The domestic stock markets have been looking weaker and weaker as they head into the ultra important Black Friday and holiday shopping season. Tuesday's weak open as the result of Turkey shooting down a Russian fighter jet is the confirmation needed to issue a sell signal in the Dow Jones Industrial Average (DJIA) futures. The Nasdaq 100, S&P 500 and DJIA are all exhibiting the same pattern but the textbook example lies in the Dow futures.
The primary thesis behind today's trade is that the recent rally has been sold heavily by commercial traders. This is causing the market to exhibit a large bearish divergence pattern between price and momentum. This year has been a pretty mild one in the equity markets as they've traded generally sideways until recently. Commercial traders are value players. You can see their interest pickup on the buy side late this summer as the market began to fall. As you can see, their buying peaked during the August lows which led to a Cot buy signal. The more telling action is what's happened since August's bottom.
The stock markets consolidated through the end of October as we all sat back and watched the Federal Reserve Board do nothing. This led to a shift in confidence among the commercial traders who sold the October rally as the DJIA futures tested 18,000 again. This means the recent rally has been fueled by index and large speculator buying. Any investment advisers short of their numbers find themselves purchasing futures to add leverage to their cash portfolio. This is understandable, history shows that a pre-Thanksgiving decline in the market is usually a good time to add leverage heading into the end of the year. However, our deeper look reveals a more bearish picture.
Looking at the chart below, you'll notice that the commercial selling has intensified over the last month. Their persistence has led to a significantly lower momentum reading of 69.75 for Friday's high of 17,884 as compared to the high made on the 4th at 17,906 and a corresponding momentum reading of 76.34. Comparatively, that's a .0012% difference in price accompanied by a 9.4% difference in our proprietary momentum indicator. The tiny difference in price accompanied by a large difference in momentum is the the definition of, "divergence." In this case, it will be viewed as a failed rally attempt and therefore, a bearish divergence.
We obviously see this as bearish but the real question is, "how far?" We'll place a protective buy stop above the recent high at 17,884 and expect to penetrate last week's lows with a real emphasis on the support that's built up around 16,500.
Hope this doesn't rain on anyone's holiday plans but, the bright side is taking heed could lead to more than coal in your stockings.
