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Hope for Capitulatory Selling and Fear

That kind of action begets good bottoms -- not this constant saving and sideways grind.

The Market

I find myself still obsessed with the Russell 2000. Please bear with me as I obsess once more.

It has clearly been the weakest index all year as it is now down about 2% on the year. Longtime readers know that I have a few indicators when it comes to this particular index and that I have spent a great deal of time discussing it, but let’s review it once again.

Relative to the S&P 500 and relative to the Nasdaq, the divergence between the indices has been the most severe in the month of July. We have looked at the two ratio charts, but let me remind you that the ratio of the S&P to the Russell is now at 1.72. This is the same level where the Russell was at a week ago when it became oversold (as per the Momentum Indicator we discussed). A move into the 1.75 area is often where we find bottoms in the Russell.

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It might seem like a small amount to most of you but really, the best bottoms tend to come once it breaks over the 1.75 area. I believe that is because it shows such an extreme -- perhaps we’d call it a sense of capitulation when the selling in the small-caps relative to the big-caps is so extreme. It is true that prior to 2008, the ratio got even more extreme. So we will deal with that if and when we get to the 1.75-ish level. For now, it’s that push that it can’t seem to make -- the push to the extreme.

Now let’s discuss what might get the Russell to that extreme. If we go back to the discussion from a week ago regarding the 50-day moving average and the 200-day moving average of the Russell. I had noted that if we could not get up and over the 50-day we ran the risk of the rising 200 day moving average breaking as there was not enough ‘space’ between the current price and the 200-day moving average line.

We find the Russell is sitting right at that 200-day moving average now. A solid break of that 200-day moving average line might get it to an extreme. Oh my, can you imagine the hysteria if that were to happen? The Market Volatility Index (VIX) might actually get jumpy. The TRIN might actually get high (i.e., well above 2.0) and the put/call ratio might actually push up to the 130% area.

But more importantly, it might even get the intermediate- term indicators back to an oversold level. For now, though, 50 trading days ago was the May low. So if the Russell can’t get going upward, the moving average will roll over. However, I just cannot see us getting a decent long lasting rally until the market gets some sort of cleanout and retest. It’s possible the Russell will get saved while the big-caps start to get sold and/or languish (we have already seen so many big-caps get slaughtered in the past week) but that’s not optimal.

For example, the number of stocks making new lows on the NYSE is now at its highest level since May 15 when the S&P was 100 points lower. That tells us there is quite a bit of selling underneath the rather mild decline in the indices. (See the chart below). So does the still declining (and at a lower low, too) McClellan Summation Index (that will be shown here Tuesday evening).

In the meantime, the S&P might be holding itself up there but that ancient index, the Dow Jones Industrial Average, is attempting to break an uptrend line going back to the February low. The 50-day moving average is 100 points lower so folks will focus on that level but if it gets there, the uptrend line will be broken, making this the first sign of weakness in big cap stocks that we have seen all year.

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We should hope for capitulatory selling and fear (the Fear- and-Greed Index is already at 31) because that’s what begets good bottoms -- not this constant saving and sideways grind.

New Ideas

I keep eyeing Cliffs Natural Resources (CLF) - Get Free Report for signs of a bottom because we have already seen a bottom in Freeport McMoRan (FCXLNYSE), which had a positive chart in late June. We have already seen some of the uranium stocks move up, too. It’s not just the gold and silver mining stocks that have started to lift their heads (yes, I am still a long-term fan of the gold and silver miners -- we have discussed them several times). Thus, if CLF gets through this $16.50-$17 area, it will not be clear sailing ahead but it will be the first higher high this stock has seen all year. I do not want to see it break back under that $15 area though.

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Today’s Indicator

The number of stocks making new 52-week lows is discussed above.

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Q&A

Helene welcomes your questions about Top Stocksand her charting strategy and techniques. Please send an email directly to Helene with your questions. However, please remember that TheStreet.com Top Stocks is not intended to provide personalized investment advice.

Once again, I want to encourage folks to send me your requests. Email me here. The more diversified names we get, the more interesting charts and discussions we can have.

I am not a fan of Gilead (GILD:Nasdaq) in the near term, mostly because of its poor reaction to earnings. It tells me the stock could be over-owned at the current levels. However, on a longer term basis that move up and over $82 makes the measured target around $102. In addition, there is the 90/100 rule, which states that 90% of the stocks that make it to $90 will make it to $100. There is no time frame for that though, and I suppose that means 10% of them will not make it there. But if you have a long-term view on this chart, I would say there is some downside risk in the near term back to the mid-$80s. However, longer term, it ought to make its way toward the $100-$102 area.

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I have to say that I look at the longer-term chart of Regeneron Pharmaceuticals (RGEN:Nasdaq) and I see a head-and-shoulders top with the left shoulder in October of last year, the head in February and the right shoulder in the past two months. But in this market, we know that these sorts of tops have tended to get saved. So, for now, I’ll just say that this stock is in a wide trading range between $270 and $320. I would, therefore, respect any break of either level.

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Netflix (NFLX:Nasdaq) is hanging by a small thread and if it can’t pick itself up and get back above $420 in a hurry, then I would start to look for it to revisit that $370 area again in the coming weeks. So it gets another day or so to recapture it and if it can’t, then the trend will revert downward again.

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