A Technical Look at Earnings

The fun thing about technical analysis is you can take virtually any data and analyze it through its lens. For example we all understand the positive relationship between corporate earnings and stock prices. Higher earnings = higher prices and vice versa. Earnings are a key tool fundamentalists use in their analysis of the markets to look at valuations and other metrics. Now, if I plot reported GAAP earnings on the SP500 companies against the price of the SP500 stock index over the past 20 years it would look something like this …

In the upper pane is GAAP earnings (blue line) and the lower is the SP500 index price. I have added a simple 200 day moving average to earnings (orange line) to smooth out its gyrations and use as a trigger line for a very simple investment system.  That system would be to sell stocks when earnings cross below the moving average and buy when they cross above.  I have added red vertical lines indicating where those sell signals occurred in the past.

While I have not back-tested this “system”, just using the ol’ eyeball test, it seems to do a pretty good job of avoiding a big chunk of major corrections and keeping you invested while the trend is rising. Like any system using moving averages it is susceptible to false signals/whipsaws like the one that occurred in 1998. Time will only tell if the recent “sell” signal turns out to be a whipsaw or not, either way investors should tread lightly here as the weight of the evidence is flashing warnings signs.

April's Charts on the Move Video

The US stock markets are extended and beginning to tire from their February bottom.  Its likely we see some consolidation or potentially a much deeper correction over the next few weeksl While stocks are stalling, the materials and mining sectors are on fire putting in what may be an important long-term tradeable bottom. My latest video, view-able at the link below takes a look at the cooling US stock indexes and red hot traditionally "inflation trade" sectors. Let me know what you think.

https://youtu.be/E0MYQfrB4kQ

Fabbing Semiconductors for a Trade

SMH, the semiconductor stock index does not contain Apple but its major holdings are very dependent upon Apple’s orders. As Apple goes, for the most part, so goes the index.  And with Apple reporting after today’s close I thought I should get this post out a bit early as I think with as many eyes and ears as there are on their forward guidance, I expect we may see a wild swing in the direction of the market’s take on the news.

The busy chart of SMH below is a mixture of bullish and bearish arguments so trying to position ahead of any move is foolish, in my opinion. Let price action lead us to the highest probability outcome. The bullish case shows the (red) 200 day moving average in the initial stages of turning positive; RSI momentum in the upper pane is in the bullish range; on balance volume in the lower pane is in a strong uptrend from the Sept bottom and a 50/200 moving average golden cross occurred earlier this month.  

The bears are pinning their hopes on a couple of key points. Firstly, it may be hard to see but in the past few weeks we have formed a double top with price failing each time it reached the $55.55 area.  Finally RSI momentum has created negative (bearish) divergence with price indicating a pause or correction is likely to occur. A breakdown from the neckline projects to an initial target a piddly 4% lower. If that level does not hold, a second and more significant target of ~10% lower is a good possibility.

If you focus your attention to the center and left side of the chart you will see that over the past 18 months we have had two prior occurrences of topping patterns combined with bearish momentum divergence. They lead to more than a 19% and 24% drop from peak to trough. It’s important to remember and not get too excited about jumping ahead that bearish divergences are not a sell or short signals in and of themselves but they are caution flags and definitely should not be ignored.

While the current price action in SMH warns of a corrective decline ahead, the other possibility is this topping pattern morphs into a bullish consolidation flag (on a break and confirmed close above $55.55) suggesting there could be a lot more upside from here since the overbought condition has unwound. Either way, I think Apple will be the catalyst for a nice setup, regardless of whether it turns out to be a bullish buy or bearish short.

Stay tuned.

An Internet Minute

A fascinating chart I saw regarding what happens on average every minute on the internet for the sites with greatest activity . I can honestly say I am active in 3 of them daily and only 2 others on a weekly basis. What about you?

Silver Bells

As always I get lots of questions regarding precious metals so I thought I would give a quick update on Silver. As you can see in the weekly chart below, silver bottomed at the end of last year and since then to the delight of the bulls has created a series of higher highs and higher lows. To confirm a bottom you want to see the formation of a typical bottoming pattern and silver did not disappoint as it formed what I would consider an ideal inverse head and shoulders. This provided what I needed to conform an intermediate bottom was likely put in. The upside target for that pattern is the red horizontal lined labeled “formidable resistance”. Once it makes it there I expect to see a choppy pull-back which would create the right shoulder of a much bigger head and shoulders pattern.  If this were to occur it would all but seal the coffin of any remaining silver bears and provide a “back the truck up” or “full position” type portfolio opportunity.

This is by no means an endorsement to go out and buy silver right now.  If you missed the train leaving the station based over the past 3-4 months, the extent and speed of the run-up has been overdone and the risk/reward I feel provides a poor entry point right now. Oversold divergent high conditions on the short term charts raises a caution flag for me and until those conditions have had a chance to unwind I will be content with my existing positions. Anyone who missed the boat or wants to add to their position would do well to wait for the next higher low to be made.