[Submitted Friday before market open]
Was yesterday and the day before just a hiccup in a continued uptrend? Was it the start of a small correction; or the start of a major pullback? For me these terms amount to a "hiccup" equaling a pullback to 1470 -1490; a "small correction" amounting to a pullback to 1450-60; and a "major pullback" taking us below 1440. As we noted on Feb 8, we thought there was the potential for a small correction. Now some other signals have changed to indicate a correction is more likely, and could be larger than originally thought. However, I believe that this pullback will only last another 7-14 days and that the market will make new highs yet this year.
Last night the EU announced an expected economic contraction of .3 percent for 2013. This was a change from previous expectations of an expansion of .1 percent. This does not bode well for prospects going forward, and lowering expectations by stock analysts or government economists frequently comes in bunches.
Oil prices have experienced a rough couple of days. Oil is basically flat on the year. According to Goldman Sachs head commodities analyst Jeffrey Currie, "The sell-off brings prices in line with underlying fundamentals." Be that as it may, the reason for the sell-off could have been predicting coming risk-off.
Also putting some traders and investors on edge is the fact that gas prices rose every day from January 17 to February 20th. With average gas at the pumps at $3.77, it has reached a level that has historically coincided with slower growth in consumer spending. This may be because the extra money spent putting gas in the tank can really take away from money spent elsewhere, especially for the middle and lower class. It may affect discretionary purchases, potentially throwing off earnings in retail stocks. This average gallon price could be enough to lower consumer confidence, which would cause the markets to get worried.
Below are other issues that are better viewed on charts.
The vast majority of the volume the past two days has been from sellers. This indicates distribution. It indicates buyers are far less aggressive on the day, and that there is less demand in the short term. This can indicate sellers taking control.
The S&P (SPY) closed at 1502 yesterday, and is up .5% as of this writing. As you can see in the chart below, it bounced off the Kijun at 1496. You can see that if it breaks through that support, the next support is 1480 and then 1456.
As you can see in the 20 Year Treasury ETF (TLT) chart below, the price broke above the top of the channel. Unlike the analysis two weeks ago, this chart has changed fundamentally with the break above the channel top. That price had followed along in the channel for two months.
The dollar is a huge barometer of the global economy and markets. If the EU feels that deflation is a real threat this year, it may have to lower rates. This would provide a boost to the U.S. dollar and may have a compressing effect on the U.S. market. The dollar (UUP) broke above a downward trendline on Monday and now faces the key range of 81.50 to 82. This level has proved to be major support and resistance before. I am fairly convinced of a correction, but if the dollar breaks above 82, I think it could be larger than I currently anticipate.
High Risk, High Yield Bonds
Junk Bonds (JNK) are also a useful indicator. As you can see in the chart below, they were up slightly today, but the price stopped right at the 21 EMA (exponential moving average). You can also note the upward trendline below. Similar to the TLT chart, JNK has been supported by the trendline on its march up for a few months now. A break of this trendline would further indicate a larger pullback.
As expected, the VIX spiked up yesterday and today. The 15 level has been a level of support and resistance the past 3 months. A close above that is not inconsequential. It only adds to my belief in a correction.
Banks have led the past two months. As a market barometer, this is not a positive sign. The bank ETF I watch the most (XLF) is sitting exactly on the Ichimoku Kijun (that's like a moving average). Like all of the other charts, this has been in a trend for over two months. A break below this would confirm a correction on the S&P to towards 1460, in my opinion.
All in all, I think the market is poised for a correction towards S&P 1460. If the dollar index breaks above 82, I think you could see the S&P go lower. I believe that the market will test highs again this year though.
Being that timely VIX purchases were one of my top ideas for 2013, I think I would take this opportunity to buy some VIX April 18 calls for 1.20 to provide some piece of mind.
Disclaimer: We do not know your personal financial situation, so the information contained in this article represents my opinion, and should not be construed as personalized investment advice. Past performance is no guarantee of future results. Do your own research on individual issues.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.