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Wait For The Bulls To Give Up

|Includes: IWM, QQQ, SPDR S&P 500 Trust ETF (SPY)

It was another rough close for the stock market on Wednesday even though the release of the FOMC minutes caused a brief bounce it was followed by further selling into the close. Overseas markets are sharply lower again ahead of the US opening as some analysts are now looking for a market crash.

The stock market's grind lower as been met with several sharp rallies as bargain hunters periodically jump back into the market. This action has prolonged the decline as it has caused many to question their bearish forecasts and prematurely cover their short positions.

The downtrends in the market's advance/decline lines have pointed to a market correction since June and while they tried to firm on Monday they have again dropped sharply with Wednesday's close. Before this market can complete its correction we need to see signs of capitulation and panic selling.

This should be signaled by an extreme reading in the ARMS index (2.5-3.0) and an increase in the VIX to the 18-20 area. This may require a decisive break in the S&P 500 below the 2050 level . In the latest AAII survey the bullish % of individual investors dropped back to 26.82% and another drop to the 20-21% level is likely needed before the market can bottom.

Clearly China and crude oil are driving the market lower at this time as the downside price targets for crude are getting more bearish. There are clearly no technical signs of a bottom for crude oil but a the topping action in the dollar index that I pointed out on Friday could help support crude in the weeks ahead.

A technical look at the key market tracking ETFs reveals that the small caps continue to look the most vulnerable while the Nasdaq 100 continues to hold up much better.

  • The NYSE Composite came very close to the August 12th lows on Wednesday.
  • A break below this level would make a drop to the monthly support at 10,4234 more likely.
  • This is about 2.3% below current levels and the weekly starc- band is at 10,381.
  • The declining 20 day EMA was tested Tuesday, a classic sign of a failing rally.
  • The NYSE A/D line failed to move above the July peak early this week and has now dropped below its WMA.
  • As I have been pointing for some time (Narrow Advance Warrants Caution) the lower lows in the A/D, line d, was a sign of weakness.
  • The McClellan oscillator has dropped below support and could move back to oversold levels.
  • It could form a positive divergence in the next few weeks.
  • Resistance now at 10,800 and then at 10,942 which is the quarterly pivot.

The Spyder Trust (NYSEARCA:SPY) dropped sharply below the daily starc- band last week before rebounding.

  • It has been able to hold the quarterly pivot at $207.38 on the recent declines so today's close is likely to be important.
  • There is more important support in the $204.11-$205 area, line f.
  • The March low was $202.51 which is 2.7% below Tuesday's close.
  • The S&P 500 A/D line moved slightly above its downtrend, line g, on Monday.
  • The pattern of lower highs was still intact and the A/D line is now back below its WMA.
  • The A/D line also still shows a long term pattern of lower lows, line h.
  • The daily OBV is in a steep downtrend, line i.
  • There is resistance now at $210.68 and then $211.45.

The PowerShares QQQ Trust (NASDAQ:QQQ) reversed sharply Tuesday but is still well above last week's low at $108.22.

  • The quarterly pivot is at $107.43 with further support at $106.50.
  • In early July the QQQ had a low of $105.83 while it reached $104 in late March.
  • The Nasdaq 100 A/D line has been diverging from prices since June when it formed sharply lower highs
  • This key level of resistance, line c, has been slightly overcome twice in the past month.
  • The A/D line is now below short term support but is still well above the July lows.
  • The daily on-balance volume (OBV) spiked in July but has since formed sharply lower highs.
  • The OBV is close to breaking support at line d.
  • There is strong resistance now in the $111.80-$113 area.

The iShares Russell 2000 (NYSEARCA:IWM) made a new high in June that was not confirmed by the Russell 2000 A/D line (point 1).

  • The rebound Monday again failed at the declining 20 day EMA with the quarterly pivot at $124.20.
  • The daily starc- band is at $116.88 with monthly pivot support at $115.60.
  • There is a band of long term support in the $114-$116 area.
  • The Russell 2000 A/D line violated important support in early July which confirmed the bearish divergence.
  • The A/D line made further new lows on Wednesday.
  • The daily OBV dropped below important support on August 12th and has plunged further over the past week.
  • There is initial support in the $121.40 to $123.53 area.

What to do? Over the past two weeks there have been several days where the early selling was well absorbed as the major averages closed well above the day's lows. This has kept the market from reaching a selling climax as the bargain hunters have supported the market.

Since July I have been waiting for clear signals from the A/D line that the correction was over but they have not occurred. Given the market tone it seems like we need to see a selling climax and capitulation by the bulls before a bottom can be completed.

Therefore I continue to recommend a patient approach (Please Wait Until The Dust Settles) as any new buying should only be considered in those sectors and stocks which are already identified as new market leaders.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.