Stocks enjoyed their best weekly gain of 2016 last week as the Dow Jones Industrial Average closed up +2.62%, the S&P 500 rose +2.84%, the NASDAQ Composite advanced +3.85%, and the Russell 2000 was up +3.91%. Interestingly though, oil, as measured by the US Oil Fund ETF (USO), rose only 2.64% and closed only marginally above last week’s cycle low. In addition, the yield on the US 10-year remained under 1.75% and the VIX is still over 20.

To be sure, a bounce in the stock market was to be expected. Everybody on the planet knows that stocks had become very oversold from a short-term perspective and the sentiment indicators had moved into extreme negative territory. And the bottom line is this combination usually causes traders to “go the other way” – at least for a trade.

On that note, StreetAccount summed things up nicely:

“The positive spillover from last Friday’s bounce seemed to largely be a function of short covering in combination with oversold conditions, overly defensive positioning and depressed sentiment. Tuesday and Wednesday were reported to be the largest cover days since October 2014, with both fundamental and quant-driven players involved. Momentum shorts were the big outperformers as a number of weak balance sheet, commodity leveraged, cloud software and Internet and social media stocks found some reprieve.”

Thus, from a short-term perspective, it appears that it is “game on” in terms of the next 5% move in the markets. From a bigger-picture perspective, we’re in a bear market. However, given the state of the decline and the fact that countertrend moves are normal (i.e. markets don’t move in a straight line) the bulls were certainly owed an opportunity to make their case.

The chart below makes it clear where the current lines in the sand are. In short, a meaningful break above 1940 would suggest that the bull argument has legs and that a test of 2000 would likely be the next stop. However, a “rally failure” in the coming days would likely lead to another “retest” of the lows in the 1810-1830 zone.

S&P 500 – Daily

In my humble opinion, it is the latter scenario that could hold the key to the major trend. You see, the big question at hand is if the current worries in the market have been overdone. And another successful test of the lows would represent a clear sign to the fast-money types that the lows of the bear move may be in.

But… (You knew that was coming, right?) If the S&P 500 were to break down below the 1810 area, the mood of the market would likely turn very sour, very fast and talk of “price discovery” in terms of valuations would likely become the theme of the day.

Is This Move Different?

For folks that don’t play the macro view game and instead focus on the price action on the charts, the question of the day is if this decline is going to wind up being any different from those seen since the current secular bull market (i.e. a move that lasts more than 5 years) began on March 10, 2009.

Take a look at the next chart, which is a weekly chart of the S&P going back more than a decade.

S&P 500 – Weekly

Looking at the current decline, it is fairly obvious that stocks are currently trending lower within a defined channel. It should also be noted that stocks have made a series of “lower lows” on the chart. Finally, it is fairly clear that stocks could bounce in a spirited fashion and still remain in this channel. As such, the bears would appear to be in control at this point in time.

Now compare the current action to the last two bearish periods stocks have experienced – the 2010 Greece Crisis and the 2011 Europe/U.S. Debt Downgrade debacle.

In 2010, the S&P did make a lower low on a weekly basis (labeled #2 on the chart) but then traced out a “head and shoulders bottom” soon after. Thus, the 2010 “bad news panic” quickly gave way to strong rally.

Next is the 2011 “mini bear.” This time the market dropped very fast – a move that scared folks half to death. However, I note that the S&P never made a “lower low” on the weekly chart. And once another round of QE was announced, stocks marched higher for some time – interrupted only by the occasional flirtation with Greece/Europe.

Lest we forget, it was global central bank intervention that eventually rescued the market in both cases. And to be sure, there is more QE coming from the ECB and BOJ. But with the U.S. Fed currently pursuing a divergent monetary path (which is supported by the recent inflation data) I’m not sure investors should count on the same outcome this time around.

The bottom line here is that from a chart perspective, it is clear that the current move looks very different from the two previous bearish market cycles – well, so far at least.

The Key to the Intermediate-Term Remains Oil

Unless you’ve been living in a cave for the past year, you know that the current decline in the stock market is being sponsored by the crash in oil prices. To review, the key concern is that the bust in oil will spill over into other parts of the global economy.

So, the bulls argue that if oil prices can stabilize and the global economy doesn’t worsen, then the current decline has likely discounted the potential negatives and stocks can move forward from here.

The good news is that oil is starting to display some signs of life from a short-term perspective. On the chart below, one can argue that oil is currently tracing out a double-bottom pattern. Thus, the key will be a break above the $10 level on the chart of the USO.

US Oil Fund (USO) – Daily

The problem is that while oil has showed some signs of bottoming from a short-term perspective, the same cannot be said when looking at the situation from a longer-term perspective.

US Oil Fund (USO) – Weekly

The bulls will argue that the current move in oil has surely “priced in” the oversupply situation and that the dance to the downside has been overdone in a major way. However, unless one is an expert on the history of oil prices, we are at the mercy of the market and traders here.

So, the key in the near-term on the oil front will be signs of stabilization.

The Longer-Term Worry Is The Banks

From a big-picture perspective, the deciding factor to the question of whether the current decline gets worse likely lies with the banks. Remember, the U.S. economy is doing just fine at this time. But if the major banks of the world start to come under pressure due to contagion stemming from the oil bust, well, things could definitely get ugly.

Speaking of the banks, take a peek at what is happening in a couple of big European banks right now. Below are monthly charts of Credit Suisse (CS) and Deutsche Bank (DB) going back 20 years.

Credit Suisse (CS) – Monthly

As you can plainly see, something is clearly wrong with the chart of Credit Suisse as the monthly chart has recently broken below support that went back to 2003.

Deutsche Bank (DB) – Monthly

And the same thing is happening to Deutsche Bank (DB), which is now at a fresh all-time low.

It should also be noted that these banks are now trading BELOW their respective 2008 lows. And the bottom line is that can’t be a good thing.

The next logical question then becomes, how are the U.S. banks holding up?

KBW Bank Index – Weekly

The good news weekly chart of the KBW Bank Index is in significantly better shape than the two European banks shown above and is WELL above the $20 low seen in early 2009.

The bad news is that the weekly chart of the US banking sector has broken down below important support and appears to be in “price discovery” mode to the downside here.


In sum, stocks and oil would appear to be embarking on a counter-trend move at this time. And the bottom line is no one can know how long or how far this move will go.

From my seat, the keys to watch going forward include the following: (a) a meaningful bottom in oil, (b) improvement in the banks on both sides of the Atlantic, (c) improvement in valuation readings, and to a lesser extent, (d) the removal of the uncertainty surrounding the race for the White House.