Dead Cat Bounce or the Real Deal?

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Stocks closed up Friday after a dizzying week of high volatility with a Dow rally that sent the index to its second-biggest gain in 2014. Bargain hunting prevailed as institutional buyers couldn’t resist blue-chip discounts while trimming gains in small caps.

Friday evolved into a “risk-on” buying spree as investors dumped bonds in favor of equities. The Wall Street Journal noted: “Some traders said the gains show the buy-the-dip mentality that has propelled stocks since their 2009 low remains in place.”

Early in the week, investors were spooked by a weak European economy and the Ebola threat. But late in the week, comments from a non-voting Federal Reserve member who thought that the bond-buying plan should be extended resulted in a sharp rally. The rally accelerated following various comments from European central bankers that asset-backed security purchases should begin “within days” and the Bank of England’s chief economist saying the data speaks in favor of delaying a rate hike.

The iShares Nasdaq Biotechnology (IBB) was up over 2.7% at the start of trading, but ended the session only 1.7% higher. And the iShares PHLX SOX Semiconductor Sector (SOXX) opened strong but settled up just 0.7%.

Buyers were encouraged by better-than-expected earnings from General Electric (GE) and Honeywell (HON). And transportation stocks were in vogue, with the Dow Jones Transportation Average up 1.5% Friday and 3.2% for the week.

Housing starts for September jumped by a better-than-expected 6.3%, with multi-family housing starts increasing 15.6% after falling 28% in August. Single-family construction increased as well.

The University of Michigan Consumer Sentiment Index increased to 86.4 in October, while consensus estimates were for a decline to 84.

At Friday’s close, the Dow Jones Industrial Average gained 263 points to 16,380, the S&P 500 rose 24 points to 1,887, the Nasdaq gained 41 points at 4,258, and the Russell 2000 fell 4 points to 1,082.

The NYSE’s primary market traded an above-average 1.1 billion shares with total volume of 4.4 billion shares. The Nasdaq crossed 2.2 billion shares. On the Big Board, advancers outpaced decliners by about 2-to-1, but on the Nasdaq, decliners led by a small margin.

For the week, the Dow and S&P 500 fell 1%, the Nasdaq lost 0.4%, and the Russell 2000 rose 2.8%.

SPX Chart
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Chart Key

Last week’s multiple reversals were assisted by a volume spike on the NYSE of over 1 billion shares for several consecutive days, accompanied by high block volume. This is a healthy indication of ongoing bottom building.

However, despite these positives, there is still significant resistance that must be overcome before I have confidence in a change of the intermediate trend (the long-term trend is still up). The first barrier is the 38.2% Fibonacci retracement of the October breakdown at 1,898. Next is the 200-day moving average at 1,906, and then the resistance zone at 1,910 to 1,926.

If the S&P 500 is able to pierce these barriers, then the trend would be neutral until the 50-day moving average at 1,967 is penetrated or a near-term higher high and higher low are established.

Conclusion

Small caps led the way at midweek, with the Russell 2000 reversing from Wednesday’s low of 1,040.47 (see Oct. 17 Daily Market Outlook) with consecutive gains of over 1%. Then Friday’s focus turned to the higher-quality stocks as strong block buying ($200,000-plus or 10,000 or more shares) turned to the Dow and the S&P 500. And that’s normally how bottoms are constructed, by establishing group rotation from small caps to big caps.

But as good as it now looks, there was so much technical damage done in September to mid-October that more bottom-building is required before we will know if the rally is a dead cat bounce or the real deal.

Today’s Trading Landscape

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

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


Article printed from InvestorPlace Media, https://investorplace.com/2014/10/dead-cat-bounce-real-deal/.

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