INVESTMENT EDGE
The US stock markets continue to consolidate and digest its huge 2017 year run-up and subsequent double digit correction. The lone exception being small cap stocks as they have moved on to all-time highs. Will the rest of the market follow suit? The benefit of the doubt has to be given to the prior underlying trend but I don't think the answer will be resolved any time soon. Until then, check out this month's Charts on the Move video at the link below ...
One of old techs beloved companies, Cisco, has been on an 8-month tear. But its recent earnings announcement, while not bad, was not well received by investors and The Street. Price gapped down more than 4% the day after the call and has been consolidating sideways since. As you can see in its daily chart below, price sits right on a confluence of support, including both horizontal and its rising uptrend line which, just coincidentally, is the bottom of the (blue) bearish rising wedge. On a longer-term time-frame, price is well above its rising 200 day moving average telling me any short-term concerns are, well probably just that, short term. But risk is clearly elevated right here so CSCO bulls have a decision to make if support does not hold.
If price were to break support and hold below, I have identified likely downside targets on the chart as T1 and T2. CSCO shareholders have to be open to the potential for further downside as price sits below both its declining 10 and 50 day moving average, telling us in the short term, the sellers are in control. This is made obvious by perusing the lower volume pane where the big volume is dominated by the red (selling) bars. I would be remiss if I didn’t mention the slight bearish RSI momentum divergence and the head and shoulders top pattern which adds further caution to the stock continuing its move higher.
If the buyers can hold above the current support zone, it is likely we will see CSCO go on to make new, all-time highs. A break below and move to one of the lower targets would likely signal the (short term) end of its recent bull run and a much longer-term sideways consolidation, something most traders would prefer to avoid.
For months I have been mentioning seeing signs that inflation is perking up. This is seen directly in the prices of commodities as they are coming back to life after severe multi-year downtrend. Taking a look at wheat as an example, it’s easy to see its price peaked back in 2012 and has fallen almost 60%, bottoming in late 2016. Since then it has been consolidating sideways, eventually breaking above the red long-term trendline mid last year.
The 2-year (so far) sideways consolidation has formed a fairly symmetrical inverse head and shoulders reversal pattern with price now sitting above a rising 200-day moving average and just under the pattern’s neckline. If in the next few weeks/months price were to confirm the pattern by breaking above the neckline on increased volume, its upside target is near the 730 level (indicated T1 above), a 35%+ increase from where it sits today.
In spite of a relatively ideal reversal investment set up that has developed on wheat, I still wonder whether this is the real deal. Even though this provides a remarkable 7:1 reward to risk ratio because so many commodities have provided false breakouts over the past few years I have become somewhat jaded to their signals.
Stock prices work like most other free market items, the greater the supply, the lower the price. On the flip side, the greater the demand, the higher the price. Corporate stock buy-backs have historically provided a tailwind for higher stock prices as companies retire shares (thereby increasing demand while reducing supply) but have been decreasing for the past 3 years.
It looks like 2018 may reverse that decline. If the above repurchase forecast turns out to be true, it should provide a bullish backdrop for equity prices this year. While it may or may not be enough to push prices higher, it will surely provide a floor likely keeping a lid on the size of any decline.
Looking at the daily chart of 20-year US treasury bonds TLT below, you can see after forming a double top, they have fallen more than 8% and closed right on the 116 support zone. With the large head and shoulders topping pattern in the background and price below a falling 200 day moving average, long term bonds look like a horrible place to be invested right now. This is especially true if price cannot stay above the pattern’s (green horizontal) neckline as it portends to another 8% or more decline.
As we have learned, looking at a longer term time frame helps identify the direction of the trend and helps to keep us focused on the bigger picture. The 5-year weekly chart below looks familiar, doesn’t it? The huge head and shoulders topping pattern stands out like a sore thumb. It should be obvious but if not, notice how the daily chart above is just a close up of the right shoulder in the weekly chart below. Yup, another example of a pattern within a pattern (see Monday’s post “Nesting”).
It goes without saying that if bonds break their current levels being pushed down by rising rates, we can likely put a fork in the 35+ year bond bull market. If this should occur, it could have an ominous impact for all investment markets. I have been warning about this potential for years, its impact to investor’s portfolios (most investors don’t know what a bond bear market is or how to deal with it) and just as importantly the huge potential negative impact to pension funds here in the US and across the globe. It’s time to be concerned, very concerned if this scenario unfolds and reaches its downside pattern target. The bullish alternative scenario would be If support holds right here and the pattern fails. Only time will tell but because of the impact bond holdings have on overall portfolio returns, its easy to see why we are at a crossroad.
