ability to raise funds in the private market. Additionally, the write downs would hurt European banks’ capital positions immediately. If the CDS swaps were to pay out, bank capital ratios would suffer as those who took on counter party risk would be forced to cover their obligations thereby straining capital positions even further potentially.

Price action today suggested that the equity markets approved of the package that European leaders were working on. However, the biggest push higher came when news was released that China was interested in purchasing high quality debt instruments as a means to help prop up poorly capitalized banks and sovereign nations in the Eurozone through an IMF facility.

The market did an immediate about face which saw the Dollar selloff while the S&P 500 rallied higher into the close reversing a great deal of Tuesday’s losses. Inquiring minds wish to know where we go from here? I would be lying if I said I knew for sure which direction Mr. Market favored, however that did not stop me from looking for possible clues.

It has been a while since I checked out the short-term momentum charts that are focused on the number of stocks in U.S. domestic equity markets that are trading above their 20 & 50 period moving averages. The charts below illustrate the current market momentum:

Equities Trading Above the 20 Period Moving Average

It is rather obvious that when we look at the number of stocks trading above their 20 period moving average that momentum is running quite high presently. This chart would indicate that in the short-term time frames equities are currently overbought.

Equities Trading Above the 50 Period Moving Average

A similar conclusion can be drawn when we look at the number of stocks trading above their 50 period moving averages. It is rather obvious at this point in time that in the short to intermediate term time frames, stocks are currently at overbought levels. This is not to say that stocks will not continue to work higher, but a pullback is becoming more and more likely.

Additional evidence that would support the possibility that a pullback is likely would be the  recent bottom being carved out in the price action of the U.S. Dollar Index. The U.S. Dollar has been under selling pressure since the beginning of October, but has recently started to show signs that it could be stabilizing and setting up to rally higher.

The daily chart of the U.S. Dollar Index is shown below:

The U.S. Dollar Index is sitting right at major support and is oversold based on historical price action. If the Dollar begins to push higher in coming days and weeks it is going to push equity prices considerably lower. Other risk assets such as gold, silver, and oil would also be negatively impacted by higher Dollar prices.

Members of my service know that I focus on several sectors to help give me a better idea about the broader equity markets. I regularly look at the financial sector (XLF), the Dow Jones Transportation Index (IYT), emerging markets (EEM), and the Russell 2000 Index (IWM) for clues about future price action in the S&P 500.

During my regular evening scan I noticed that all 4 sector/index ETF’s are trading at or near major overhead resistance. With the exception of the Dow Jones Transportation Index (IYT), the other 3 underlying assets have yet to breakout over their August 31^st highs. The significance of August 31^st is that is the date when the S&P 500 Index put in a major reversal right at the 1,230 price level before turning lower. It took nearly two months to regain the 1,230 level and its significance continues to hold sway.

The daily chart of IWM is shown below illustrating its failure to breakout over the August 31^st highs:

The chart above illustrates clearly that IWM has failed to breakout above the August 31^st highs. I am going to be watching IWM, XLF, & EEM closely in coming days to see if they are able to breakout similarly to the S&P 500. If they start to rollover, it will not be long before the S&P 500 likely follows suit.

Currently the underlying signals are arguing for lower prices in the short to intermediate term. While it is entirely possible that the S&P 500 rallies higher from here, it is without question that current market conditions are overbought in the short to intermediate terms.

Key sectors and indices are not showing follow through to the upside to help solidify the S&P 500′s recent break above the key 1,230 price level. Additionally, the U.S. Dollar Index is currently trading right at key support in addition to being oversold. At this time I am not playing the S&P 500 in either direction, but I will be watching the underlying price action in the U.S. Dollar Index closely. I will be watching for additional clues in the days ahead.

Market and headline risk is high presently.

Subscribers of OTS have pocketed more than 150% return in the past two months. If you’d like to stay ahead of the market using My Low Risk Option Strategies and Trades check out OTS at Options Trading Signals.com and take advantage of our free occasional trade ideas or a 66% coupon to sign up for daily market analysis, videos and Option Trades each week.

Chris Vermeulen & J.W. Jones

Is The SP 500 About to Stage a Multi Month Rally?

J.W. Jones of Options Trading Signals tells us where he sees this market headed...... 

The S&P 500 must have taken notice of the multitude of headlines coming at market participants and proceeded on a path of pure chaos. Since October 4th, the S&P 500 Index (SPX) managed to trade in a range that spanned from 1,074 to as high as 1,171 in 4 days. To put the past 4 days price action into perspective, the S&P 500 Index rallied 97 points or 9% in less than 96 hours.

Since late July, market participants have been dealing with a whipsaw that has been wrought with headline risk coming from Europe and huge swings in the price action of the volatility index. A few short days ago I was calling for a bounce higher in the SPX as every time frame was oversold. After the jobs number came out Friday morning domestic equities rallied sharply higher and in the short term prices were excessively overbought prompting some profit taking.

Around lunch time the news wires broke that Spain and Italy had their sovereign debt downgraded by Fitch Ratings. The downgrade put U.S. banks under pressure quickly and the price action started to rollover. By the end of the day price action was starting to work higher but a sharp selloff played out in the final 30 minutes of the session putting the major indices back into the red at the closing bell. So the real question that lies ahead is where do we go from here?

There is no easy answer to that question as the headline risk coming out of Europe over the weekend could have a dramatic impact on prices on Monday. Just as a reminder, U.S. bond markets will be closed on Monday for Columbus Day, but equities markets will be open as usual. At this point in time my short term bias is to the downside.

It would be healthy to see the S&P 500 roll over here and find a key support level where buyers step in and support prices. A higher low would be constructive and could lead to a more prolonged intermediate term rally which could last into the holiday season. However, before we can see any sort of rally we need to see a bottom form. While I do believe we have initiated that process, until I see a higher low carved out on the daily chart I will consider the current price structure to remain bearish.

In order to break to new lows, the SPX would have to push through several layers of support. I am of the opinion that we are unlikely to see the recent lows broken, but the chart below illustrates the key support levels going forward. A test of the 1,040 – 1,050 price range remains possible, but the price action the past week makes it seem less likely. Within the context of a hyper volatile period of time, just about any possible outcome remains feasible. The daily chart of the SPX below illustrates key support levels for the index:

In addition to the weak price action into the close on Friday, several other clues are pointing to potentially lower prices in the near future. Members of my service know that I focus daily on several underlying ETF’s which help me get a grasp of the overall market conditions. On Friday, the financials (XLF), the Dow Jones Transportation Index (IYT), and the Russell 2000 Index (IWM) all showed relative weakness against the S&P 500. The chart below illustrates the relative performance on Friday:

The financials and the Dow Jones Transportation Index are excellent sectors to monitor when trying to determine the future price action of the S&P 500. Most of the trading session on Friday the financials (XLF) were exhibiting relative weakness versus the S&P 500 Index. Later in the session, the Dow Jones Transportation Index (IYT) started to roll over as well and once both ETF’s were under pressure it was not long before the S&P 500 Index flipped the switch to the downside.

The financials (XLF), the Russell 2000 (IWM), and the Dow Jones Transports (IYT) all put in large reversal candlesticks on the daily chart by the close of business on Friday. This is an ominous signal that lower prices for domestic equities may be forthcoming. The fact that key sectors are showing signs of weakness is a negative omen for the S&P 500 and the early part of next week. However, there is a bright side to this scenario.

If support levels can hold up prices next week and we see a higher low on the daily chart form, the bottoming process could be underway which could lead to a strong rally into year end. Obviously a probe to new lows is possible, but I believe that we are in the beginning stages of forming a bottom and a base for a rally to take shape.

If support levels hold up prices, a bottoming formation will likely get carved out on the daily chart of the SPX. The chart below illustrates two potential outcomes that could cause prices to rally sharply. In one case, a higher low is formed and we see prices take off to the upside. The other scenario involves an intraday selloff down to the 1,040 – 1,050 price level that gets snapped back up and a huge reversal candlestick would be formed. These scenarios are common during bottoming processes. The daily chart of the S&P 500 Index is shown below with the two scenarios highlighted:

The other scenarios would involve prices blowing through support and possibly knifing down to test the S&P 500 1,000 – 1,008 support area. While I find this scenario to be less likely at this time, anything could happen in this trading environment.

The key in the short run is the utilization of defined risk through the use of stop orders. In addition, a trading plan with stop orders and profit taking levels planned ahead will help remove emotion in a volatile tape. The price action is wild, but from my perch the likely scenarios all involve some short term selling pressure. If my analysis is right, this could be a huge turning point for price action the rest of the year.

The next few weeks are going to provide us with clues about the rest of 2011. 

The question traders should really be asking is whether support will hold, or will we break below the recent lows? Right now, the upside looks limited, but in this trading environment the best thought out plans can turn out to be useless if price action does not cooperate. Be nimble and define your risk, as volatility is not likely to subside anytime soon.

Subscribers of OTS have pocketed more than 150% return in the past two months. If you’d like to stay ahead of the market using My Low Risk Option Strategies and Trades check out OTS at Options Trading Signals.com and take advantage of our free occasional trade ideas or a 66% coupon to sign up for daily market analysis, videos and Option Trades each week.

The Latest Options Trading Signals Articles

Is This Market Flashing a Buy Signal or Another Market Collapse?

Since the first trading session in May we have seen the stock market sell off. The old saying “sell in May and go away” was dead on again this year. Here we are 7 weeks later with the stock market continuing to lose ground. This extended sell off has everyone all worked up that this is the beginning of another market collapse.

Let’s take a quick look at the SP500 hourly chart covering the month of June.

As you can see, price is still falling but every couple of trading sessions we get some big money players nibbling on stocks accumulating shares and running the market higher. This type of price action is typically an early signal that the market is trying to bottom.

There are two key ingredients for a higher stock market and both have been missing from the mix for a couple months. The two key sectors which have a significant weighting in terms of the broader market are the financial and technology stocks.

Let’s take a look at the financial sector:
As you can see on the bottom of this chart, financials started to lag the market in late January. Ever since then this sector has been in a strong downtrend pulling the broad market averages lower with it. The good news is that this sector has just reached a major support zone and is looking ripe for a bounce and possible rally.

The other main ingredient to a higher stock market is the technology sector.

Looking at the technology sector:
Here we can see technology stocks have been pulling back for several weeks. Tech stocks are now trading down at a major support zone and they look oversold. A bounce from this level is very likely in the coming week.

Weekend Trading Conclusion:
In short, I continue to feel the market is trying to bottom here and we are at the tipping point when things get volatile and choppy just before we get a trend reversal in the S&P 500. Keep an eye on the short term charts of financials and technology sectors. Once they start making higher highs and higher lows on the 60 minute charts I believe it will be the start of a nice bounce and possible rally.

Get Chris Vermeulens free weekly technical analysis on sectors here at The Gold and Oil Guy.Com

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The European Debt Crisis and the Fear That Grips Us

J.W. Jones is waiting patiently for signs that price action is going to reverse before getting involved, then what?.......

The price action in U.S. financial markets on Wednesday was the culmination of fear and disease. Fear was represented by a breakout in the Volatility Index (VIX) and the disease was related to the sovereign debt crisis unfolding in the Eurozone. The violent reaction by the Greek citizenry to proposed austerity measures paired with grumblings coming from multiple Eurozone nations ignited fear among traders and investors alike.

I am not an expert on debt instruments, but it seems that there is a considerable amount of systemic risk within the debt structure of the Eurozone. When the notional derivatives such as credit default swaps are factored into the equation the risk to the global financial system intensifies significantly. The real question is who is holding the counterparty risk on the other side of the Greek debt? Even if the Greek situation is resolved without default, what is going to happen to Spain and Portugal’s debt?

The solvency of many of the Eurozone nations has come under question and the price action in the Euro currency is indicative of the fear present among market participants. I believe that the economic disaster that is unfolding in Europe currently will eventually manifest itself stateside. Austerity measures either through higher taxes, monetization of our public debt, and a complete restructuring of entitlement programs is likely to occur. However, in the meantime domestic markets will struggle to gain their footings in the face of a strong U.S. Dollar. The strength of the U.S. Dollar Index represented by the ETF UUP on Wednesday helped place selling pressure on U.S. equities and commodities alike. The daily chart of UUP is shown below:

If the U.S. Dollar continues to rise, the impact the increase in value of the Dollar will have on U.S. financial markets could be debilitating for equities. Poor economic data, continued housing problems, and the political uncertainty surrounding the debt ceiling all make for a potentially dangerous situation for U.S. capital markets. With this much fear and uncertainty in the marketplace and volatility stemming from a variety of issues related to the Eurozone, investors are fearful. The spreading disease of the sovereign debt contagion is rapidly infecting global financial markets and if handled inappropriately could drastically alter the entire capital market construct.

Instead of worrying about all of the fear and uncertainty in the market place, I look at market internals, market cycles, fundamentals, and technical analysis as guides for shaping my approach to trading. We are on the verge of a major inflection point for financial markets, specifically equities. While it might surprise readers to know, I am leaning towards a near term bottom in the S&P 500. The S&P 500 could rally to the 1,305 (SPX) price level (20 Period Simple Moving Average) which represents an increase of 3%. It is also feasible that we may witness a test of the 50 period moving average on the daily chart of the S&P 500 (SPX)which would represent an increase from Wednesday’s close of over 5%. Markets do not move in a straight line. While investors and traders may expect a breakdown in price action, rarely is the crowd correct.

The daily chart of the S&P 500 with its annotations shown below illustrates my thought process as it relates to near term price action for the index:

If price action breaks below the March pivot lows a panic induced selloff could begin and the next leg of the secular bear market will likely be underway. We may have already initiated the secular bear with the recent downturn, but I will remain neutral until the March pivot lows are broken. If price action breaks through the March lows and we see multiple days with daily closes below the 1,250 (SPX) price level I will become very bearish. The chart below illustrates the key price levels if the SPX breaks down:

While many readers may find this interesting, today members of my service at OptionsTradingSignals.com were able to lock in gains on an SPY position we initiated late last week. I initiated a SPY 125 Put Calendar spread which I converted to a double calendar spread on Tuesday. The position will produce profits if price action on the SPY remains between around $123.50 / share and $130.21 / share at the close this Friday (June Expiration).

During the nasty selloff today, the implied volatility of the SPY Double Calendar Spread was juiced and we were able to take profits on the position and lock in a 13% gross return based on maximum risk. We have the remainder of the position on currently with stop levels in place. If price cooperates, the trade offers a potential return of around 20% near the close this Friday.

Calendar spreads work great in an environment where volatility levels are rising and they profit from time decay (Theta) which is a mathematical certainty. Recently the service has been producing solid gains for members using calendar spreads during this choppy price action. While I like to use other trade constructions, calendar spreads have produced outstanding risk / reward opportunities for astute option traders and I will not hesitate to use any tool that is working in a particular market climate.

A Brief Trading Lesson

Members of my service know that I regularly watch a variety of underlying indices and sectors to get a feel for the broad market. Besides the VIX, one of the most critical ETF’s for traders to monitor is the financials. If you are new to trading or are trying to learn, it is critically important to understand that the S&P 500 has an arduous time rallying if banks are selling off.

In contrast, when the financials are holding up well or are working higher and the broader tape is trading flat or slightly in the red it offers a clue that the broader market may be preparing to move higher later that session or the following day. Yesterday (Tuesday) the financials were warning traders and investors into the close that today could be troublesome. The daily chart at the close on Tuesday shows the financial ETF XLF’s recent price action:

The ugly close for financials was a warning and investors and traders who did not pay attention to the financials had a rough day today. The only long position that I was holding today was a long GLD position. Gold held up nicely today and we have some nice gains for the trade, but the key point to make is that by noticing the price action in the financials late Tuesday afternoon prevented me from initiating a poorly timed long trade.

Conclusion

Given the amount of uncertainty and risk associated with current price action in the S&P 500, I would urge readers to monitor risk closely and review open positions. While I do not necessarily believe a horrific selloff or a Black Swan event is waiting in the shadows for unsuspecting traders and investors, it is impossible to rule out a breakdown of the key pivot lows from March of this year. I am leaning toward the mindset that a short to intermediate term bottom may be forming, but I will not be doing any of the heavy lifting.

I will wait patiently for signs that price action is going to reverse before getting involved. Trying to pick tops and bottoms is a fool’s game, particularly when the game is changing rapidly based on news coming from Europe which can dramatically alter the tape. Risk is extremely high at inflection points such as the one we are currently near. Some of the best traders I know are successful because they refrain from trading when price action is volatile and risk is abnormally high. Sometimes sitting on the sidelines and listening to Mr. Market talk can be the best trade of all!

If you would like to be informed on SP 500, Volatility Index, Gold, and Silver intermediate direction and option trade alerts several times per week… take a look at  Options Trading Signals.Com today for a 24 hour 66% off coupon, and/or sign up for J.W.'s occasional free updates.

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Are You Ready for a Market Bounce?

During the past 4 months we have seen the financial sector (banks) under selling pressure. With real estate prices continuing to fall and foreclosures picking up speed again investors have not been that interested in holding bank stocks. And we all know that without the financial sector moving higher we cannot expect the broad market to make any significant moves higher either.

If you take a look at the financial sector ETF XLF you will notice that it’s now trading near a major support level (fair value) where most shares changed hands in the past. With this sector sliding 13% from the highs in February and the fact that it’s making a parabolic drop into a support zone I can’t help but think a bounce is very likely to form soon.

XLF Financial Sector ETF – Daily Chart

SP500 Futures – 10 Minute Chart
With the financial sector nearing major support and the SP500 staring to show signs of a bottom forming I will admit my heart is starting to pound in excitement for an entry point. I am really hoping that this week we see another sharp drop in the stocks which should spikes the volatility index up (VIX) to 21 or higher. If we can see this take place, then I will be taking a long position to catch a 2-15 days bounce in the broad market.

The chart of the past 10 trading sessions below shows a price and volume pattern which typically leads market bottoms. I’m keeping a close eye on things these days…...

Silver 2 Hour Chart
Silver took a big hair cut last month falling from $50 down to $33 per ounce. Ever since then it has been trying to form a base which will act as the next launch pad for higher prices. So far it is looking good but there is a key resistance level to breakthrough before fireworks. Keep your eye on the silver bullet.

Gold 2 Hour Chart
Gold is back trading up near its high but is starting to struggle with resistance (sellers). We could easily see gold pullback to the $1520 area before taking another run at resistance.

Mid-Week Update Conclusion:
In short, I feel investors are getting very nervous because of the 6 week sell off in stocks. There have been some technical support levels broken on the SP500 and other indexes and its these broken levels which have investors running for the door. The thing is, this type of selling happens every year and generally 2 -3 times. During a bull market I like to see fear in the eyes of investors. Until we are proven wrong about buying extreme oversold dips, they continue to be my focus.

Also if the financial sector can find a bottom and start to rally, then we will see higher stock prices across the board in the coming weeks. I am currently neutral on metals, oil and the dollar. But am getting bullish on financials and the SP500 as they move lower.

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Monitoring XLF Prevented a Potentially Devastating Trade in the SP 500

J.W. Jones recent article proves WRONG.........

My most recent analysis regarding the S&P 500 has been proven to be inaccurate as a failed breakout has transpired on the S&P 500 this past week. While there is no such thing as a perfect analyst, I will openly admit that my most recent article proved to be wrong. After I watched as the S&P 500 broke out above the upper channel resistance area I was expecting continuation. What transpired the following day was absolute carnage in the marketplace.

Immediately after breaking out to the upside, the S&P 500 sold off sharply and by the end of the day on Wednesday a failed breakout was obvious. The failed breakout trapped momentum traders as well as those watching and waiting for the breakout to occur. The chart below illustrates the failed breakout and the subsequent sell off that transpired the rest of the week.

Most readers likely believe that I went long when the breakout was imminent before Tuesday’s close. However, over the years I rarely chase breakouts unless I see multiple days of price stabilization above breakout levels. Generally a consolidation zone above a key breakout level is bullish. However, in recent months it seems that standard technical patterns have not been working well. In fact, chasing breakouts over the past few years could have produced some ugly losses depending on the underlying and the timing of the breakout.

Armed with recent price action and concern for the S&P 500 giving back gains, I did not get long the S&P 500 for members of my service at OptionsTradingSignals.com. On Wednesday morning, I was leaning long because price action overnight was confirming the breakout. However, when preparing my morning post for members I noted the apathy in the financial complex.

I am constantly monitoring price action in the XLF and Wednesday morning was no exception. The ugly price action in XLF kept me from getting involved in a long S&P 500 trade for members. By late in the day Wednesday, the XLF ETF had proven to be accurate and prevented losses for myself and for members of my service. The chart of XLF at the close on Wednesday looked like this:

The point of the article is not to pat myself on the back for avoiding catastrophe, but to illustrate to readers how important it is to monitor various aspects of the marketplace. I generally focus on the S&P 500, the Volatility Index (VIX), the financial complex (XLF), Russell 2000 (IWM), and the Dow Jones Transports (IYT). Generally speaking a trader can learn a lot about the broad marketplace by monitoring the price action in the underlying assets mentioned above. Often times the Russell 2000 or the financial complex will throw off clues about which direction price action favors.

At first glance, we could see the S&P 500 bounce higher in coming days as it is coming into a key pivot low that dates back to April 18th. I am expecting some buying support to step in around that price level as it also corresponds with the lower bound of the recent descending channel the S&P 500 has been trading in.

While we may see further downside, the April 18th pivot low should offer a solid risk definition area for traders. If prices push lower, a short trade using a stop somewhere around or above the key 1,295 price level would make sense. Those looking to take the S&P 500 long could place a stop order below the key 1,295 price level to define risk.

Regardless of where one believes the S&P 500 is headed, using a key support/resistance level to place trades with limited risk makes a lot of sense currently. I will be patient and wait for the market to throw off clues as to which direction it favors before accepting additional risk. The primary focus for traders during periods of wild price action should be to concentrate on reducing risk and allowing others to do the heavy lifting. A trader or an investor can learn a lot about the strength of an underlying asset or index by simply watching the price action while sitting on the sidelines. The daily chart of the S&P 500 Index below illustrates the key pivot level:

Obviously the S&P 500 is coming into a key support zone, but another factor which cannot be ignored at this point in time is the U.S. Dollar Index. On Friday, the U.S. Dollar pushed significantly lower and most of the key commodities such as gold, silver, and oil all closed the day near day highs and well off of intraday lows. The U.S. Dollar Index looks vulnerable currently as its recent rally seems to be short lived and it appears to be poised to retest the recent lows. The daily chart of the U.S. Dollar ETF (UUP) is shown below:

The first 2 – 3 trading days of this week should provide us with clues in terms of price action in the S&P 500 and the U.S. Dollar. If the U.S. Dollar continues to weaken it should help support the S&P 500 and the commodity complex. For right now I’m going to sit on the sidelines and wait for the price action to setup before taking on additional risk. The key level to watch is the 1,295 level on the S&P 500 and recent lows on the U.S. Dollar Index.

With QE II winding down and price action starting off the month relatively ugly, June could shape up to be a very interesting month for investors and traders alike. I will be out later this week with an updated analysis after I see the price action the next few days. Until then, I would keep positions smaller than normal and protect capital using stop orders. Anything could happen, but this is the closest we have been to rolling over in the S&P 500 for months. I do not have my helmet on yet, but in a couple of weeks depending on price action I might have to wipe the dust off of it.

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Modern Music, Options, the SPX, the XLF and your Mood!

What could modern music, options, the SPX, the XLF and your Mood have in common? Let's have options guru J.W. Jones tell us......

Before getting into the broader markets, I thought it was pertinent to share with readers that recently I have noticed a trend in alternative music, also known as modern rock. As a fan of music in general, I have noticed that more modern and mainstream music is starting to underscore the deterioration in social mood. Mainstream songs are having a resoundingly similar lyrical undertone which outlines the “us against them”, “rich versus poor”, and the political class versus everyone else.

While I am not a sociologist nor do I have any real training in the area, the underlying tone in a lot of artistic mediums highlights the current chasm between the haves and the have nots. While some might argue that it does not matter, if you as a reader, trader, or investor believe in behavioral finance you might agree that social mood matters a great deal. After all, the entire premise of technical analysis is an attempt to quantify market participant behavior at specific price levels.

Social mood is but one catalyst that can have a dramatic impact in price discovery, and thus must at the very least be monitored. Current music trends are literally screaming loud and clear that the average American can relate to the undertones and messages of song lyrics with the same resounding tone as the Rise Against lyrics listed above. Believe me, it may not matter right now, but it will matter and when it does it will likely be too late for financial markets.

Now that I have my little rant out of the way, why don’t we take a look at where the S&P 500 has been, where it is now, and where it might be going. Currently price action in the S&P 500 is sitting on the edge of a fence. We could be looking at an intermediate bottom or it could end up being a bull trap. As for me, my recent prediction for lower prices has indeed come to pass, but from hereon I have no real idea where price action is headed. Mr. Market is leaving a few clues behind which I will outline, but anything is possible. We have seen stocks climb a wall of worry for nearly two years now so there is precedent for a rally from this current point of indecision.

The daily chart of the S&P 500 listed below illustrates key technical levels on the daily chart, however readers will notice that we are currently caught between a ton of overhead resistance and a key support level. Until we see price move in either direction with volume confirmation, I will be sitting on the sidelines.

Another key chart to consider is the SPX weekly chart. A quick glance at the slow stochastic readings at the bottom of the chart reveal that the S&P 500 might have additional downside left before the market is able to form a solid bottom. If that is true, we could see the SPX test the 200 period moving average on the daily chart which would be around the 1186 price level. Additionally, the 50 & 200 period moving averages on the weekly chart correspond with the 1180 price level which is likely not coincidental. The level also corresponds with key resistance areas going back to the November 2010 lows. While a downward move that large seems a bit extreme to me at this point, anything is possible.

As can be seen from the chart above, price action is currently sitting above the 20 period moving average on the weekly SPX chart. Key support levels are around the 1225 and 1180 price levels. I would also point out that a Fibonacci retracement of the recent pivot high to the recent pivot low gives us a possible 1.618 retracement around the 1190 price level. Additionally, the slow stochastic on the chart above is eerily similar to levels that were seen on the weekly chart back in May of 2010. Will price action work lower? Will the weekly slow stochastic reading kiss the 20 level?

At this point, a few of you might think I’m outlining the case for lower prices in the equity market. I honestly have no idea where price is going from here, I’m just outlining some key aspects that I have found in my analysis to the downside. The upside is just as likely and we could see the SPX price bounce off of the 20 period moving average on the weekly chart and a challenge of the recent highs could play out. Should recent highs give way to breakout, the SPX would likely test the 1,400 price level at some point in the future.

If we look at the VIX for any clues, all that can be seen from that chart is a spike higher and a subsequent selloff as fear and uncertainty leave the marketplace. The VIX is currently arguing for higher prices in equities, however the financials represented by XLF are the fly in the proverbial ointment. The banks were unable to attract a bid on Monday’s strong advance and they experienced additional selling pressure on Tuesday.

In fact, the XLF’s daily chart shown below reveals a key test and subsequent failure.

A quick look at the XLF daily chart and it is rather obvious that price action in XLF has been weak in the past two sessions. Price moved higher off of the recent lows, tested the 20 period moving average and rolled over. Price is currently below key support levels, but we could witness a reversal on Wednesday. I am going to be watching the financials (XLF) quite closely in coming days as I believe the banks will provide traders with clues as to which direction Mr. Market is favoring. Right now it would appear that Mr. Market is favoring lower prices, but that would seem a bit too easy from these eyes.

We could consolidate at these price levels for a period of time. The volume on Monday and Tuesday was light and we have non confirming signals showing up in a variety of underlying indices. I am unwilling to accept any directional risk at this point. I will let others do the heavy lifting while I sit safely in cash and watch the price action play out.

The price action will eventually give us a confirming signal as to which direction prices will be heading, but right now I believe the prudent thing to do is remain in cash and wait for Mr. Market to signal which direction he favors. We are either sitting at the beginning of a major move higher or we are at a precipice and prices are about to plunge. Either way, risk remains high and the risk/reward is simply not there to warrant an entry. As I have said many times, sometimes the best trade is no trade at all!

Just click here to get J.W.'s "Profitable Options Strategies Report"



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