Divergence Raises Caution Flag

by Sam Collins | June 4, 2013 2:39 am

Stocks rallied on Monday despite a lower-than-expected May ISM report. This “bad news interpreted as good news” reaction was with the expectation that the Fed would continue with its policy of accommodation and bond buying.

Merck (MRK[1]) and Intel (INTC[2]) rose sharply, keeping the Dow industrials in positive territory for the entire day. Merck, up 3.8%, reported success with a key drug trial, and Intel, up 4%, introduced its fourth-generation processors.

At the close, the Dow Jones Industrial Average was up 138 points at 15,254, the S&P 500 rose 10 points to 1,640, and the Nasdaq was up 9 points at 3,465. Volume on the NYSE increased to 879 million shares and the Nasdaq traded 545 million. On the Big Board, decliners exceeded advancers by a slight margin, and on the Nasdaq, advancers were ahead by 1.4-to-1.

06 04 13 dji 300x187 Divergence Raises Caution Flag
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chart key 300x84 Divergence Raises Caution Flag[3]

The industrials briefly violated their 20-day moving average at 15,275, but with Monday’s advance closed above it. Monday’s gains also focused attention on the support zone at 15,000 to 15,115, since a break there would put immediate pressure on the 50-day moving average at 14,891. The index is trading within a well-defined bull channel but looks “toppy” with a MACD sell signal in force.

06 04 13 djt 300x188 Divergence Raises Caution Flag
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The Dow Jones Transportation Average shows a disconnect with the more bullish industrials. This index led all others until March, when it began a series of consolidations and even broke the support at its 50-day moving average in May.

It appears to have broken down from a minor head-and-shoulders formation by closing under a neckline at 6,320. The target for the breakdown is 6,072. And it, like the industrials, received a sell signal from its MACD.

Conclusion: Although the divergence between the two Dow indices is minor, it raises a caution flag. Volatility is picking up, and the sharp sell-off on Friday by the S&P 500 establishes a “line in the sand” at Friday’s low of 1,630.

The S&P 500 reversed Monday, closing 10 points above that support, but with volatility now very high, the possibility of a further correction has increased. On May 24[4], I said that my guess was that we had seen the highs of the summer months, and recent price action supports that view.

Today’s Trading Landscape

To see a list of the companies reporting earnings today, click here[5].

For a list of this week’s economic reports due out, click here[6].

Endnotes:
  1. MRK: http://studio-5.financialcontent.com/investplace/quote?Symbol=MRK
  2. INTC: http://studio-5.financialcontent.com/investplace/quote?Symbol=INTC
  3. [Image]: http://investorplace.com/wp-content/uploads/2013/05/chart-key.gif
  4. On May 24: http://investorplace.com/2013/05/daily-stock-market-news-have-we-seen-the-highs-for-the-summer/
  5. click here: http://online.wsj.com/mdc/public/page/markets_calendar.html?mod=topnav_2_3024
  6. click here: http://www.briefing.com/Investor/Public/Calendars/EconomicCalendar.htm

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