Stocks Hit a Brick Wall

The major indexes may need to back up a bit before another attempt at new highs

By Mark Arbeter

The major indexes attempted a strong breakout to new recovery highs on Thursday, Oct. 9, and hit a brick wall intraday. The market's inability to hold its gains Thursday and subsequent decline could indicate that stocks need to back up a bit before another attempt at new highs.

These intraday reversals as the market runs up to the top of its range have been quite common recently, and so far, does nothing to change the favorable intermediate-term outlook for stocks.

The S&P failed to clear important short-term resistance in the 1,040 area but did make a new intraday high up at 1,048. One technical reason for the failure at that level could be that the index encountered resistance from an important trendline. This trendline, which was support until recently broken, is now resistance and is drawn off the March and August lows.

Another reason for the market's pause in that area is that chart resistance, from back in 2002 and 2001, comes into play. As we have said recently, the S&P 500 will face some tough chart hurdles as it continues higher. Resistance begins at 1,050 and then gets pretty thick from 1,075 all the way up to 1,175.

There are many areas of chart support underneath the market so any weakness should be moderate. Chart support for the index comes in at 1,010, 990 and then the critical level of 960. The 50-day exponential moving average also comes in at 1,010, so from a short-term perspective, this area should probably limit any weakness.

trendline support, drawn off the lows in August and September, comes in at 1000. The 150-day exponential moving average lies at 974 and the 200-day exponential average is at 967.

The Nasdaq made a marginal recovery high on Thursday, closing above the previous closing high of 1,909.55 set on Sept. 18. The Nasdaq faced resistance during Thursday right at the upper Bollinger Band. Bollinger Bands are envelopes around the index's 20-day moving average and lie two standard deviations above and below that moving average. This envelope frequently provides support and resistance for an index or individual stock.

As we have said, the Nasdaq is currently in a wide area of chart resistance between 1,700 and 2,330, and because of this, the advance from here is likely to be a choppy affair. A 23.6% retracement of the bear market, potential resistance, is at 2,070.

Like the "500", the Nasdaq has plenty of support below. There is a confluence of trendline support between 1,845 and 1,865. The 50-day exponential moving average lies at 1,810. Chart support comes in at 1,824 and then 1,787. Other trendline and chart support levels are down near 1600.

Market internals have strengthened quite a bit over the last couple of weeks and we are not seeing any glaring divergences as the indexes have moved back up to near their recent highs. Our accumulation/distribution models are back in bullish configurations. During the recent pullback, these models had turned bearish, without the market cracking, and we view this as a positive.

The NYSE advance/decline line continues to move to new highs, demonstrating a continued broad participation to the upside. New highs on both the NYSE and the Nasdaq have also increased quite a bit since the lows in September.

Sentiment continues to give off mixed signals with the investment polls exhibiting very high levels of bullishness while put/call ratios seem to be the market's saving grace of late. The latest readings from Investor's Intelligence show 55.9% bulls and only 22.5% bears. The II poll of newsletter writers has been tilted heavily toward the bullish camp for months. For the last 23 weeks, bullish sentiment has been above 50% and bearish sentiment has been below 25%.

The last time bullish sentiment on the II poll was above 50% for that long was between November, 1999 and April, 2000, when it happened for 24 straight weeks. Believe it or not, bearish sentiment was higher during that time then it is now. There is no comparable time when bearish sentiment was this low for this long and we have data going back to September, 1987.

The Consensus poll, which is a shorter-term measure of market sentiment, has risen to 67% bullish, matching the highest reading in that poll since January, 1999. The 3-week average of the Consensus poll has moved to 63.67, the highest since January, 1999.

Fortunately for the market, every time stocks head lower, the put/call ratio heads higher. Market participants have been very quick to hedge themselves on any kind of market weakness; loading up in puts to protect their holdings. As long as this continues to be the case, pullbacks are likely to remain shallow. When investors are no longer concerned about downside risk, then we may finally see a good-sized correction.

The bond market continued to correct during the week and is approaching a critical range for yields. The yield on the 10-year Treasury note is nearing an important, long-term bullish trendline that comes in up near 4.5%. This trendline originates at the yield highs in January, 2000, and was hit in March, 2002, and then in August, 2003. The other important area for the 10-year is right above this trendline and is the recent yield high of 4.6%. A break above these support levels would then imply a move to 5%+ for the 10-year.

Whatever happens, we believe Treasury bonds are tracing out a long-term bottom for yields. Remember, Treasury bonds have been in a bull market since 1981 so a change in trend will take time.

Arbeter is chief technical analyst for Standard & Poor's

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