Unemployment Rate vs. S&P 500

Since the start of this month, my near-term outlook for the stock market has been cautious due to several non-confirmations of the S&P 500's new high. More on that tomorrow.

Today I thought I'd say something about the longer-term picture. Needless to say, the market has been in a secular uptrend since the lows of March 2009. All along the way there have been more than a few corrections, but the general uptrend for the market has remained intact in that time.

When considering the longer-term outlook, based on weekly and monthly charts as opposed to daily, a key question at turning points involves the likely severity of the turn. Is this trend change just a short- to intermediate-term counter-move within a larger secular trend, or is this current counter-trend move the start of a change in the overall secular trend? Perhaps the most important question facing investors. 

I monitor many longer-term, slower-moving charts that collectively help to get at the answer to this crucial question. One of them involves the unemployment rate vs. the stock market (S&P 500).

Source: Stockcharts.com

The chart above plots the S&P 500 (red line) with the unemployment rate (black line) and the 12-week or 3-month moving average (MA) of the unemployment rate (blue line). Not surprisingly, the S&P 500 and unemployment rate consistently exhibit inverse correlation. In my experience, when the unemployment rate breaks trend in meaningful fashion, i.e. when it clearly crosses through its 3-month MA, it tends to confirm a secular trend change in the stock market (S&P 500). Note the breaks in trend for the unemployment rate in 2000-2001 and 2007 with the rate rising above the 3-month MA (red circles), confirming the high probability of an ensuing bear market for equities. And vice versa when the unemployment rate has broken trend downward as in the early '90s, 2003 and early 2010 (green circles), offering further evidence or recognition of a favorable environment for stocks and that a secular bull market should take hold. 

The unemployment rate currently resides at 7.3% and the 3-month MA is 7.56%. At this point for the S&P 500 to gravitate into secular dangerous territory, the unemployment rate would need to increase to 7.7% or higher (again, want meaningful clearance through the MA, not by a hair). Until that happens, it remains clear sailing for equities in the long-term. 

Some quick updates

Apologies, I've been under strict time constraints this week necessitating a very brief update today.

As I've been writing for the last several days, the market continues to look vulnerable in the short-term. The recent rise has been met with developing negative divergences and other non-confirming red flags. For example, note the following chart:

Source: Stockcharts.com

The S&P 500 (red line) has made a new high but the Russell 2000 Index (green line) has not, a non-confirmation and establishing at least the start of a negative divergence. Also note the MACD is rolling over, exhibiting bearish-divergence tendencies similar to that in late July-early August.

Moving on to crude oil, and speaking of divergences, the commodity continues to move in the opposite direction of energy equities. Needless to say, this price action is highly unusual, as shown in the chart below.

The rolling 3-month correlation between crude oil (WTI) and energy stocks (XLE) is currently an astonishing -0.84, the lowest Coefficient since the inception of the XLE. Wow. The correlation between energy equities and their associated commodity has generally been positive with the rolling 3-month Coefficient usually well north of zero. I have to believe this relationship will soon revert to norm as it has in the past when the correlation has become negative. I'll repeat again that in my experience equities tend to lead their associated commodity and as shown in the chart above, the XLE (black line) remains in a nice uptrend despite the recent decline in crude oil (red line). That said I continue to expect crude oil to remain in its longer-term uptrend and eventually break higher.

In fact, the chart above shows that crude oil is currently at an inflection point with the rising trend line meeting a shorter-term descending trend line, forming a triangle.

Further serving as a tailwind for crude oil is my bearish take on the USD (see here and here). Crude and the USD tend to move in opposite directions and I continue to interpret the above chart of the USD as bearish. As I've pointed out before, note the complex head-and-shoulders pattern (red circles) including the breached neckline in September at around 81. The more recent snap-back rally to the neckline is fairly common behavior post-neckline breach, often followed by price rolling over. The USD is also currently facing dual overhead resistance via the neckline and the declining trend line (blue). Stay tuned.

Finally, as I anticipated, the Nikkei recently broke to the upside, successfully emerging out of its pennant formation. As previously discussed, pennants and flags are continuation patterns, meaning they typically develop within an existing trend and the next move in price is more often than not in the direction of the existing trend -- in this case, up.

What's wrong with this picture?

I find the set of charts below to be a bit odd and of some concern. The S&P 500 Index has recently surged to new highs and yet none of the nine major sector SPDRs have attained a new high relative to the Index. Industrials (XLI) are close, days ago hitting a new relative return high, but have since retrenched. Consumer Discretionary (XLY) also registered a new relative high near the start of this month, but has yet to do so again with the S&P 500's latest move. 

I fully understand this observation is very short-term in its focus as the S&P 500 broke to new highs only last week and relative performance can lag initially before taking hold and establishing a trend. In other words, these relative charts could look quite different in another week or two. 

However, I've already noted that cap size is not confirming the market's latest rise and based on the charts below there's so far not much definitive sector leadership. And I'd also mention that with this new S&P 500 high the percentage of NYSE stocks above their 50-day moving average has risen to 69% -- a seemingly elevated number until you consider that during the prior new high in the Index the number was near 85% and with the S&P 500 high prior to that the number was 75%.

I continue to let prudence dictate at this juncture, meaning I remain cautious and hesitant near-term. For me to return to bull mode will require better resolution of these non-confirming red flags.

Source: Stockcharts.com

Cap size not confirming S&P 500 new high

With the S&P 500 recently hitting a new high, it's once again all systems go and off to the races, right? Not quite. Any which way you slice it, cap size has yet to confirm the market's new high.

Source: Stockcharts.com

Market continues to look dicey near-term

As I've been writing since the start of this month, the near-term stock market outlook has looked weak, showing signs of wanting to pullback or correct. In that time, the S&P 500 has more or less traversed sideways, as shown in the daily chart below.

Source: Stockcharts.com

Note that a negative divergence is developing in the stochastic, with the S&P 500 flat and yet the stochastic trending down. Also, the MACD has registered a sell signal (blue circles). In the recent past, the market has retrenched under these conditions. Support resides at 1720 and 1700.

The following chart also depicts some foreboding indications.

The percentage of NYSE stocks above their 50-day MA (red line) is now at 61%, steadily trending lower since its peak of 85% attained last month. A rising S&P 500 coupled with a declining % of issues above their 50-day MA is typically a bearish harbinger with price weakness often the outcome. The VIX (green line) has submerged below 13, suggesting sentiment has become a bit frothy and complacent. A low VIX number in isolation is not necessarily bearish as the VIX can remain at repressed levels for months during a rising market environment. However, coupled with weakening internals as per the $NYA50R as an example, a low VIX index takes on new meaning.

In prior posts this month, I've written that the market could indeed correct via time as opposed to price and so far it appears to be doing so as it consolidates sideways. But I still remain cautious in the short-term, preferring to hold all stop-loss sells as cash and await a more opportune time to reallocate into active positions. My mantra: always side with prudence, risk control and discipline.

FIVE Alive!

I also considered using "Five Below is Heading Up!" as a blog post title; I struggle with the titles. More importantly, the chart of Five Below (FIVE) looks terrific, exhibiting several bullish features.

Source: Stockcharts.com

The daily chart above shows FIVE carving out a triangle formation from April to July with a breakout occurring in July. Price then ran to just shy of the prior high at $42 only to retrench back to the lower boundary of the triangle. In September, price made a run in the first week of the month and then gapped up on very high volume to near $48, breaking out of both the triangle and prior highs at the $42 level. During the latter half of September and first half of October, shares of FIVE retraced about 50% of the gap up ("filling the gap") with a pennant formation eventually developing. Pennants are continuation patterns, meaning odds greatly favor the ensuing breakout to occur in the direction of the existing trend, in this case being up. The breakout in mid-October did indeed serve to continue the trend as the stock price climbed to near $50. FIVE traversed sideways for several days between $48-$50 and on Monday the stock once again broke out to new highs above the $50 level.

The relative chart portrays a similar picture:

The relative price of FIVE vs. SPY more clearly depicts a cup-and-handle formation including the breakout of the handle more recently -- all bullish.

I am obviously very bullish on the stock given the chart and technicals, but the CFA side of me also very much likes the fundamentals and growth drivers for the company. Five Below is a chain of stores that sells items for no more than $5. The company was founded in 2002, went public last year at $17, and now has over 250 stores. The primary audience for FIVE is the youth/teen market, affording the company no direct competitors. Its square footage growth and profitability metrics are some of the best in the retail industry. The company is expected to experience 25% annualized growth over the next several years with the target being 2000 stores nationwide.

I can't help but compare FIVE to its cousins, the dollar store stocks:

Over the last four years, DG, DLTR and FDO have easily surpassed the performance of the S&P 500. And up in Canada, Dollarama has simply blown away the performance of the TSX. My hope and expectation is that FIVE will do something similar to these stocks, if not better.

(Disclosure: I have owned FIVE and still do. I will report here before I sell, if and when I ever do.)

TSLA: Time to Sell

As they say, all good things must come to an end. After the close yesterday, Tesla (TSLA) reported what appeared to be better-than-expected earnings, but investors disagreed and the stock is off about 10% this morning. 

TSLA was the subject of one of my first posts on this blog, entitled "Tesla: Earnings, Smernings!" I highlighted several bullish items for TSLA, not to mention a classic breakout from a base on high volume. With periodic follow-on posts, trailing stops were discussed as being appropriate and prudent.

With today's action, I believe taking gains are in order.

Source: Stockcharts.com

The chart above highlights my April 4th bullish blog post (green circle) when the stock price was $44. TSLA soared to a peak of just beyond $190 before breaking the uptrend and working lower since late September. Note the 50-day MA was never breached until last month. I've also plotted the 10-day and 20-day MAs with the 10-day MA recently plunging through both the 20-day and 50-day MA, and the 20-day MA getting below the 50-day MA as well -- first-time occurrences since early April and clearly an indication of potential trend change (down). In addition, with the April breakout note the RSI (upper inset) remained above 50, frequently eclipsing 70, a bullish condition, and yet last month the RSI broke down through the 50 threshold and since then remained more/less sub-50 -- bearish.

With today's gap down in price, I wouldn't be surprised to see TSLA enjoy a brief relief rally. Such high-momentum stocks with great fanfare typically do not fall off a cliff overnight. Rather, during moments of abrupt and significant weakness, many view the price decline as an opportunity to enter the high-flyer stock at a steep discount, driving the share price north. But very often such a rally is anemic and fleeting as many holders who have ridden the stock higher for months (smart money?) look at this bounce-back in the stock as a good time to dump the shares given the previous gap down or weakness, and the stock resumes its descent. That doesn't have to happen in this case, obviously, and may not, but in my experience I've observed it happening quite often and I prefer to be on the side of prudence and risk control. One can always re-enter the stock, and frankly a relief rally doesn't have to occur at all and the stock could just head lower from here.

The bottom line is after what peaked at a 335% gain when the stock was hovering above $190, I would have no problem settling for "just" a 260% increase today. It should always be about discipline, risk control and letting the stock (i.e. price, volume, indicators) tell you when it wants to be sold.

Time for a pause?

In recent posts, I've been commenting that while the market outlook remains healthy, in the near-term some red flags or grey clouds (pick your color/noun) have been appearing, suggesting a reprieve or pause was in order. Such worrisome developments have not dissipated, but rather have grown in number.

Mind you, the daily chart of the S&P 500 shows a bullish uptrend:

Source: Stockcharts.com

The Index broke out of a rising wedge last month, an occurrence that is quite rare according to Tom Bulkowski's web site where he cites the breakout for rising wedges is down 69% of the time. Support now resides at the upper boundary of the wedge (1750), followed by the prior high of 1725 in September, and then the high in early August combined with the 50-day moving average, both at around 1700.

The hourly chart of the S&P 500 has me concerned:

Note during the rally in the latter half of last month, the rise went parabolic, with trend lines becoming increasingly steep. The ascent broke down on October 30th, followed by the Index trying to rally only to fail. Again, keep in mind this is an hourly chart with its implications being very near-term.

Other indications for an imminent pause include small-cap vs. large-cap performance:

Source: Stockcharts.com

In the chart above, the lower inset shows the IWM vs. SPY relative return and it recently broke an uptrend and has not been able to make a new high with the S&P 500 (upper inset). 

Another related indication is high-yield bonds vs. T-bonds:

The lower inset depicts the relative return of high-yield bonds vs. T-bonds with the uptrend broken in September and relative performance stalling, not yet confirming the stock market's new high. 

Finally, cyclicals vs. staples exhibits a similar picture:

The relative return of cyclical stocks vs. staples broke its uptrend last month and has yet to make a new high. 

In sum, all three risk-on/risk-off metrics (cap size, fixed-income quality, cyclical/non-cyclical equities) have not (yet) confirmed the S&P 500's new high, suggesting risk-off sentiment could be taking hold which would further suggest a pause is in the cards. A pullback to 1725 is a 2.5% correction from the peak, and to 1700 is 4% off the peak, nothing cataclysmic or overly alarming. And as I wrote in my last post, "the overbought condition can be worked off via time rather than price, meaning a sideways consolidation could do the job as opposed to a decline."

Is the market rally running out of steam?

In my post last Friday, while reiterating that the longer-term market outlook remained bullish in a clearly-defined uptrend, I did mention that some grey clouds were rolling in and a reprieve or pause in the advance would not be surprising. I specifically cited the weekly S&P 1500 New Highs-New Lows Percent, noting when it registered 20 or more it typically indicated an overbought condition with a pullback often ensuing. 

The following chart serves to further (grey) cloud the issue:

Source: Stockcharts.com

In the upper inset is the S&P 500 and in the lower is the 50-day moving average of NYSE stocks making new 52-week highs. Note the unsettling negative divergence. The S&P 500 has been making new highs and yet the 50-day MA of NYSE new highs is lagging, quite dramatically. It's normal for this indicator to be climbing out of a valley or low point when the S&P 500 is just establishing the first new high off an intermediate low (see late 2010 and late 2011 into early 2012, for example). However, YTD the S&P 500 has been in a steady uptrend populated by brief setbacks, and yet since March the 50-day smoothed NYSE new highs has been repressed and downtrending. Similar divergences occurred in 2007 and 2011 with the adverse repercussions to follow being severe. 

I'm not suggesting that we're headed for gloom-and-doom, to sell all stocks and move to cash. I always prefer to wait for price confirmation with regards to any developing divergence. Yet it goes without saying that this indicator bears close watching.

I thought I'd also show the following chart:

The lower inset shows a 10-day moving average of the NYSE up/down volume and in the upper inset is the S&P 500. By all accounts, this indicator appears to behave more as an overbought/oversold oscillator. When the 10-day MA up/down volume approaches 200, the market is extended and thereafter frequently consolidates or retraces, and vice versa at the -200 level. With the S&P 500's recent rally, this indicator has been heading south, further inferring a reprieve is imminent.

Assuming a short-term correction occurs, I would expect the next stop to be the 1700 level, more/less the area of prior highs. But the overbought condition can be worked off via time rather than price, meaning a sideways consolidation could do the job as opposed to a decline. Stay tuned.