Rev's Forum: Inconsistent, Uncorrelated Market Action Is Reason for Concern

 | Jul 05, 2017 | 6:27 AM EDT
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"The signature of mediocrity is inconsistency."

-- James C. Collins

In a chaotic half-day session before the July 4 holiday, the Dow Jones Industrial Average DJIA traded up over 200 points to an all-time high while the Nasdaq 100 traded down over 1% and is hitting the lowest levels since April. It is an extremely odd mix of action, and it raises the question of whether it is signaling a major change in the overall market.

Rotations from one sector into another aren't anything new, but the aggressiveness of the recent move out of big cap technology and FAANG names -- Action Alerts PLUS holdings Facebook (FB) and Apple (AAPL) , Trifecta Stocks name Amazon (AMZN) , Netflix (NFLX) and Google parent Alphabet (GOOGL) -- and into financials, oils and a few other groups is highly unusual.

It is especially noteworthy because it was the FAANG names that covered up broader weakness for quite a while earlier this year, as the "average" stock was doing little. It appeared that money managers were blindly throwing their capital at this small handful of technology names, but now they can't seem to dump them fast enough.

For the bears, this collapse in what was the key market leadership is proof that the market is forming a top. Leading names like Apple, Alphabet and Amazon are breaking key technical support, and momentum is working in reverse. The argument is that it is only a matter of time before the action starts to infect the broader market.

The Nasdaq is now trading below its 50-day simple moving average, and support is limited down to the 6000 level. The Nasdaq 100 ETF (QQQ) is in even worse shape as it takes out the May lows and puts the April gap in play.

For the bulls, the DJIA and small-caps tell a different story. Both indices are much more heavily weighted in financials, and that is what is driving them. The Russell 2000 ETF (IWM) is comprised of about 20% small banks, and that is keeping that index close to highs. The DJIA has Goldman Sachs (GS) , JPMorgan (JPM) and American Express (AXP) helping to drive it higher.

Financials are doing well because interest rates have turned up and the yield curve is benefiting lenders. Central banks have indicated a greater level of hawkishness, and that is the driving force. Ironically, this is occurring as economic questions are hitting some of the key technology names.

In the last few years, the main catalyst for market pullbacks has been a disconnect between the bias of the Fed and the market's view of the economy. The last major pullback occurred in early 2016 when the Fed was hawkish but the market was very concerned about slowing growth in the global economy. One big difference back then was that banks never rallied on the Fed hawkishness. Market players simply didn't believe that the Fed could stay hawkish, and they were correct.

Not only is the market undergoing this very strong rotational action, but there is also heightened volatility. Last week there were four big swings in the indices that trapped both bulls and bears. Market players are simply not sure of what is going on right now, and often that is a sign that a change in correction is about to occur.

I always stress that the best way to navigate the market is to stay focused on the price action. The price action is now extremely chaotic. It is inconsistent and uncorrelated. The bulls are still feeling quite sanguine as they focus on the DJIA, but the breakdown in big-cap technology is severe and can't be shrugged off as irrelevant.

The market still isn't clear about its intention, but there are plenty of warning signs and reason for caution. Stay focused on protecting capital. The trading opportunities will develop, but in this market, it is important to recognize that there is great instability right now.

We have a mixed open developing, with the QQQ under pressure again while the DJIA is holding steady.

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