Dollar up, Euro Down?

As I’ve often discussed in my Chart School newsletters, there is an inverse relationship between the dollar and the euro. In addition, as the dollar goes, the stock & commodities markets have been going in the opposite direction. So, analyzing the dollar can give you some insight into the possible direction of assets such as the euro, stocks and commodities such as gold and silver.

First, let’s review the long-term chart of the DXY dollar index.

As you can see, the DXY bounced on its long-term uptrend line (black), as we would expect. Had the DXY broken lower, I would have expected the dollar to move lower, thus the stock market, euro and commodities to move higher. However, the DXY having held that support and moved higher, it is not a surprise that the euro, stocks and gold/silver have moved somewhat lower. So, what next?

Let’s take a look at the UUP next. The UUP is an ETF that “tracks” the movement of the dollar. If you wanted to profit from a move higher in the dollar, but didn’t want to trade currencies, you could buy the UUP.  Please review the chart below of the UUP:

Taking a closer look, you can see that the UUP has broken through its down trending resistance line. It also quickly came back down and retested that old resistance as a new support. This seems to validate the importance of this level. So, having broken through resistance, one would probably expect the UUP (dollar) to move higher.

What about the euro? Take a look at the FXE, which is the ETF equivalent of the euro:

You will first notice how the FXE and UUP look like mirror opposites of one another. More importantly, the FXE is currently sitting on its up trending support line. If the dollar continues higher, wouldn’t you expect the FXE (euro) to break lower?

The Tale of the Tape: The DXY has tested its long-term support and started to move higher. The UUP has broken through a key resistance level. All signs appear to point toward a higher dollar over the short-intermediate run. A long position in the dollar/UUP could be a great play. This might also be a bad sign for gold/silver, stocks and the euro.

If you choose to trade other assets based on this information, wait for a breakdown in the market you will be trading. For example, if the FXE were to break its key support, you might want to short the euro/FXE. The same could be applied to stocks or commodities like gold and silver.

No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.  Capital preservation is always key!

Good luck!

Christian Tharp, CMT

S&P rally seems to be over…for now.

Well, we’ve had it good for a couple of months now. The markets have run up somewhere around 15%, the elections are out of the way and QE2 is no longer a mystery. As a matter of fact, it would appear that the markets expectedly rallied in anticipation of those elections and the QE2 announcement. So, a pullback was probably to be expected. The question now becomes: How far will we pullback, or will a pullback turn into something bigger?

I decided to put together a quick update on levels to pay attention to on the S&P here in the short run. Please review the chart below with my notations:

As you can see, the S&P has recently broken below its trend line of support. The next level to watch would be the 1197-1200 area, as shown on the chart. If we break that level as well, I’d expect a fall to at least the 1150 area.

Also, do not forget my previous newsletters in regards to the stock market’s correlation to the dollar and commodities. If the dollar and commodities gain momentum in their most recent turns, the stock market could sell-off more than the typical pullback that is expected.

The Tale of the Tape: After a great run in the markets, a pullback appears to have started. The S&P has already broken one key level of support and seems to be preparing to break another in the 1197 area. If that level breaks, expect lower prices. Watch for stocks to pull back to lower levels of support for new entries in long positions. Possibly enter short positions depending on the extent of the selling.

Waiting for the most opportune times that I have outlined above could provide you with higher probability entry points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT

Are silver and gold done?

As most of you know from reviewing my previous Chart School newsletters, it is somewhat important to follow the commodity and/or currency markets to gauge the stock markets possible direction. Over the past several months in particular, there has been a direct link between the rising stock market, rising commodities and sinking dollar. If one of these markets were to show signs of turning, couldn’t that be helpful in recognizing the potential turns in the other markets?

For this article I would like to review commodities, specifically silver. Since silver and gold have been moving essentially lock in step, there is no need to review both. However, feel free to analyze gold and you will see similar aspects in what you will see with silver. Also, silver seems to be “leading” other metals higher. Earlier this week I noticed silver hitting an area of potential resistance.

Please review the following chart of silver with my added notations:

The first thing you should be aware of is the up trending resistance line I have drawn. Since this chart of silver only shows closing values, I extended the trend line to where silver would roughly meet that resistance. It would appear that silver would meet the trend line somewhere in the $29.50 – $30 area. So, isn’t it worth noting that silver hit an intraday high of $29.34 on Tuesday? Another question: Does the near-vertical trajectory of silver look sustainable?

An additional way to analyze silver would be to look at the silver ETF, SLV. This ETF would be a way for an investor to buy silver without actually buying the metal. But before looking at SLV, I’d like you to review Investopedia’s definition of a common candlestick pattern know as a Bearish Engulfing pattern:

The above candlestick pattern is common, and meaningful, when a security has went on a sustained rally. A similar candle pattern to a Bearish Engulfing (BE) would be a Dark Cloud Cover (DCC) candle pattern. The only difference being that the closing price of the DCC doesn’t “engulf” the previous day’s opening price. With that in mind, please review the 6-month chart of SLV below:

You will see that Tuesday’s reversal candle is at least a DCC candle, but it sure looks close enough to a BE candle as to not worry about splitting hairs. The implication is the same: A potential reversal has occurred. What adds more validity to the candle pattern is the volume on that day. The SLV had a 650% increase in normal volume on that day. If that doesn’t sound like the end of a run, I’m not sure what would be!

So, does this mean silver couldn’t make one more stab at its up trending resistance? Of course it doesn’t. Remember, technical analysis is more about probabilities rather than absolutes. The point of this analysis is to recognize that there may be reason to suspect a turn in silver, and of course gold with it. If a turndown in silver/gold were in fact happening this week, wouldn’t we also expect a downturn in the stock market?

The Tale of the Tape: Silver (and gold) appears to be showing signs of a reversal. The silver commodity has approached a long-term resistance and the SLV has formed a key reversal candle pattern on a massive increase in volume.  Taking a short position in silver could be considered, or, if the stock market does follow suit you might also look at potential short opportunities in the stock market. Considering the rallies that these markets are currently in, short positions would be aggressive, but the reward might be worth it. You would want to at least be cautious and protect any long positions.

Waiting for the most opportune times that I have outlined above could provide you with higher probability entry points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT

Keep your pants up!

As the saying goes: “Don’t get caught with your pants down!”

Last week the market broke to new highs on the Fed’s announcement of QE2. I am in the camp that the installment of another QE program isn’t necessarily good news in the long run. Regardless, the markets rallied nicely at the end of the day on Wednesday and then again on Thursday. In addition, financials finally got up “off the mat” and took part in the rally. So, does this mean the markets are embarking on a renewed up trend?  It would appear so, but it’s definitely not a forgone conclusion.

I have to admit that I was just as surprised as anyone when the markets hit new highs last week. Actually, I never even thought we’d be able to get back up to the April highs, let alone exceed them. As I began to re-evaluate this market’s latest move, this “surprise” reminded me of some other times I have been surprised by the markets hitting a new high.

Please review the following charts of the S&P 500:

The first chart is from the all time market top in 2007. I remember thinking that a bear market had probably started in July and August only to have us hit new highs in October. Hitting the new high surprised me, but it turned out to simply be a fake-out and the start of our current bear market.

The second chart is less than a year later. The 1400 area had been a very important price level for the S&P. So, breaking above it in May once again surprised me. As it turns out, this was a fake-out as well and down we went.

Now, am I saying that our recent breakout is a false one? Who knows? Interestingly enough, the markets have yet to follow through on Thursday’s breakout. If we pullback over the next week or so, which I fully expect, I will be curious to see how the volume pattern unfolds. If you look at the previous fake-outs and the selling that followed, volume accelerated on each move lower. If volume does not increase on any pullback, then I would expect that it is just a pullback. However, if we break back below our April highs and volume starts to pick up, I’d have to ask myself if something bigger has started.

Lastly, if you review my previous “Chart School” articles, you are aware of the link between commodities, the dollar and the markets. I would highly advise watching the currency and commodity markets as well as the stock market.

The Tale of the Tape: The markets have broken out to new highs. It would appear that the markets are heading higher. However, sentiment is high and the environment is ripe for a pullback, if nothing else. Watch the April highs. Watch the volume on any pullback. Look for breakdowns in gold/silver and to what extent they occur. Don’t get complacent and use your stops.

Waiting for the most opportune times that I have outlined above could provide you with higher probability entry points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT

What to watch for on Wednesday

As everyone knows by now, today’s elections and Wednesday’s Fed announcement are probably going to be pivotal in dictating the stock market’s next big move. For the most part, the market hasn’t moved much over the last week or two. So, what will the market do after Tuesday and Wednesday?

Well, it would appear that the market has rallied higher and higher based on the expectation of Tuesday’s election results and/or Wednesday’s Fed decision. This sounds a whole lot like the “buy on the rumor, sell on the news” set-up. But, does that mean the market is definitely going to sell-off this week? Right, if I knew the answer to that question then I wouldn’t need to analyze the charts! However, my belief is that the market is setting up for, if nothing else, a pullback of some kind. Let’s remember, the stock market has rallied around 15% over the last couple of months without any real pullback of any kind. So, if the market has rallied in expectation of this week’s events, then what would propel the market higher once the events are over?

And that’s my concern for the stock market: The market already expects Republicans to take control of at least the House. The market also already expects the Fed to announce its QE2 measures for the economy. So, if those reasons are supposedly why the stock market has rallied so well lately, then why would we continue higher once what the market expects actually happens? Once again, it sure does sound like the “buy on the rumor, sell on the news” scenario I mentioned above. Unfortunately, the market is never that cut and dry. Ultimately though, couldn’t the market itself tell us what it plans to do?

Please review the following charts:

On the first chart of the Dow, you will notice the channel that the Dow appears to be traveling within. The topside resistance does seem to be important to the Dow. However, the next (2) charts of the Dow and Nasdaq probably paint a clear enough picture of where we are. Notice that where we’ve been stalling over the last several weeks on the Dow, and recently on the Nasdaq, isn’t really a surprise. Both indices have approached their respective April highs and are now sitting tight. Ultimately, if the markets break above these levels, wouldn’t you expect the next move in the markets to be higher?

Lastly, although I have not included the S&P in this analysis, keep that index in mind if the Dow and Nasdaq do in fact break higher this week. The S&P still sits 2-3% below its April highs. The Dow/Nasdaq aren’t going anywhere without the S&P.

The Tale of the Tape: The markets have rallied strongly in supposed expectation of this week’s events. They now sit under formidable resistance. This would not be the most ideal time to enter new long positions. However, if the markets manage a clean break higher on STRONG volume, I would expect another leg up in this bull market. That being said, if for example the Dow cannot hold 11,000, I would expect at least a pullback in the market. Waiting for a better entry would be in order under that scenario.

Waiting for the most opportune times that I have outlined above could provide you with higher probability entry points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT