Bonds Linked to Steroids

Other financial assets also implicated. Integrity of Game Compromised as is Sustainability of Rise

by Martin Goldberg CMT. December 9, 2004

On Friday, following last week's feature that focused on the bearish reversal of US bond prices, I felt almost snake bitten when the latest employment report released Friday morning showed a shortfall of economist's bullish expectations for new jobs. The news brought a sharp and decisive rally in the bond market that has even picked up momentum the following week. As has been seen since the beginning of the more than two-year-old stock market rally, when the head-and-shoulders pattern fails, it does so in a sharp and tradable manner. I had misgivings about not remembering to state this reminder in last week's article.

Looking for an escape from negative feelings brought on by my lapse in memory, I turned to the sports section of the newspapers. Yet looking at the sports page headline ("Bonds Linked to Steroids"), there was no escaping what was going on in the financial markets. I had to sit down and try to make some sense of it all. Upon review, it seems to me that the sports page headline speaks some truth about the markets.

In summary, similar to steroids, the rally from August is composed of the use of an uncontrolled substance, resulting in short term performance that exceeds what is possible through hard work and nature, and that inevitably results in long-term ill health effects. Others chronicle the controlled substances used in the financial markets – fiat money and excessive debt - almost on a daily basis on this site and this is not my focus tonight. What I would like to focus on are the charts corresponding to the latest rally which suggest this pumped up rally is just composed of the steroid-like short-term boost of a devalued US dollar.

In Euros It Was Hardly a Rally At All

Following are some one-year daily charts of the major US stock market indices denominated in Euros instead of dollars side-by-side with the US dollar denominated indices. To a person who buys stocks using Euros, this is hardly a rally at all.

Chart

As can be seen in the charts right, the rally off of the August lows are much more impressive in terms of the devaluing dollar than a more stable currency such as the Euro. Breakouts from technical trading ranges occurred in US dollar terms only. In terms of the stronger Euro currency, all major indices are well within trading ranges established earlier this year. The current rally is being boosted by a weak dollar; but if such a weak-dollar boosted rally is sustainable will depend on whether the dollar can continue to devalue at a similar rate. While the long-term trend of the US dollar is down, it is doubtful that the velocity of the drop can continue to resemble a summer of 2000 Internet stock. All of the Euro-denominated indices sit near their 50 and 200 day moving averages, where as in devalued US dollars, they have left these moving averages "in the dust."

It is a speculative market, and it can probably be inferred that with American speculators looking at the more bullish charts on the right and European investors looking to the left, US citizens own stocks in greater proportion than they did before the August rally. Stocks are probably moving from European to US speculators. If the market turns to the bad, it will hurt US speculators more than their European counterparts.

It is also notable that in terms of Euros, with the recent commodity swoon, the S&P commodity index has not appreciated in Euro terms.

Inflating a Dream

While the general trends illustrated in the charts above suggest it is inflation of stock prices that is boosting the stock market in US dollar terms, it may not be that simple. If it were pure inflation causing the stock market action, then you would think that the stocks with the most dependable earnings and the greatest multinational exposure would benefit the most from a sinking dollar and inflation. While this would correspond to the Dow Jones Industrial Average, the Dow Jones (Diamonds, DIA) is an under performer. The strongest index of the group, the Russell 2000 has the least exposure to overseas markets. While this doesn't make logical sense, it illustrates the speculative nature of today's stock market. In this rally, it’s not the earnings - it’s the beta!

Revisiting Chart Fissures

The October article, "Chart Fissures Suggest Something Big is About to Happen" drew a lot of positive e-mail at the time. The premise of the article was the occurrence of many chart breakdowns in key stocks suggested something "big" and probably "bad" was going to occur in the general stock market. While I was right about the "big," who knew it would be a panic-buying rally that would follow? Here are the updated charts of those stocks where "fissures" had occurred. With the exception of General Motors, they all followed a similar pattern since their respective "fissure." Following their sudden drops, they each staged a partial recovery along with the broad stock market's rally, and now appear to have lost most of their short-term momentum.

Fannie Mae (FNM)

Following the Fissure, an apparent breakaway gap, the stock recovered miraculously. Is the market saying that Fannie Mae is too big to fail? The technical chart is far from healed, as Fannie has failed to clear its 200-day moving average.

Countrywide Financial Corp.

Countrywide seemed to breakdown with an apparent breakaway gap similar to that of Fannie Mae. Yet it has also climbed back to the bottom of the gap. As I write this on Wednesday night CFC is at a critical juncture. If the gap that occurred in late October was a breakaway gap, it should hold. Wednesday's action included good price action yet volume was less than 60% of an average day.

Pulte Corp.

Following the fissure, a low volume recovery and a 3-week slight downtrend with volume picking up slightly. This is a damaged chart. Note the recent trendline.

General Motors

In spite of an apparent rally (in dollar terms), there is nothing good going on with the chart of General Motors, which is a consistent downtrend.

AIG

Note the support/resistance trend line that is being approached from the bottom.

What About Bonds

Although bonds sustained a sharp and impressive rally, let us not forget the longer-term trend, which is for higher interest rates:

And let us not forget what a head-and-shoulders reversal looks like when it fails fast and tradable!

Today's Market

The Dow and S&P were up about one-half of one percent today, and the Nasdaq, Mid Caps, and Small Caps finished near the flat line today. Homebuilders were up and the Homebuilders Index ($DJUSHB) finished at an all time high on the back of earnings from luxury homebuilder, Toll Brothers, that beat expectations and guidance that was "upped." It staged a breakout of its 52-week high after a basing period and a base that were less than perfect. Behold the long-term monthly chart of the index. Both Pulte and Countrywide did some repair work on their "fissures." Notable for future reference that the up days that occurred on good news, were on below average volume in both cases. Pulte has the only notable homebuilder that did not trade an average day's volume.

In this market there is motivation to buy stocks as they break out of their 52-week highs. This is the philosophy behind the tremendously successful (to this point) Investors Business Daily (IBD) method. It would not be a good idea to get in the way of this mob scene, whether it is homebuilders, a debt purveyor, or Internet search engine. While the top of the market can occur tomorrow (or may be it was Tuesday), the market internals are saying that it could go higher. That certain stocks are being bid to absurd valuations tells me that there is no limit to what can happen in the general market. It is almost as if there is a pool of big money that is in the business of chasing logical and fundamentally correct short interest out of there. Intermediate term technical trend trading has not in general been successful. Here's a chart of a company that manufactures surgical implants for medical and cosmetic reasons that typifies the action in today's market (well may be it exaggerates it a bit).

Good luck with this one! However, I do think that action such as this speaks to the lack of intelligent accumulation of stocks and general health of the market.

The chart of the Nasdaq follows. While your favorite momentum indicator may show that the Nasdaq has lost momentum, note that there has not been two consecutive "down" days in the Nasdaq since mid-October.

For those who may have wished to join the rally on a retracement, consider that there has not been any retracement of significance since late September. Chase it? Desperate people do desperate things!

In today's action note the action in 4-Qs. Each share turns over every 6-trading days.

Silver took another drubbing today. At least on the positive side, it bounced off of its 200 day moving average, almost on queue. If I had a super large position in silver and wanted more, I'd sell some first to get the small speculators to scatter like flies, before I made my purchase. If you are an investor, and your position sizes appropriate to your means, then this chart should not cause you much heartburn.

Gold also took a drubbing that was not as bad as silver and used its 50-day moving average as a trampoline

Oil bounced a bit as did Oil Service stocks.

Bonds were down, and the dollar up.

The dollar looks like it can still bounce some more and not threaten its long-term downtrend.

Have a great evening!

Martin Goldberg

Contact Information

Martin F. Goldberg CMT | Market Commentator
Observations | Bio | E-mail