Markets & Finance

More Negative Signals for Stocks


By Mark Arbeter The stock market fell for the third straight week last week, dropping the major blue-chip indexes near important

support levels. The Nasdaq composite index broke down, undercutting its January lows, and in the near-term, continues to lead the overall market lower. Oil was not the problem last week, as crude fell almost $2 per barrel. The new worry has become the bond market, as yields surged following some inflation talk from the Federal Reserve. In our opinion, the potential for higher yields could be much more negative for the stock market than rising oil prices.

The turn by the market over the last three weeks has been fairly dramatic. The blue chip indexes have gone from breaking out to new recovery highs to getting fairly close to testing their lows from January. In just three short weeks, the S&P 500 has given back 50.7 points, or 4.1%. Since the peak on Mar. 7, the index has fallen 53.89 points or 4.4% over just 13 days. This is the weakest 13-day performance by the S&P 500 since March, 2004.

The Dow Jones industrial average has put in a very similar performance over the last three weeks, after briefly breaking above the 11,000 level on an intra-day basis on Mar. 7. Since closing at a new recovery high of 10,940.50 on Mar. 4, the DJIA has given up almost 500 points, falling 4.5% from its high. This is the worst 14-day performance for the DJIA since May, 2004.

Still weaker has been the performance of the Nasdaq. From a peak of 2,090.21 on Mar. 7, the index has given back 100.87 points for a loss of 4.8%. The index's most recent low came on Mar. 22 at 1,989.34 and was the lowest close since Nov. 2, 2004. The 11-day slide almost matches the drop seen in January, which was the weakest 11-day period for the Nasdaq since August, 2004.

The price weakness has placed many technical indicators in oversold territory on a daily basis, so in our opinion, it is possible to get a bounce in the near-term. However, from a weekly perspective, the technicals are far from oversold, and weekly momentum indicators are in very negative formations. The 6-day relative strength index (RSI) hit 19 on Tuesday, Mar. 22, the most oversold reading since last August. This is an extreme reading on a very short-term basis as it only happens a couple times a year. The 14-day RSI has dipped to about 35, also the lowest since August, 2004. We consider readings below 30 on the 14-day to be oversold. The daily stochastic indicator we monitor has dropped to its most oversold level since the bear market in 2002.

However, weekly technicals have not reached oversold levels, and we believe could foreshadow further weakness. The 14-week RSI is in neutral territory around 49, and would have to fall to at least 35 to register a good oversold reading. The weekly moving average convergence/divergence remains in a very bearish formation, and is certainly something to worry about in our opinion. The weekly MACD peaked in February, 2004, and then put in a lower high in December, 2004. This set up a negative weekly divergence with respect to price for the first time since back in 1999 and 2000. The weekly stochastic oscillator has also been flashing warning signs, having moved to a very overbought condition and then rolling over.

While we talk about both daily and weekly indicators, it is much worse for the market when the longer time frame is giving off negative divergences and associated sell signals. The monthly momentum indicators are still bullish but are starting to look toppy. The monthlies typically only give signals every couple of years. The last monthly MACD signal was a buy, back in April, 2003. The previous sell signal was in January, 2000.

With a plethora of support levels just below, it is going to be interesting to see if the S&P 500 can make a stand and turn higher. The index fell right to its 150-day exponential moving average this week in the 1,170 area. Chart support, from the low in January, lies at 1,164. The 200-day exponential moving average is at 1159 and the 200-day simple comes in at 1150. Major chart support begins in the 1160 area and runs all the way down to 1060.

Trendline support, drawn off the lows in August and October, is at 1,155. A 50% retracement of the advance from August, 2004, to the peak in March, 2005, lies in the 1,145 zone.

The Nasdaq broke down last week, taking out its Jan. 24 closing low of 2,008.70. Although volume during the day of the breakdown was about average, it was much higher than the day before. This continues a pattern of distribution by institutions that started in the beginning of this year. The Nasdaq tried to bounce after gaining support from its 200-day simple moving average at 1,993, but did not make much progress. On Thursday, the index rebounded intra-day right to 2,008.63, which was the breakdown point, and then reversed. This is typical action for an index after a breakdown or a breakout. Frequently, those points are tested after an index moves out of a trading range, with the breakdown point providing

resistance and the breakout point providing support. Chart support and a 50% retracement of the advance since August both come in around 1,970. With the internals so weak, and weekly momentum indicators in very bearish formations, we think the Nasdaq could ultimately drop to the 1,800 to 1,900 range before a strong bottom is in.

The bond market plunged again last week and yields on the 10-year Treasury note have soared from 3.98% to almost 4.6% in about a month and a half. On Wednesday, Mar. 23, the 10-year yield spiked to almost 4.7%, the beginning of chart support that runs up to 4.9%. In our opinion, bond yields may replace oil prices as the next major worry for stock market investors. Longer-term, bonds have put in a series of higher yield highs and higher yield lows since the major bottom in June, 2003. We think that during this correction, yields on the 10-year could carry up to the 5.2% to 5.4% area during the next couple of months. Trendline support, drawn off the yield highs in 2002, 2003, and 2004, comes in at 5.3%. Fibonacci analysis also targets this area. The next cycle (40-week) low does not arrive until September, so we think yields have plenty of time to rise before falling into this cycle low.

Required Disclosures

5-STARS (Strong Buy): Total return is expected to outperform the total return of the S&P 500 Index by a wide margin, with shares rising in price on an absolute basis.

4-STARS (Buy): Total return is expected to outperform the total return of the S&P 500 Index, with shares rising in price on an absolute basis.

3-STARS (Hold): Total return is expected to closely approximate the total return of the S&P 500 Index, with shares generally rising in price on an absolute basis.

2-STARS (Sell): Total return is expected to underperform the total return of the S&P 500 Index and share price is not anticipated to show a gain.

1-STARS (Strong Sell): Total return is expected to underperform the total return of the S&P 500 Index by a wide margin, with shares falling in price on an absolute basis.

As of December 31, 2004, SPIAS and their U.S. research analysts have recommended 26.5% of issuers with buy recommendations, 61.3% with hold recommendations and 12.2% with sell recommendations.

All of the views expressed in this research report accurately reflect the research analysts' personal views regarding any and all of the subject securities or issuers. No part of the analysts' compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report.

Additional information is available upon request to Standard & Poor's, 55 Water Street, New York, NY 10041.

Other Disclosures

This research report was prepared by Standard & Poor's Investment Advisory Services LLC ("SPIAS"), and may have been provided to you either by: (i) Standard & Poor's under a license agreement with The McGraw-Hill Companies, Inc., which holds the copyright to this report; or (ii) a Standard & Poor's client who is granted a sub-license by Standard & Poor's. This equity research report and recommendations are performed separately from any other analytic activity of Standard & Poor's. Standard & Poor's equity research analysts have no access to non-public information received by other units of Standard & Poor's. Standard & Poor's does not trade in its own account. SPIAS is affiliated with various entities, which may perform services for companies covered by the recommendations in this report. Each such affiliate is operationally independent from SPIAS.

Disclaimers

This material is based upon information that we consider to be reliable, but neither SPIAS nor its affiliates warrant its completeness or accuracy, and it should not be relied upon as such. Assumptions, opinions and estimates constitute our judgment as of the date of this material and are subject to change without notice. Past performance is not indicative of future results.

This material is not intended as an offer or solicitation for the purchase or sale so any security or other financial instrument. Securities, financial instruments or strategies mentioned herein may not be suitable for all investors. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation of particular securities, financial instruments or strategies to you. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice.

Readers should note that opinions derived from technical analysis may differ from those of our fundamental recommendations. Arbeter, a chartered market technician, is chief technical strategist for Standard & Poor's


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