TheSlayer's Market Thoughts

SPY May 31 2013

Market technicals looked weak all day, made a feeble attempt at a run higher, then completely tanked in the final hour. Congratulations to those who were short or flat. With the iffy moves recently, it was smart to just step aside if you didn't want to go short.

This is the time when everyone feels they finally have the market figured out. "The top is in, it's down from here." If you only started trading this year, the markets suddenly must seem wacky, with people not immediately buying the dip. Interestingly, late in the day there was such an attempt to buy the dip around 1640, but it failed miserably.

One must look at price action objectively. Big, red candles are scary, and everyone has been waiting for "the big one" for weeks and months.

The danger is to latch on to what looks like the realization of these sorts of expectations and assume we know what must come next. That is when you get into trouble.

Looking objectively at the market action, we start by realizing that the US markets, splendid as they are, do not exist in global isolation. If Japan is tanking and Europe is meandering, the US markets are going to be unlikely to sustain a massive rally. Things simply don't work that way. If Japanese investors see opportunity in a lower Nikkei 225, they will pull money from the US and invest it there. That's just a minor example of how international money flows will undermine the US markets, and why the SPY does not exist in isolation.

So, to understand where the US markets are headed, it helps to take a look at the Japanese markets. They are down - are they going to tank completely? Most people think not, but nobody knows. The likeliest outcome posited seems to be that the Japanese markets are suffering a bout of profit-taking and will bounce back later this year. It's highly unlikely that it is 1989 again in Japan because the government there is determined to play the Bernanke quantitative easing game. If throwing money at the problem doesn't work, they'll just throw more. The Nikkei is likely to bounce back, but it may take time, at which point it probably will roar higher due to the recovery of investor confidence. Until then, everybody holding long there will suffer.

Turning back to the US markets, fear entered the market during the final hour on Friday. There now have been two weak closes in the weekly averages in a row. We are right back where we were in the middle of May.

SPY Weekly May 31 2013

 
The weekly SPY chart looks a bit like the weekly Nikkei 225, with allowances for the scale and the values.

Nikkei 225 Weekly May 31 2013

The take-away lesson is simply that the Nikkei matters, like the canary in the coal mine.

So, with the Nikkei leading the way lower so far, where might the SPY be headed? The SPY weekly shows that there is the equivalent of an air pocket from 1600 to 1620. Below that, a lot of value built up in the 1580s, with firmer support below that region around 1535.

So, we are headed straight for 1535? Not so fast. The averages already have fallen to a point of support. The 30-day moving average is right below us, and the 50-day moving average down around the bottom of the channel at 1600. The moves over the past month have been quick, jack-rabbit moves higher, and those need to consolidate.

If the selling continues - a big if in this market - a decline to the 1600 region is rising in probability. While that might just be a first leg down, anything below that must break through heavier support levels.

Key levels right now are, to the upside, 1635 (support becomes resistance), 1652, and 1657. To the downside, 1620 is where the big rise through 1600 first found a home. Below that, 1600 (actually a few points below, it's unlikely to stop right on that round number, 1597 was the old resistance level) is the most important level to watch. After that, the 1580 level was a support level.

Looking way down, the 200-day moving average is a little below 1500.

Last summer around this time, the SPY fell about 100 points, then quickly bounced back. People have memories, that easily could happen again. Quantitative Easing or not, markets go down as well as up.

But, first things first. Let's see what the Nikkei does and where we open on Monday, that will either confirm the worst fears and greatest hopes of the Bears, or confuse everybody.