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By HaleStewart February 7, 2015 9:06 am
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US Equity Market Review For the Week of February 2-5: Minor Upside Breakout Edition

            Last week, the economic news for the US economy was incredibly strong.  While it was somewhat panned in the press, the ISM manufacturing number printed at 53.5.  Save for concerns about the negative impact of the west coast port slowdown, the anecdotal comments were also strong.  The services number was better, coming in at 56.7 and, like the manufacturing numbers, also had strong anecdotal comments.  But by far the best news was the employment report, which had major upward revisions to the last year’s numbers and contained a very strong wage hike component (see here and here).  In an environment where corporate earnings are being hit by the strong dollar, the news couldn’t have come at a better time.

            The impact of these events can be clearly seen in both the treasury and the equity markets.  Let’s start with a 5 minute chart of the IEFs:

There are three major downward gaps on the chart, indicating strong downward momentum at the open throughout the week.  And, when the market tried to rally at the close of Wednesday, it was hit by a minor downward gap on Thursday morning.  Overall prices dipped about 2.3% moving from ~110.4 to ~107.8.

            The daily chart is still bullish, with two major trend lines.  But prices are a long way from these, giving them a fair amount of room to fall while still maintaining the market’s bullish tone.  Also note the overall weakening nature of the technicals: the MACD has given a sell-signal, relative strength is weakening and the CMF is declining.  The next logical price target on the chart is the 50 day EMA. 

            In contrast to the IEFs, the SPYs 5 minute chart is very bullish:

Prices gapped higher on Tuesday morning and continued to move higher in a disciplined and consistent manner for the rest of the week.  There are two minor sell-offs; one on Wednesday afternoon at the close and one on Friday going into the close.  Late Friday sell-offs are always concerning because they indicate traders don’t have enough confidence in the bull to hold positions over the weekend.  And, given the overall geopolitical environment, this concept makes sense.  However, given the tough trading environment that’s existed in January, traders can’t be faulted for wanting to take some money off the table going into the weekend.

            The best news for week, however, is seen on the daily charts.  Consider the SPY, IJH and IWM charts:

All three show prices breaking out of consolidation patterns, moving to the upside.  The SPYs and IWMs broke through the upper trend line of a symmetrical triangle pattern, while the IJHs moved through the top line of a rising wedge pattern.  This is a nice bit of trend confirmation, as three averages, each representing a different section of the market, are all doing the same thing. 

            The market is still facing incredibly strong headwinds coming from several different directions, starting with a strong dollar.  Depending on you source, S&P 500 companies get between 40%-55% of their earnings from overseas trade.  Even at the low end of the exposure spectrum, (40%), we’ve still got some pretty major headwinds on the currency front.  And, on that topic, international markets are weak; Japan is coming out of a technical recession, Australia has some underlying issues, Canada has to deal with weak oil prices, China is clearly slowing and the EU is limping along.  Tying these two elements together, profits from weaker overseas economies have to be converted into a strengthening currency, creating a negative double-whammy.  And then there is the negative impact of oil, as that is destroying the earnings of an entire economic sector.  The sum total of these events is to put a tremendous amount of downward pressure on the markets. 

     But, as was shown last week, the US economy is in good shape, providing a solid backdrop for continued earnings growth.  Last week, that was strong enough to overcome bearish sentiment.  But in this environment, it's certainly no guarantee that we'll see continued upward price movement.       

Hale Stewart is a former bond broker who has been writing about economics and financial markets since 2006 on the Bonddad Blog.  He is also a tax attorney with a domestic and international practice while also forming and managing captive insurance companies for US companies.   You can follow him on twitter at:@captivelawyer             



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