A Seasonal Slump for Stocks?

The equity market has pulled back very early in the New Year in twelve of the last fifteen years

By Mark Arbeter

Profit taking swept through Wall Street with a vengeance in the opening week of 2005 as institutions came back from the holidays and hit the sell button. Stocks that had run up the most since the market bottomed out in late October felt the brunt of the selling.

While we are a little concerned with the chart damage of many stocks and the pickup in trading volume, a pause early in the year is quite common. Going back to 1990, the equity market has pulled back very early in the New Year on twelve of the last fifteen years. In most cases, the market did not roll over into a major correction but consolidated for a month or two before resuming its advance. At this point, we believe the intermediate-term trend remains bullish and still expect higher prices during the first half of 2005.

The S&P 500 broke down out of a 1-1/2 month bullish channel early in the week and now appears headed for a test of some important support. The S&P 500 has near-term chart support in the 1,170 to 1,190 area. More important, intermediate-term chart support lies at 1,160. This level represents the top of the consolidation that the index traded in for most of 2004. The 50-day exponential moving average, which many times provides support for the market and individual stocks, is at 1,180. The 80-day exponential moving average comes in at 1,166 and the 150-day exponential moving average is down at 1,145. A 23.6% retracement of the advance since Oct. 25 targets the 1,185.5 level and a 38.2% retracement targets the 1,168.2 level.

The "500"'s early year price weakness has pushed short-term technical indicators to fairly oversold readings. The 6-day relative strength index or RSI hit oversold territory this week, falling below 22. This is the most oversold for the 6-day RSI since early August when it dropped to 17. The 14-day RSI, after hitting 77 in mid-November, has fallen to almost 40, the lowest since late October. The 14-day RSI is not considered oversold until it drops down near the 30 area. On a weekly basis, the 6-week and 14-week RSI have moved into neutral territory after getting mildly overbought late in 2004.

Momentum for the S&P 500 is currently mixed. The daily moving average convergence/divergence or MACD is bearish while the weekly MACD is still bullish. The monthly MACD is also positive. If there is more price erosion and the weekly MACD turns negative, the probability that the pullback could turn into something more significant would rise. The weekly MACD has been on a buy signal since the middle of September while the monthly MACD gave its last bullish signal during April-May of 2003.

The Nasdaq also dropped out of a small bullish channel and is currently testing support from the 50-day exponential moving average at 2,094. The index has pretty decent chart support in the 2,070 to 2,100 zone with additional chart support down at 2,050. Trendline support, drawn off the lows in August and October comes in at 2,080. A 23.6% retracement of the advance since the bottom in late October targets the 2,088 level and a 38.2% retracement lies at 2,024. As we have illustrated, there is a lot of support underneath both the S&P 500 and the Nasdaq.

One group of stocks that continues to hurt the Nasdaq is the semiconductors. The action of Philadelphia Semiconductor Index or SOX both of late and over the last five years has been less than spectacular. Most recently, the SOX broke below an important intermediate-term trendline drawn off the September 2004 lows. The index has also fallen below key moving averages once again, including the 50-day, 80-day and 200-day.

We have been expecting some sort of testing of the important lows set in September, and the index may be in that process right now. The SOX bottomed out in the 350 zone in September, and then rallied nicely into heavy chart resistance in the 450 area. Weekly momentum is rolling over and that is not a good sign in our opinion. Despite some great counter trend rallies, the semiconductor stocks have underperformed the Nasdaq since March 2002, and underperformed the S&P 500 since March 2000.

The 10-year Treasury did very little last week, oscillating narrowly around the 4.25% area. Since mid-August, yields on the 10-year have basically gone nowhere. However, we still believe bond yields are in the process of bottoming out on both an intermediate-term and long-term basis. Key chart support for the 10-year yield is at 4.4% or the high from early December. If the 10-year breaks above this level, we see the 10-year yield heading up to at least the 4.7% to 4.9% zone, or the highs from last year.

In our opinion, it is possible that during 2005, yields on the 10-year Treasury could move up to between 5% and 5.5%. One of the dangers we see for the stock market later this year and next year is a move higher in both short-term and long-term rates that is larger than "Street" expectations.

The U.S. Dollar Index rallied sharply last week, finishing up 3.6%. This is the largest weekly rally for the dollar index since 1992. As we have been saying, the dollar is due for a counter-trend rally, as it had gotten extremely oversold. In the process, the dollar index jumped above its 50-day exponential moving average for the first time since September. We believe the dollar could rally back into the 85 to 90 area, where it will encounter some heavy chart and trendline resistance.

Weekly momentum could turn positive in the near-term if the dollar continues to rally. The weekly MACD has put in a series of positive divergences over the last couple of years, tracing out higher highs and higher lows during a period in which the dollar has put in a series of bear market lows. While it is too early to call for a long-term bottom in the dollar, historically, higher interest rates have been bullish for the U.S. currency. We would note, however, that past performance is not necessarily indicative of future results.

Required Disclosures

5-STARS (Strong Buy): Total return is expected to outperform the total return of the S&P 500 Index by a wide margin, with shares rising in price on an absolute basis.

4-STARS (Buy): Total return is expected to outperform the total return of the S&P 500 Index, with shares rising in price on an absolute basis.

3-STARS (Hold): Total return is expected to closely approximate the total return of the S&P 500 Index, with shares generally rising in price on an absolute basis.

2-STARS (Sell): Total return is expected to underperform the total return of the S&P 500 Index and share price is not anticipated to show a gain.

1-STARS (Strong Sell): Total return is expected to underperform the total return of the S&P 500 Index by a wide margin, with shares falling in price on an absolute basis.

As of December 31, 2004, SPIAS and their U.S. research analysts have recommended 26.5% of issuers with buy recommendations, 61.3% with hold recommendations and 12.2% with sell recommendations.

All of the views expressed in this research report accurately reflect the research analysts' personal views regarding any and all of the subject securities or issuers. No part of the analysts' compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report.

Additional information is available upon request to Standard & Poor's, 55 Water Street, New York, NY 10041.

Other Disclosures

This research report was prepared by Standard & Poor's Investment Advisory Services LLC ("SPIAS"), and may have been provided to you either by: (i) Standard & Poor's under a license agreement with The McGraw-Hill Companies, Inc., which holds the copyright to this report; or (ii) a Standard & Poor's client who is granted a sub-license by Standard & Poor's. This equity research report and recommendations are performed separately from any other analytic activity of Standard & Poor's. Standard & Poor's equity research analysts have no access to non-public information received by other units of Standard & Poor's. Standard & Poor's does not trade in its own account. SPIAS is affiliated with various entities, which may perform services for companies covered by the recommendations in this report. Each such affiliate is operationally independent from SPIAS.


This material is based upon information that we consider to be reliable, but neither SPIAS nor its affiliates warrant its completeness or accuracy, and it should not be relied upon as such. Assumptions, opinions and estimates constitute our judgment as of the date of this material and are subject to change without notice. Past performance is not indicative of future results.

This material is not intended as an offer or solicitation for the purchase or sale so any security or other financial instrument. Securities, financial instruments or strategies mentioned herein may not be suitable for all investors. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation of particular securities, financial instruments or strategies to you. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice.

Readers should note that opinions derived from technical analysis may differ from those of our fundamental recommendations.

Arbeter, a chartered market technician, is chief technical strategist for Standard & Poor's

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