Stock Market Update: S+P 500, Small Caps, Gold, Interest Rates and Cisco earnings…

This week we got our resolution to the short term trading range that we talked about in last weeks post. Thursday on the back of some disappointing forward guidance by Cisco and Wal-Mart, the major averages gapped down and decisively broke the previous support levels below. Before we proceed into what to expect next let’s take a second and review what has happened off the June lows from a technical perspective.

The chart above highlights two consecutive trading ranges equated to 66 and 70 points in length. We broke the second trading range to the upside but failed to stay above that prior range. That was a caution sign as most genuine breakouts do not reverse back inside the previous range that fast. The second warning sign was the failure on two separate occasions to then get back above the previous trading range defined by the 1698 high.

So now we find ourselves in the midst of a correction, another thing of note in the chart above is how after we broke out of the first trading range, how we kept going straight up leaving three open price gaps in a short amount of time. This leads me to believe this correction is more of a “back and fill” setup than the start of a bigger correction. And as long as we can stay above 1626 I don’t see any reason to give up on the long side just yet. However as I will point out in the conclusion, the cumulative advance – decline line continues to deteriorate.

The small caps did an excellent job of projecting a possible swing high. Using a daily chart of IJR above we can see three very distinct and equal sized trading ranges making higher highs. A failure for me would be defined by a move back below $93.27 or the top of the previous trading range. Otherwise I see now reason why this fund will not trade up to $103 or higher over the coming months.

So what can we expect now? Well as the above chart shows, Friday’s decline has sent us right into some strong support that we have talked about before, defined by the 38% retrace level off the June lows, and a previous swing high, a 50 day moving average. Another level to watch is the 1626 level, that was the scene of a major breakaway gap which also turned out to be the top of the first upside trading range. This area will be my line in the sand going forward. Above that level and I see no reason we can not continue to make new all time highs.

Taking a look at Gold, GLD chart shows a clean breakout above this week. We talked about the fact that as long as we held the high of the previous trading range, it looked like Gold was poised to have just this type of move higher. Next upside target comes in around $138.30 – $139.00.

Taking a look at interest rates, the ten year yield this week has hit a big target of mine as mentioned in a previous post only a few weeks ago. To me this has the potential of becoming at least a short term exhaustion point, I would not be surprised to see the next move in the ten year take it back down to the 2.3% – 2.4% area. However longer term I expect rates to continue to rise, although hopefully not at this pace.

The one chart (above) that all bulls should be concerned about and paying close attention too. The cumulative advance – decline line continues to deteriorate and is in danger of confirming a double top. We pointed this divergence out weeks ago, that as the S+P 500 made a new all time high the market breadth failed to follow along. Although this is not an exact market timing tool, it is easy to understand that the major averages can not continue to march higher if breadth is not moving alongside. We will continue to monitor this development over the coming weeks.

Taking a quick look at the sector performance during this correction off the 1709 highs. We can see Technology, Basic Materials and Industrials showing relative strength while Utilities continue to see weakness. Although this is a small sample size due to the correction only being in it’s 12th trading day.

I wanted to conclude by taking a look at Cisco (CSCO). Wednesday afternoon’s earnings release caused some selling in the stock and it now finds itself over 7% down from most recent highs. Taking a closer look I believe a strong case can be made that what we saw was a result of more profit taking as opposed to something else. The weekly chart above shows the stock price nearing strong resistance as defined by the 2010 and 2008 bull market highs and the stock had already matched the size of the last short term bull market. Going forward, from a technical perspective I believe the worst case in this stock would be a move down into strong support in the $21-$22 level.

Here we see a daily chart of CSCO showing Friday’s price action has now taken us back into support defined by the initial breakout day. Also note the difference in volume during this week’s sell off compared to last quarter’s breakout higher.

I believe this stock is headed to $33 level over time and likely trade up to $40-$45 over the coming years.

This week’s economic data is highlighted on Wednesday with US Existing home sales and FOMC meeting minutes. On Thursday and Friday we have the Jackson Hole Symposium, Fed Chairman Ben Bernanke will not be attending so I would reason there will not be a whole lot of new information. However I am sure short term traders will find something in the statements to take a side on.

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