Daily State Of The Markets: Is It Still All About Oil?

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Includes: BNO, DBO, DIA, DNO, DTO, DWTI, IWM, OIL, OLEM, OLO, QQQ, SCO, SPY, SZO, UCO, USL, USO, UWTI
by: David Moenning

There is no denying that the U.S. stock market has enjoyed a dramatic turnaround over the last 25 trading days. The S&P 500 has rallied 12.05% since the February 11 low, the DJIA has added nearly 2,000 points (1942 to be exact), and the NASDAQ has gained 12.4%. Not bad, not bad at all.

On February 11th, traders thought the oil bust was going to drag the U.S. economy into recession. On February 11th, the worry was that the banks were in trouble. And on February 11th, the bears were firmly in control of the action.

Then it happened - the expected oversold bounce began. As is usually the case in this type of situation, stocks surged up from an oversold condition. Things had simply gotten too negative. Three days later, the most recent leg down had been erased and things were looking/feeling a bit better.

Even the most ardent bear expected this bounce. Everybody knows that stocks rarely, if ever, move in a straight line and when the environment becomes as negative as it had been in mid-February, a dead-cat bounce is just part of the game. But few gave the move much chance of continuing as the damage done to the markets had become severe.

But continue it did. Right through the near-term resistance. Right through the key moving averages. And right through the Fibonacci retracement levels - despite the fact that all of the above were expected to provide to stop this bounce in its tracks.

S&P 500 - Daily
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So, 25 trading days later, the stock market appears to be out of the danger zone and the bulls are talking about new all-time highs.

The Question of the Day Is...

But before we get too excited, it is important to take a step back and look at the causes of the rebound and then to try and answer the obvious question: Is the move sustainable?

If investors have learned anything since the credit crisis, it is that when things start to get bad, the world's central bankers have tended to saddle up their white horses and ride to the rescue. Over and over again. And sure enough, this time was no different.

Just about the time everyone was sure that the bears were back and that a replay of 2008 was at hand, the People's Bank of China, the Bank of Japan, and Mario Draghi got busy. And by now, every trader worth their salt knows how to play the central bank intervention game.

Along with surprise moves in China and talk of more QE in Europe came improved economic data in the U.S. And by the time Super Mario got around to actually firing his QE bazooka, stocks were in the process of discounting better days ahead.

To be sure, things have improved in the markets. The economic outlook is a better. The banks are better. And my longer-term, big picture indicators are better.

However, it is important to recognize that oil too has enjoyed a strong rally over the period of time in question. And given that stocks and crude have been joined at the hip for quite some time now, I have to question whether the current rally is anything more than a continuation of the oil correlation trade.

Lest we forget, the USO has popped more than 32% during the stock market rally. And while the daily correlation between oil and stocks seems to be fading a bit, the bottom line is that when oil goes up, stocks go up.

US Oil Fund (NYSE: USO) - Daily
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It is important to recognize that oil probably doesn't have to continue rally for stocks to improve further. The key was for crude's rude move to end. And with oil now up off the mat, the argument can be made that the chance of contagion now must be reduced as well.

However, as the weekly chart of oil shows, the situation in the oil patch isn't suddenly "all better now."

US Oil Fund - Weekly
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Then if we take a look at the weekly chart of the S&P 500, it is fairly clear that we should perhaps keep the champagne on ice for a while yet - at least until the bulls can break the downtrend and/or make a new high.

S&P 500 - Weekly
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In summary, things have definitely improved for stock market investors on many fronts and we may indeed be out of the danger zone. However, until stocks can decouple from oil and show that they can rally without the help of green arrows in the oil pit, I'm going to try and curb my enthusiasm.

In short, my plan, as always, is to stay in tune with the overall risk/reward environment, which, at this stage, means a high neutral to moderately positive stance.

Publishing Note: My father had extensive open heart surgery late last week. As such, my oftentimes meandering morning market missive will be written as time permits for the next week or so.

Today's Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

Major Foreign Markets:
Japan: -1.25%
Hong Kong: +0.06%
Shanghai: +2.15%
London: -0.24%
Germany: -0.21%
France: -0.63%
Italy: +0.35%
Spain: -0.18%

Crude Oil Futures: +$0.23 to $39.53

Gold: -$10.00 at $1244.10

Dollar: lower against the yen, higher vs. euro and pound

US 10-Year Bond Yield: Currently trading at 1.904%

German 10-Year Bund Yield: Currently trading at 0.235%

Stock Indices in U.S. (relative to fair value):
S&P 500: -5.30
Dow Jones Industrial Average: -24
NASDAQ Composite: -11.15

Thought For The Day:

No one can make you feel inferior without your consent. -Eleanor Roosevelt

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

1. The State of the Oil Crisis
2. The State of Global Central Bank Policy
3. The State of the Stock Market Valuations
4. The State of Global Growth

The State of the Trend

We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 6 months, and long-term as 6 months or more. Below are our current ratings of the three primary trends:

Short-Term Trend (1 - 3 Weeks): Positive
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend (1 - 6 Months): Neutral
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend (6 - 18 Months): Moderately Negative
(Chart below is S&P 500 daily over past 2 years)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:

  • Key Near-Term Support Zone(s) for S&P 500: 2000(ish)
  • Key Near-Term Resistance Zone(s): 2080

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...

  • Trend and Breadth Confirmation Indicator (Short-Term): Positive
  • Price Thrust Indicator: Positive
  • Volume Thrust Indicator(NASDAQ): Positive
  • Breadth Thrust Indicator (NASDAQ): Positive
  • Short-Term Volume Relationship: Positive
  • Technical Health of 100+ Industry Groups: Moderately Positive

The Early Warning Indicators

Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

  • S&P 500 Overbought/Oversold Conditions:
    - Short-Term: Overbought
    - Intermediate-Term: Overbought
  • Market Sentiment: Our primary sentiment model is Neutral

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.

  • Weekly Market Environment Model Reading: Moderately Positive