The Caution Flag Is Flying

Random Thoughts

Lately,  I have been very concerned about the market. I don’t want to be a pessimist (probably wouldn’t work anyway) but the evidence has been there. The majority of stocks remain in downtrends while the benchmark S&P 500 continues to hang in there in a “what me worry?” fashion.

This has prompted me to dig within the Ps (S&P 500) to see which issues are propping up the Ps. The strongest issues within the index are mostly defensive in nature—Utilities, Energy, and Foods (see recent columns/newletters). My concern remains what will happen to the index, when, not if, these issues decide to correct. The pressure on this last index standing (fyi, I mostly ignore the Down) could change sentiment, and fast.

I am not trying to fear monger. I’m simply trying to point out what I’m seeing. I’m not calling the mother-of-all tops. I’ll let others do that. I don’t want to be a hero. Besides, as a trend follower, I’ll be a little late when that does occur anyway. What I am doing is raising the caution flag. Unless you really like a setup on the long side, then remain in “show me” mode. Wait to see if the Ps can truly make new highs and more importantly, wait for the breadth to improve—wait to see if something other than defensive issues joins in the party.

Let’s look at the scoreboard.

The Ps gained nearly ½%. Although they remain stuck in a sideways range, this action puts them just over ½% away from all-time highs. As I’ve been saying ad nauseam, taken at face value, this “ain’t too bad.”

The Quack (Nasdaq) had a decent day, gaining nearly ¾%. Unfortunately, it remains in a downtrend and so far, its new leg lower out of its recent pullback remains intact.

The Rusty (IWM) looks a lot like the Quack. However, it was only up ¼%. This is more indicative of what’s going on internally. Yes, stocks were higher on Tuesday but for the most part, they just bounced a bit.

You have to be careful not to take a mental stance and then look to the database to support your rigid opinion. You really have to believe in what you see and not in what you believe. Write that down. Working to keep an open mind, one thing that concerns me is that even in the strongest of areas—the Energies, I’m starting to see some issues begin to break down (e.g. BAS,EOG,NOV,HP). Are these Canaries in the coal mine? I am  also starting to get concerned that the Energies could be the last of the Mohicans and possibly priced for perfection.

When you look within sectors that have traded sideways as of late like the Semis, you begin see some deterioration under the surface. Notice the Equipment makers here “Bowtied” down and appear to have rolled over.

So what do we do? On the long side, the only areas that are really trending are Defensive issues and a few select other issues like the REITS. I’m not seeing much to get excited about here just yet. And, when I do see setups, I’m going to make sure I wait for entries just in case this is their last gasp. On the short side, I’m not seeing a whole lot of new setups either. This is normal when you look at the Quack and Rusty and see that they pulled back, triggered, and so far, appear to be resuming their downtrend. I suppose all of the above is a long winded way of saying that you might want to sit on your hands and let things shake out a bit. Quoting my buddy Peter Mauthe “Don’t invent trades.” This is especially true in this environment.

Futures are flat to weak pre-market.

Best of luck with your trading today!

Dave