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The rally that started July 6 ran into serious resistance at the 200-DMA last week. Having worked their way through the 50-DMA earlier in the month, the bulls tried for the 200-DMA and failed in a big way.

gpc 8-2-1

On the intra-day chart, it is clear that we did have brief break above the 200-DMA at 1114, but resistance at 1,120 was “the line in the sand” as far as upward momentum goes.

Having been rejected at this level, stocks rolled over and plunged several times through support at 1,100. The bulls did manage to close the week above this level, but as the below chart shows, it was literally by their fingernails.

gpc 8-2-2

One thing is certain, the upward momentum was waning. Volume continues to dwindle on up turns which suggests that this rally is corrective and not the beginning of a new trend.

gpc 8-2-3

This “corrective” aspect is further supported by bonds which have totally failed to confirm this rally as indicating that “all is well.” Indeed, 30-year Treasuries remain at levels not seen since Round One of the Financial Crisis took place (October ’08-March ’09). If you’re looking for a single image to illustrate that investors are on “red alert” that the market could come crashing down, the below chart is it:

gpc 8-2-4

This rally in Treasuries is particularly interesting given that the US dollar has been plunging since hitting a year high of 88 and change in early June. As the below chart shows, the US dollar ran right up into resistance at its 2008 and 2009 highs. It has since retraced about 50% of the move up from November 2009.

gpc 8-2-5

A major reason why the dollar has corrected despite the apparent “flight to safety” seen in US Treasuries is due to the euro rally. The euro makes up more than 50% of the US Dollar Index. So a strong Euro translates to a weaker dollar.

Indeed, the euro has been on a tear since early June, NOT because of any improvement in the financial system there (the stress tests were a joke moreover Greece and several other countries have been posting abysmal debt auctions), but due to a sharp decrease in liquidity as banks have essentially ceased lending to one another.

gpc 8-2-6

Indeed, when you price the euro in Japanese yen, it is clear that the former currency’s rally is not translating across the board. Indeed, priced in yen, the euro rally is substantially smaller.

gpc 8-2-7

What all of this indicates is that stocks, which are dominated by computer trading, are very likely rallying on the “perceived” improvement of the euro situation/ drop in the US dollar. However, the “smart” money is not trusting this rally for a second and has been running to the perceived safety of US Treasuries.

Having been rejected at the 200-DMA at 1,114, stocks are now trading in a tight range between 1,110 and 1,090. A definitive break below 1,090 signals, especially on heavy volume, signals that we are likely in “the next leg down.” A definitely break above the 200-DMA, especially if stocks can break above that level and then bounce off of it, signals that we’ve got more room to the upside… possibly 1,131 on the S&P 500.

gpc 8-2-2

Source: My Weekly Market Forecast