Side Street

Five Signs the Rally Is On Hold

Last week's pause / drop in stocks was relatively mild and shallow as far as these things go and it was also the Most Anticipated Pullback in History. Market participants freaked out anyway, lulled into complacency by how utterly benign and tranquil the tape has been for so long now.

I've been talking about my hesitance to add new positions for a bit over a week now, while remaining upbeat about the potential for the coming year. It's a nuanced posture, one that is not always easily communicated in the media. The metrics we watch have been indicating a "hot stove" environment - fun to trade but not historically rewarding for initiating new longs.

Take the last two years as an example -- had you done a lot of your buying in the early spring it would have taken you almost the whole year to have gotten back to even. Markets peaked in the first quarter of both 2012 and 2011 after getting off to fast starts -- spring and summer witnessed corrections and consolidations followed by the end-of-year run once it became clear that apocalypse had been averted. Jeff Hirsch at the Stock Trader's Almanac has looked at this tendency to peak out early through the lens of seasonality, see: Like It or Not, There is a Rhythm.

With the rolling fiscal cliffs facing us beginning next week and running through May, I wouldn't be shocked to see a similar pattern for the indices play out in 2013.

But -- BUT! -- the recent action beneath the tape -- in the oscillators and summation indexes and internals and breadth measures -- leaves much to be desired for a continuation of the rally in the near-term. My friend Ivanhoff lists some of the concerning signs that have developed in his StockTwits 50 week in review piece this weekend:

1. Distribution days are piling up.

2. Short-term volatility and correlation are picking up.

3. Dividend-paying, defensive stocks (consumer staples) are leading the market.

4. The deterioration among momentum stocks as a group has accelerated. The St50 index dropped 1.5% for the week.

and the fifth sign that the rally is on hold comes to us courtesy of JC Parets at All Star Charts. JC talks a lot about Relative Strength Index (RSI) as a measurement of market momentum. A healthy rally features underlying momentum headed higher concurrently with stock prices. And when momentum slows, like a tennis ball you've tossed in the air, the drop can be expected to happen shortly afterward. Below JC looks at the bearish momentum divergence in the S&P 500 -- prices close to highs (upper pane) while underlying momentum deteriorates (lower pane):

Take a look at RSI this week make a much lower high as prices started the week off with fresh highs before rolling over. The divergence is clear and is a major warning sign for us.

Now of course -- the items that Ivanhoff cites can ameliorate quickly -- cyclical stocks can resume leadership and sellers can disappear. In addition, fresh momentum can come back to bolster the tape and wipe out the above illustrated divergence.

But it is also very likely that the rally remains on hold or turns to a correction in the near-term as these issues sort themselves out.

Something to think about before throwing another tranche of buying power at a tired tape.

Sources:

StockTwits 50, February 25 (StockTwits)

Bearish Divergence Developing in S&Ps (All Star Charts)

Read Also:

Like It or Not, There is a Rhythm (Stock Trader's Almanac)

Allow me to enlighten you... (TRB)

THE BLOG: http://www.thereformedbroker.com/2013/02/24/five-signs-the-rally-is-on-hold/

The Bearish Divergence Comes to America

It looks to me like the US Stock market is finally joining this Bearish Divergence party that we’ve seen throughout Europe this year. I think this is a development that is definitely worth paying attention to. You see, when prices in a given asset class make new highs, we also want to see momentum putting in higher highs. When momentum diverges, it’s a heads up that something isn’t right. Think about it, when you throw a tennis ball up in the air, momentum in the speed of the ball is going to slow before it eventually hits its peak and reverses right? Same thing in markets.

In our case, we use the Relative Strength Index (RSI) as our momentum indicator of choice. We saw this oscillator diverge out in Europe throughout January, and we’re currently watching the consequences. The EuroStoxx50 is down over 8% for February. Italy is down over 13% from its January highs, Spain is off more than 10%, and even the “quality”, Germany and France, came off 6% and 7% respectively. All of these following bearish divergences between price and momentum.

Now we’re seeing this develop in the US. Take a look at RSI this week make a much lower high as prices started the week off with fresh highs before rolling over. The divergence is clear and is a major warning sign for us.

We’re also seeing this development in a few of the other averages. Here are the Midcaps and Transports as two more quick examples:

I think it’s important to point out that this is happening. Last summer we saw the complete opposite occurring. Prices in S&Ps were making new lows into early June while RSI was putting in a higher low. While everyone was worried about Europe splitting up and the S&P500 breaking below the 200 day moving average, momentum was telling us that things were much better than the headlines would represent. In fact, Oil and Precious Metals were putting in Bullish Divergences as well. So I think it’s only fair that we mention the bearish side of it now.

Also see:

Bullish Divergence in Silver (August 14, 2012)

Bullish Divergence in Crude Oil – Bloomberg Radio (June 19, 2012)

Bullish Divergence in Euro, Bearish Divergence in US Dollar (July 17, 2012)

THE BLOG: http://allstarcharts.com/bearish-divergence-developing-in-sps/

Euro PMI Crashes the Party

The cocktail for the early 2013 rally is not unfamiliar to investors -- its the same package that drove stocks in early 2011 and 2012. The U.S. has modest growth, China will accelerate and take the world with it, and Europe "can't get worse". But in 2013 I suppose we can add the "Japan is the next U.S." in terms of debasing and printing.

There has been little rebound in economic activity in Europe the past few months, but the data has been so bad that on a relative basis there has been improvement. Things went from putrid to awful and Wall Street is a relative expectations game -- "beat expectations" -- and that's been good enough for markets. Ironically, one of the drivers of the 2013 rally (the relentless drop in the yen) could become a major thorn in the side of the "it can't get worse in Europe" meme, as it potentially impacts Germany's export machine. On a relative basis German goods get more expensive to Japanese goods each day the yen free falls. (Note -- the data has not reflected this yet as German manufacturing was one of the bright spots in today's data.) Overnight we have the flash purchasing managers index data from Europe and things have gone in the other direction... i.e. they can get worse.

The Markit preliminary euro-zone PMI for February fell to a two-month low of 47.3 from a January reading of 48.6. A reading of less than 50 signals a contraction in business activity. Economists had forecast a reading of 48.5.

While the U.S. and Japanese market's have "decoupled" the last few weeks, major European markets (ex UK) are back to flattish /negative for the year.

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Futures are down a bit on the news flow so we'll see how quickly this is bought, as every dip -- however shallow -- has seen buyers show up this year. Yesterday's lack of afternoon buyers was certainly the exception rather than the rule in 2013. But it takes more than one burnt hand at the stove to stop the Pavlov dogs.

Via Bloomberg:

• Euro-area services and manufacturing contracted at a faster pace than economists forecast in February as the economy struggled to recover from the deepest recession in almost four years.
• The euro-area services index fell to 47.3 in February from 48.6 in January, its steepest drop in 10 months, today's data showed. The manufacturing gauge slipped to 47.8 from 47.9.
• In Germany, Europe's biggest economy, the services measure fell to 54.1 in February from 55.7 last month, the sharpest decline since August. The German manufacturing gauge rose to 50.1, moving into expansion for the first time in a year.
• France's services gauge fell to 42.7 this month from 43.6 in January, while its manufacturing index increased to 43.6 from 42.9, today's data showed.

As for the Fed I still expect easy money for years... many speculate the minutes were just a trial balloon by the Fed to see market reactions. If they still require such balloons to see how dependent markets have become on the constant babysitting necessary by the central bank, they have not been paying attention.

Bigger picture for the first time in a long time, bad news mattered yesterday. A change. Long uptrends however don't usually just reverse in one strike, so the nature of the buying / rebound will be of particular interest. While the Feb 4th reversal was sharp on the indexes (and immediately reversed the next day) I saw MUCH more damage in individual names yesterday than on the 4th.

THE BLOG: http://www.marketmontage.com/2013/02/21/the-it-cant-get-worse-in-europe-rally-loses-steam-on-flash-pmi/

Homebuilder Momentum Breaking Down

I present the weekly chart of Home Depot first below to illustrate the longer-term RSI divergence (top pane of chart) which has been building. Home Depot has essentially gone flat for the past several weeks. And this divergence is still worth watching as we await the next big move.

Along those lines, the homebuilder ETF daily chart, second below, has been relatively weak over the past few sessions after several quarters of strong market outperformance. Here, again, the top pane shows us a negative RSI divergence to price.

The notion of a resurgent housing market has become increasingly accepted in recent months. With lumber weak the past two days, keeping an open mind that upside may be limited from here for the sector, as good news has been priced in, is important as we watch these divergences play out one way or the other.

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THE BLOG: http://ibankcoin.com/chessnwine/2013/02/20/pimps-and-homebuilders/

Wall Street Is Clearly Betting on the Sequester Happening

We're getting down to the wire and if nothing is done, automatic spending cuts will go into effect. The conventional wisdom seems to think the cuts will happen.

Fortunately, I have a better tool than the conventional wisdom and that's the stock market. Here's a look at the Spade Defense Index divided by the S&P 500. This is a key metric because much of the cuts will hurt the Pentagon.

Defense stocks started to lag the market at the beginning of the year, but have reversed course somewhat this month.

THE BLOG: http://www.crossingwallstreet.com/archives/2013/02/is-the-sequester-really-going-to-happen.html

Eddy Elfenbein's Week in Review

"Individuals who cannot master their emotions are ill-suited to profit from the investment process." - Benjamin Graham

Remember when stock prices used to change each day?

OK, I'm exaggerating...but not by much. Bespoke Investment Group notes that the average daily spread between the high and the low on the Dow Jones is at a 26-year low. Stocks simply ain't moving around very much these days.

While the stock market got off to a great start this year, since late January it's nearly slowed down to a complete halt, particularly the intra-day swings. The Volatility Index ($VIX) is near a six-year low. Fortunately, the little volatility there has been has been positive, so the broad market indexes have continued to rise, albeit very slowly. On Thursday, the S&P 500 closed at its highest level since Halloween 2007.

One theme that's been dominating Wall Street lately is the idea of a Great Rotation, meaning money will massively swarm out of bonds and into stocks. I do think some of that will happen -- in fact, it's currently happening -- but I don't foresee sky-high bond yields anytime soon. The 10-year T-bond is right at 2%, which is pretty darn low. Instead, what we're seeing is investors gradually becoming bolder and taking on more risk. That's very good for our style of investing.

In this week's CWS Market Review, I want to take a closer look at this moribund market. As quiet as it's been, I don't think the market's reticence will last much longer. I also want to highlight an outstanding earnings report from DirecTV (DTV). The stock crushed Wall Street's estimate by 42 cents per share! We'll also focus on Bed, Bath & Beyond (BBBY), which has finally drifted low enough to be a very compelling buy. But first, let's look at what's been happening on the street of dreams.

Investors Need to Focus on High-Quality Stocks

One important development is that economically cyclical stocks are again leading the market. If you recall, the cyclicals began a massive rally last summer right around the time when Mario Draghi promised to do "whatever it takes" to save the euro. The cyclicals were given another boost a few weeks after that when the Fed announced its QE-Infinity program.

Consider this: If the S&P 500 had kept pace with cyclicals, it would be at about 1,750 today instead of 1,521. Cyclical leadership finally petered out in late January but has come back with a vengeance. The Morgan Stanley Cyclical Index (CYC) has outpaced the S&P 500 for five days in a row. The ratio of the Cyclical Index to the S&P 500 is now close to an 18-month high.

I think there are two reasons for this trend. One is simply that many cyclical stocks got very cheap. I think our own Ford Motor (F) is a perfect example of that. Harris (HRS) and Moog (MOG.A) are other good examples. But another reason is that economy is probably better than many analysts realize. The negative GDP report for Q4 understandably upset a lot of folks, but the recent trade numbers will probably cause that negative 0.1% to be revised upward to somewhere around +1.0%.

Earnings for Q4 have been pretty. According to data from Bloomberg, 73% of the 288 companies in the S&P 500 that have reported Q4 earnings have topped estimates; 67% have beaten sales estimates. As I've discussed before, the major concern is that corporate profit margins have been stretched about as far as they can go. I'm concerned that Wall Street's earnings forecasts are too optimistic, and we're going to see a spate of earnings as the year goes on.

One of the interesting aspects of the recent rally is that the large mega-caps haven't really joined in. Since the beginning of October, the S&P 100, which is the biggest stocks in the S&P 500, has consistently lagged the S&P 500. That's not necessarily bad news, but it means that the little guys are getting most of the gains. One possible worry is that the gains are largely going to low-quality names. That's often a sign of a market peak. Our Buy List, for example, started trailing the overall market in 2007. But when the plunge came, we didn't fall nearly as much as rest of the market.

Until this sleepy market eventually wakes up, I urge investors to focus on top-quality. Please pay close attention to my Buy Below prices on the Buy List. We don't want to go chasing after stocks. Let the good stocks come to you. Speaking of which, my favorite satellite TV stock just reported great earnings, and the stock is lower than where it was five months ago.

Buy DirecTV Up to $55 per Share

We had very good news on Thursday when our satellite-TV stock, DirecTV (DTV), reported blow-out earnings for Q4. The company raked in $1.55 per share for the quarter, which creamed Wall Street's forecast by 42 cents per share. Wow! For comparison, DTV made $1.02 per share in the fourth quarter of 2011,

So what's the secret to DirecTV's success? That's easy; it's all about Latin America. DirecTV has done very well in the United States, but that's a fairly saturated market. Not so in the Latin world, where satellite TV demand is just getting started. DTV now has 10.3 million subscribers in Latin America, up from 7.9 million one year ago. Last quarter, DirecTV added 658,000 customers in Latin America, which was a lot more than expected.

For Q4, DirecTV added 103,000 subscribers in America, which brings their total to 20.1 million. That's a big business, and I especially like anything involving recurring revenue. The company said it expects to see mid-single-digit revenue growth in the U.S. over the next three years. I was also pleased to see that the cancellation rate in the U.S. dropped from 1.52% to 1.43%. DirecTV has specifically made an effort to increase retention. The cost of adding one new subscriber is far more than that of retaining an existing one. For all of 2012, DTV had a solid year, earning $4.58 per share.

The only negative is that DTV said its earnings will take a one-time hit from the currency devaluation in Venezuela. The company also announced a $4 billion share buyback, which is equivalent to about 13% of DTV's market value. I think DTV should have little trouble earning $5 per share this year. This is a good stock going for a good value. DirecTV remains an excellent buy up to $55.

Bed, Bath & Beyond Is Finally Looking Cheap

I want to focus on Bed, Bath & Beyond (BBBY), which had been one of my favorite Buy List stocks, but a string of earnings warnings rocked the shares last year. While 2012 was unpleasant, I think the stock has now fallen back into being a very good buy at this price.

Let's review what happened last year. In June 2012, Wall Street had been expecting fiscal year earnings (ending February 2013) of $4.63 per share, which represented 14% growth over the year before. But the company surprised investors by telling us to expect earnings growth somewhere between the single digits and the low double digits.

No biggie, right? Guess again. Traders gave BBBY a super-atomic wedgie as the stock got crushed for a 17% loss in one day. Now here's the odd part: Here we are eight months later, and it looks like BBBY will earn about $4.54 per share for the year, give or take. In other words, that dreaded earnings warning turned out to be about 2% or so.

After the earnings report in September, BBBY got hammered for a 10% one-day loss when it reiterated the exact same full-year forecast. Then, for the December earnings report, BBBY only got nailed for 6.5% after it reiterated, you guessed it, the exact same full-year earnings forecast.

For Q4 (which covers the holidays so it's the big dog of BBBY's fiscal year), the company said earnings would range between $1.60 and $1.67 per share. The Street was expecting $1.75 per share. C'mon, this lower guidance isn't that bad. But traders have lost confidence in BBBY. The shares have plunged from over $75 in June to as low as $55 in December, although it's come up a bit since then.

Now let's run some numbers: If Bed, Bath & Beyond can increase earnings by 10% for next fiscal year (which begins in two weeks), that should bring them to roughly $5 per share. That means we're looking at a stock that's going for less than 12 times earnings and growing at 10% per year. Furthermore, the recovering housing market should continue to aid them. While BBBY looks cheap, I suspect it will take a while before the stock comes back to life. The earnings warnings really spooked traders. The next earnings call isn't until April 10. Bed, Bath & Beyond is a good buy up to $60 per share.

That's all for now. Next week, the stock market will be closed on Monday in honor of George Washington's birthday. On Tuesday morning, Medtronic (MDT) will report fiscal Q3 earnings. Last month, MDT bumped up the low end of their fiscal year guidance. We'll also get the CPI report on Thursday. Be sure to keep checking the blog for daily updates. I'll have more market analysis for you in the next issue of CWS Market Review!

- Eddy

P.S. I recently posted a list of 11 very overpriced stocks that you should sell ASAP.

THE BLOG: http://www.crossingwallstreet.com/archives/2013/02/cws-market-review-february-15-2013.html

Get the Bond Trade Right, the Rest Falls Into Place

This is a big question that I ask myself when I walk into work every morning. What are we going to do with Treasury Bonds? I mean, they've been a short since they broke down late last year. But what about now?

Here is a chart of US Treasury 10-year note yields. The rally in yields continued through the end of January in this nice clean uptrend channel stalling right around the 61.8% Fibonacci Retracement of last year's decline. Notice the RSI divergence in the summer that helped kick-start the move.

It's interesting that, last summer, we saw similar bullish divergences in Stocks, Euro, Precious Metals and a bearish divergence in the US Dollar.

I think if you get the bond trade right, it should help the others fall into place. The question here becomes, do yields stall here at this key Fib retracemenet level and break trendline support? Or has this 2 week consolidation been the rest before the next move higher in yields?

This is going to be a big one to watch

THE BLOG: http://allstarcharts.com/where-are-bonds-going/

We Are Never, Ever, Gonna Get a Correction!

Decision time! Prepare for a pullback! I am so bullish, I can't wait to go all in on a correction!

Some of you know I have been listening to a little bit of Taylor Swift lately, and maybe it has been influencing me. But what if it never happens? Well not never, but say all of 2013? Are you ready for that? For all those waiting for a top based on sentiment, your cabbie or barber showing interest, or what ever, consider this simple 21 year monthly chart of the S&P 500. The Triple Top rejection you are waiting for may never occur. The evidence? The momentum indicators Relative Strength Index (RSI) and Moving Average Convergence Divergence indicator (MACD). The RSI is an oscillator and moves back and forth between 0 and 100. Caution flags get raised at 70 as technically overbought

and 30 as technically oversold, but extremes can move well beyond those levels. The RSI tells us the strength of the trend and this chart shows that the strength is growing. More so, the first two tops in your Triple Top occurred after the RSI hit extreme values over 80. It is no where near there yet. The other indicator at the bottom, the MACD, shows that the signal line is just reaching the level of the second top and still well below that of the first top. What is more both of the corrections following those tops occurred after the signal line firmly crossed lower. The current picture just shows a move higher. All of this could reverse tomorrow or next week or at Easter or never. What is important for now is to notice that there are no signs of weakness. Let me repeat that NO SIGNS OF WEAKNESS. Go ahead and fade this market if you must. It does take two views to create a trade.

THE BLOG: http://dragonflycap.com/2013/02/13/wed-am-8/

Planning an Entry into Michael Kors (KORS)

With a positive reaction to earnings, Michael Kors remains a strong chart on virtually all timeframes. Obviously, if you did not play earnings it is tough to chase the stock this morning. But turning $60 into support is the main issue I am observing to plan an entry in the coming days or weeks.

As I wrote on January 13th:

Ever since KORS IPO'd in late-2011, the chart has been far more orderly than many other popular IPO's we have seen in this cyclical bull market. On the weekly chart below, you will note what is known as the "base over base" pattern, indicating a steady ebb and flow to the price action with an inherent bullish bias literally since the IPO-A huge move higher followed by a long, mild basing period.

According to The PPT, the firm has impressive growth, ROE, and profit margins. A bright future, indeed. I view another move above $53.50, and especially $55, as a signal for an imminent leg higher.

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THE BLOG: http://ibankcoin.com/chessnwine/2013/02/12/base-over-base-is-the-place-for-michael-kors/

Seth Klarman's Favorite Biotech Stock

Seth Klarman's firm Baupost Group recently filed an amended 13G with the SEC regarding its position in Idenix Pharmaceuticals (IDIX). Per the filing, Baupost Group now owns 18.48% of the company with 24,740,200 shares.

This marks around a 106% increase in the number of shares they own since the end of the third quarter. The filing was made due to portfolio activity on January 31st.

Per Google Finance, Idenix Pharmaceuticals "is a biopharmaceutical company engaged in the discovery and development of drugs for the treatment of human viral diseases with operations in the United States and Europe. The Company's research and development focus is on the treatment of hepatitis C virus (HCV)."

You can see more of Baupost Group's portfolio activity here.

THE BLOG: http://www.marketfolly.com/2013/02/seth-klarmans-baupost-group-increases.html