Editor's Note: This article was originally published in John Murphy's Market Message on Friday, August 9th at 12:27pm ET.

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I was asked during an interview on StockCharts TV yesterday whether I was concerned about the Dow Theory divergence between the Dow Industrials and the Dow Transports. I responded that I was. But with an additional twist to that theory which is also giving a warning signal. But let's start with the more traditional relationship first. Chart 1 compares the Dow Industrials (black bars) and the Dow Transports (red bars) over the last year. The black circle in Chart 1 shows the Dow Industrials rising above last year's high during July to reach a new record. The red bars, however, show the Dow Transports trading well below their 2018 high. In fact, the declining red trendline shows that the transports peaked last September, and have been forming a pattern of "lower peaks" since then. The Dow Theory holds that an upside breakout by the Dow Industrials needs to be confirmed by a similar breakout in the transports. The fact that the transports have lagged so far behind the industrials is not a good sign for the market. That's because the more economically-sensitive transportation stocks have a history of turning down first in the late stages of a bull market. But the third Dow Average may also be giving a warning.

Chart 1

 

The S&P 500 hit a new high in late July and then got pummeled in early August with a sharp decline that broke the 50-day EMA. Moving averages like this can serve benchmark levels that chartists can use to compare performance. Stocks and ETFs that did not break their 50-day EMAs showed relative strength and warrant our attention. Stocks and ETFs that broke their 50-day EMAs did not hold up as well.

Let's start with some basic analysis of the S&P 500, which serves as my benchmark for the US stock market. The index hit a new high in July and then fell around 6% with a sharp decline. At this stage, the index remains above the early June low and above the 200-day SMA, which turned up over the last few weeks. Even with the August dive, the long-term uptrend was never in question.

The indicator window shows the Percentage Price Oscillator (1,50,0) dipping below zero, which means the index closed below the 50-day EMA. The PPO is based on an exponential moving average and this is why I am using a 50-day EMA on the price chart, as opposed to an SMA.

I ran a scan on Thursday looking for S&P 500 stocks that are in long-term uptrends (above 200-day SMA) and that held up well in early August (PPO(1,50,0) did not dip below zero over the last five days). The scan code is simple, and shown below:

[group is SP500] and [Min(5,PPO Line(1,50,0)) > 0 ] and [Close > SMA(200,Close)]

In particular, I was interested in the sectors with the strongest stocks. I then counted the number of stocks in each sector that met the scan criteria and divided by the total number of stocks in each sector. This is an important step because some sectors have more stocks than other sectors. Consumer Discretionary, Financials, Technology, Industrials and Health Care have more than 60 stocks each, but Communication Services, Energy, Materials and Utilities have less than 30 stocks each. The table below shows the results.

Overall, Utilities and REITs held up the best during the August plunge. Healthcare also put in a respectable performance with 26% of its components holding above the 50-day EMA last week (and above the 200-day SMA). For individual names, I am seeing strength in Twitter (TWTR), DR Horton (DHI), Merck (MRK), Stryker (SYK), Lockheed Martin (LMT), Sealed Air (SEE) and Packaging Corp of America (PKG).

Check out Art's Charts for the Friday's State of the Stock Market Report and Saturday video. No subscription required. Click here.

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The world is full of charts. Rick Santelli used the expression "Every ship at the bottom of the ocean also had a chart room." There's an important caveat, there, however: Were the navigators looking at the charts? Stock charts only tell you something if you want to hear it. There is no megaphone saying "Proceed to the lifeboats...this is an emergency!". Well, the ship analogy can only go so far, but this week I have heard my share of commentators trotting out bullish charts and ignoring facts that have been great guideposts for driving your portfolio with care.

When the charts fail, the opposing force to the message always presents an excuse. Here are examples from this week:

Regarding the Russell: The composition of that index has changed, so it no longer matters.

Regarding the banks lagging: That is just due to low interest rates.

Regarding commodities sagging: That is just due to rest of world weakness.

Regarding Industrials breaking down: That is such a small part of the economy, why would anyone give that as a clue?

Regarding Fang stocks: Watch software as a service; don't use those old names, as they no longer lead.

We also have perma-bulls and perma-bears. You know the names. Well, we don't need to look at the charts if their one-minute elevator speech is always the same and always right. Yet they differ. The bear will someday be right even though the prediction has been made every week for years. But the 20% corrections were just that: corrections. The bulls said we made a new high a few weeks ago, so ignore the bears. Well, if your opinion never changes as the market rocks in massive 20% waves, that would sink most ships. The purpose of Technical Analysis, for me, is to find attractive entries and exits, so I ignore the people continually selling uni-directional news of the day as fresh.

Below are 3 charts that will someday get more bullish, but I can't declare a victory for the bulls with the current situation.

First of all, here is a chart of the Broker Dealers. The chart has been struggling to take out the 2007 highs for the last couple of years. These are considered a leading group, giving you clues to strong markets. Notice the PPO momentum indicator rolled over at zero this week. Look left and notice what happens when the PPO indicator falls below zero. Maybe it can turn higher, but this week it turned down, suggesting the most recent rally had no strength.

Secondly, there is the $RUT. Regardless of the composition of the Russell 2000, when the PPO momentum indicator goes below zero, this is a pretty solid chart suggesting coming weakness in the $SPX. (The $SPX is shown in the panel below.)

Lastly I'll present the trend in the breadth charts. The Nasdaq market hit a fresh new high a few weeks ago, but, on the most recent bounce, only 52% of the stocks got on a buy signal, as shown by the Bullish Percent Index. In the lower panel, less than 50% of the stocks are above the long-term average. That is risky. While the wiggles on the top panel on the chart don't look like much, it's an uncomfortable place to own stocks.

Of course, a chartist has a complete tool box to share, rather than three hand-chosen grisly charts. To see that tool box of charts, catch the Market Review videos on Saturdays. You can find them in the Canadian Technician playlist near this link.

 

Perhaps this all reverses and heads higher. The purpose of Technical Analysis is to respond to the current signals, which point lower. The problem with the charts as presented is that this level of weakness is usually associated with major downside momentum. As a chart reader, I now see signals or warning signs that triggered this week. Regular readers will be continuously informed until the potentially dangerous messages subside. Subscribe to the Canadian Technician articles for updates. Thanks for following!

 

One thing that we technical analysts like to spot at price tops is an indicator flashing a negative divergence, which is an indicator that is trending downward while price continues to trend upward. Such divergences imply that internals are eroding under the rising price, and that a price correction could be next. However, negative divergences in a bull market frequently display cyclical internal weakness that doesn't manifest itself in price movement. This is particularly true of indirect indicators like the PMO, ITBM, ITVM, stochastics, RSI, etc., so I recently asked myself if there wasn't an indicator that gives us a direct, understandable result in which we could have higher confidence, and I ended up at the Percent of SPX Stocks Above Their 20EMA chart.

When a stock drops below its 20EMA, it is a sign of short-term weakness, and it is no longer participating in the market advance. At each of the market tops in October 2018, May 2019, and August 2019 (three times within a year) the indicator showed profound negative divergences as the market was making new, all-time highs. By "profound" I mean that in these cases the percent of stocks above their 20EMA dropped by as much as -45%. Think of it. Forty-five percent of the stocks participating in an advance take a coffee break. This is something I'm going to pay attention to from now on.

Finally, take note of the indicator behavior associated with the January 2018 market top -- there was no negative divergence at all. There is no mystery here. That was a broad-based parabolic advance which stretched prices well above their 20EMAs, and it was not likely that we would see a negative divergence in this case.

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The DecisionPoint Weekly Wrap presents an end-of-week assessment of the trend and condition of the stock market (S&P 500), the U.S. Dollar, Gold, Crude Oil, and Bonds.

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Watch the latest episode of DecisionPoint on StockCharts TV's YouTube channel here!

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GLOBAL MARKETS

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BROAD MARKET INDEXES

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SECTORS

Each S&P 500 Index component stock is assigned to one, and only one, of 11 major sectors. This is a snapshot of the Intermediate-Term and Long-Term Trend Model signal status for those sectors.

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INTEREST RATES

Because some interest rates are currently inverted, I will be including a chart so we can monitor the situation. In normal circumstances the longer money is borrowed the higher the interest rate that must be paid. When rates are inverted, the reverse is true. It is generally believed that rate inversions result from "a flight to safety." On the chart below, notice that the one-month and three month T-Bills (dotted lines) pay a higher interest rate than the one year through the 10-year T-Bonds. This is a problem for the stock market.

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STOCKS

IT Trend Model: BUY as of 6/11/2019

LT Trend Model: BUY as of 2/26/2019

SPY Daily Chart: The big rising wedge resolved downward this week, but then it was recaptured. The VIX got quite oversold, and now I'm wondering we will have a repeat of market action in May, where the market will take out this week's lows and finish the decline with another spike bottom.

SPY Weekly Chart: This chart is slightly bearish because the weekly PMO has topped again.

Climactic Market Indicators: Thursday was a climax day, but I'm hard put to decide if it was an initiation or an exhaustion. There were very high levels of net breadth and net volume. Even new highs broke the contracting tops line drawn from early June. Total SPX volume was solid, but I thought it was somewhat less than that huge price advance deserved.

Short-Term Market Indicators: I am thinking that we are in the process of copying May's market action, and that when the current bounce is over, the market will head down for a lower low, and the STO-B and STO-V will form a second bottom.

Intermediate-Term Market Indicators: I have added the Stocks Above 20EMA chart to this set of indicators. It may be some time before it has another important negative divergence, but I want to keep an eye on it. The top four indicators have reached a level that has proven to be oversold for most of the period shown on the chart, and they seem to be struggling to turn up.

 

CONCLUSION: It appeared to me that markets became momentarily disconnected and unstable early this week. There was a different feel, as if panic had set in, but that soon passed once the selling dried up on Wednesday. As for what might happen next, I'm using May as a road map, meaning I'll be looking for another leg down to a low below this week's low.

Next week is options expiration week, so I will be looking for low volatility toward the end of the week.

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DOLLAR (UUP)

IT Trend Model: BUY as of 7/5/2019

LT Trend Model: BUY as of 5/25/2018

UUP Daily Chart: Whereas, last week the dollar made a sharp advance, this week it pulled back and consolidated.

UUP Weekly Chart: In this time frame we can see the long-term line of resistance, which, incidentally, goes back to 2008.

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GOLD

IT Trend Model: BUY as of 6/3/2019

LT Trend Model: BUY as of 1/8/2019

GOLD Daily Chart: O have been calling the June-July consolidation pattern a flag, but I think a rising wedge is probably a better name. In any case, this week gold broke out of the wedge and began another consolidation. Note that UUP has been positively correlated with the dollar for the last few weeks. Certainly, dollar strength is not currently interfering with gold's advance.

GOLD Weekly Chart: The weekly PMO is becoming overbought based upon the five years shown on the chart, but it can potentially get a lot higher if the rally continues. Price is going vertical, and that could create the need for a pullback.

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CRUDE OIL (USO)

IT Trend Model: NEUTRAL as of 5/30/2019

LT Trend Model: SELL as of 6/4/2019

USO Daily Chart: Oil did some thrashing around this week, but I don't see a potential for a major move in either direction.

USO Weekly Chart: The weekly PMO is neutral, but I think WTIC will reach the bottom of the trading range (42) before it goes back to the top (76).

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BONDS (TLT)

IT Trend Model: BUY as of 12/6/2018

LT Trend Model: BUY as of 1/2/2019

TLT Daily Chart: Bonds were all over the place this week, but they still managed to extend last week's breakout.

 

TLT Weekly Chart: The PMO is getting overdbought, but there is still room for more upside before the yield is as low as 2016. The recent vertical ascent could require a bit of a pullback or consolidation.

 

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Technical Analysis is a windsock, not a crystal ball.

Happy Charting! - Carl

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NOTE: The signal status reported herein is based upon mechanical trading model signals, specifically, the DecisionPoint Trend Model. They define the implied bias of the price index based upon moving average relationships, but they do not necessarily call for a specific action. They are information flags that should prompt chart review. Further, they do not call for continuous buying or selling during the life of the signal. For example, a BUY signal will probably (but not necessarily) return the best results if action is taken soon after the signal is generated. Additional opportunities for buying may be found as price zigzags higher, but the trader must look for optimum entry points. Conversely, exit points to preserve gains (or minimize losses) may be evident before the model mechanically closes the signal.

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Helpful DecisionPoint Links:

DecisionPoint Chart Gallery

Trend Models

Price Momentum Oscillator (PMO)

On Balance Volume

Swenlin Trading Oscillators (STO-B and STO-V)

ITBM and ITVM

SCTR Ranking

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I know it's summer, and we generally think defensively during this time of year, but there are still very strong areas with tremendous momentum that you should be considering. I'll give you my top five industry groups with a stellar individual stock performer within each group. Let's get started, with the fifth-best group highlighted first.

5. Specialized Consumer Services ($DJUSCS)

Remember the May 2019 stock market weakness? The DJUSCS doesn't. It broke out that month while other areas of the market were crumbling. The relative strength here is obvious.

Best Stock: MercadoLibre (MELI) - member of Tom Bowley's Model Portfolio

4. Consumer Finance ($DJUSSF)

Forget May. The DJUSSF broke out all the way back in March and hasn't looked back.

Best Stock: Discover Financial Services (DFS) - soared on big volume after strong earnings

3. Restaurants ($DJUSRU)

This group has been on absolute fire. Since mid-June, it hasn't even stopped to catch its breath.

Best Stock: Tie - Starbucks (SBUX) and Chipotle Mexican Grill (CMG) - the latter is a member of Tom Bowley's Model Portfolio

2. Specialty Finance ($DJUSSP)

The DJUSSP has definitely been a big, big leader since the December 2018 bottom. And it's a gift that keeps on giving; the group has been exploding over the summer months.

Best Stock: TransUnion (TRU)

1. Renewable Energy ($DWCREE)

Not only has the DWCREE been the most volatile industry group of the past few years, it has also clearly been the best of 2019. We have seen the entire group double since the December 2018 bottom, providing plenty of opportunities for profitable trades.

Best Stock: Enphase Energy (ENPH) - member of Tom Bowley's Aggressive Portfolio

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This industry analysis exercise is done every single day at EarningsBeats.com, because the best way to outperform the S&P 500 is to know which groups are attracting Wall Street money. Tom Bowley has perfected his portfolio strategies and will be joining EarningsBeats.com on Monday, August 12th at 4:30pm EST to discuss exactly how he constructs his portfolios using relative strength, one week before announcing his new Top 10 Model Portfolio stocks.

Want performance results? Tom has joined us in prior quarters to share his 10 best ideas of each quarter. He created his Model Portfolio on November 19, 2018; the portfolio has gained 49.67% since that time. The S&P 500, by comparison, has risen 8.47% over that same period.

If you'd like to join us FOR FREE on Monday night, simply click here to register!

 

At your service,

John Hopkins, President

EarningsBeats.com

Better Timing. Better Trades.

The stock market is indeed a nuanced creature. With that in mind, I'd like to show you how to use Relative Strength to understand what this creature is actually doing. You’ll find that my suggested use of Relative Strength will keep your probability of success in positive territory. As the markets change around you, you cannot simply stand there flat-footed. By using a Relative Strength strategy, you will find yourself taking a more action-oriented approach to the markets. Let me show you how to embrace this in a simple, straightforward, common sense fashion.

In late July, I made a presentation on StockCharts TV where I detailed the importance of Relative Strength and how it applies to seven of the ten stages of stock market mastery that Grayson and I presented in our book, Tensile Trading: The 10 Essential Stages of Stock Market Mastery.

In the video (included at the bottom of this article), I begin with a short introduction on how best to ascertain the all-important market trend. I then move into revealing the “Fab Four” chart by itemizing precisely how it’s constructed — disclosing how each stage enhances your investing probabilities. I then finish off by featuring four examples of current market equities.

 

The allure of the Tensile Trading "Fab Four" chart is that it clearly stacks probabilities in your favor. Its attraction is that you can literally see these probabilities and it provides you with the conviction to invest accordingly. You are no longer wading randomly in search of profits. You are no longer investing guided by gut instinct or by a hunch.

From there, I move into a segment for the genetically bearish investors who can apply the same relative strength principles on the short side. I itemize the steps to uncover the best shorts and then disclose four market equities as examples.

The final arena I represent is how to apply relative strength using my “Best of Breed” charts. I categorize three specific applications that apply to both ETFs and mutual funds.

1. How to monitor the best investment options within a specific asset class.
2. How to ascertain if that asset class is best covered by an ETF or a mutual fund.
3. Using “Best of Breed” charts to decide if an asset class deserves more or less of a financial allocation based upon its over-performance or underperformance relative to the market.

So my intention is to help you whether you decide to throttle up or throttle down so that you do it with the markets’ probabilities in your favor. The entire presentation is about 30 minutes in length.

 

 

Trade well; trade with discipline!

- Gatis Roze, MBA, CMT

StockMarketMastery.com

• Author, Tensile Trading: The 10 Essential Stages of Stock Market Mastery (Wiley, 2016)
• Presenter of the best-selling Tensile Trading DVD seminar
• Presenter of the How to Master Your Asset Allocation Profile DVD seminar
• Developer of the StockCharts.com Tensile Trading ChartPack