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Stocks have been strong heading into the Federal Reserve's quarterly press conference. They are now back to levels reached in May, before speculation about tapering picked up. This week, we will learn which way they will go after the Fed details its plans.
Markets Should Transition From Rumor to News
Price action in the first two weeks of September has demonstrated that following popular Wall Street wisdom can be costly. Despite its reputation as a bearish month, stocks have done fairly well so far this September.
SPDR S&P 500 (NYSE: SPY) is up 3.47% since the end of August with most of that gain coming in the past week. SPY gained 1.98% last week, and the ETF gapped up Monday morning to a new all-time high.
Earnings have also reached new all-time highs with operating earnings per share (EPS) setting a new record in each of the last two quarters. Analysts expect earnings to reach another new high this quarter.
SPY is not the only major index making new highs. PowerShares QQQ (NASDAQ: QQQ) also made a new 52-week high before the open Monday. QQQ is still about 35% below its 2000 high, but is back to levels not seen since November 1999, before the Internet bubble pushed the index to unimaginable highs.
Higher prices and record earnings are bullish indicators for the stock market. In the past, both SPY and QQQ have been higher 87% of the time six months after they reach new 52-week highs.
The stock market is overbought on a technical basis and vulnerable to a sell-off, but overbought markets can become more overbought. One indicator that shows when an overbought market is likely to continue higher is the DeMark Sequential, a popular indicator among market professionals. This indicator can be confusing and is difficult to understand. I am not providing a complete explanation of the Sequential here, but I will highlight its current position.
The chart below applies the Sequential to QQQ. This indicator begins with a setup, shown as a rectangle in the chart below. A setup is completed when the price closes higher than it was four days prior for nine consecutive days. Once the setup is completed, the countdown begins and increases by one each day that the close is higher than it was two days prior. When the countdown reaches 13, a sell signal will be triggered on a lower close.
The DeMark Sequential is designed to spot potential turning points. The idea is that after an uptrend lasting more than a month (the nine-day setup period followed by the 13-day countdown requires at least 22 trading days and usually more), a reversal is probable. However, unlike most indicators, the Sequential can reset and complete a new setup before giving a sell signal.
A new setup was completed on Friday in QQQ, indicating the price could continue higher.
The Sequential is not an infallible indicator, but it is very useful. This unique indicator is the only one I know of that resets and allows you to see when an overbought market is likely to become more overbought.
The Fed's statement on Wednesday could change everything. However, odds favor continued gains in stocks and pullbacks should continue to be used as buying opportunities.
Goldman Says Gold Could Dip Below $1,000
SPDR Gold Shares (NYSE: GLD) fell 4.72% last week, and an analyst at Goldman Sachs (NYSE: GS) said more declines are possible. For 2014, Goldman sees gold hitting $1,050 but believes that prices could overshoot to the downside, falling below $1,000. Gold at $1,050 would be equivalent to $105 on GLD since each share of GLD represents the price of one-tenth of an ounce of gold.
Goldman's price targets are probably based on supply-and-demand models, but the chart shows that their target is near a 50% retracement of the price move that began in 1999 and ended in 2011.
India's economic slump was one reason for bearishness cited by Goldman. India is the largest consumer of gold. Although gold prices are lower after the rupee declined, economic growth is slowing in India and that could hurt consumer spending. A lack of buyers in the largest market would hold down the price of gold.
One piece of data that shows how deep the slowdown could be is the latest GDP forecast for India. Government officials recently cut their forecast for growth in GDP to 5.3% from 6.4%. Growth in India averaged 8% a year in the last 10 years.
Gold appears to be inexpensive when compared to the prices seen two years ago, but with demand down, prices are unlikely to stage a significant rally. Gold remains a market that traders should avoid.
This Week's News
The Federal Reserve holds a two-day meeting this week on Tuesday and Wednesday. Expect trading to be subdued until Wednesday when the Fed releases its statement. Then look for volatility into the end of the week.
A breakdown below an important trendline could trigger a double-digit drop in shares.
The bar has been set extremely low, and the tech giant should have no trouble clearing it.
This week's trade is part of an active strategy that can help investors target annualized double-digit gains.