Technical Indicators Forecast Cautiously Cloudy Conditions Ahead

Technical indicators get really, really ugly as European debt crisis shakes world financial markets.

All the talk this week has been about Europe, Greece and the potential for global destruction that a Greek exit from the Euro might precipitate.  Certainly the news is scary as the potential for a cascading financial crisis that could spread to Spain and Italy and across the pond to the United States becomes a mounting possibility.

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But while the fundamental picture is ugly, the technical picture is unbelievably ugly.  Let’s take a look at a few charts that should give every investor/trader pause as we head deeper into the muddy waters of the seemingly never ending European crisis.

Here in this conventional chart of the S&P 500 (NYSEARCA:SPY) we see that the index has formed a very clear double top that has now broken major support levels. 

Chartists put the potential decline of this formation to be in double digits with the most bearish forecasts being in the 700-800 range on the S&P 500, (NYSEARCA:SPY) some 40% below current levels.

The other thing we notice here is that the index is coming perilously close to its 200 day moving average, just 1.3% from current levels, and this widely watched average is commonly thought of as the line in the sand between bull and bear markets.

In this chart of the S&P 500 (NYSEARCA:SPY) we see that the point and figure system issued a “sell” signal on May 8 with a “triple bottom breakdown” and now has a bearish price objective of 1180, approximately 9% below current levels.

More ominously in this chart, the 1180 price objective is below the blue bullish support line which is the line in the sand between bull and bear markets in point and figure charting.  You can see how these blue and red lines really do act as walls and are clear indicators of significant directional changes.

Therefore, a break below approximately 1230-1240 on the S&P 500 (NYSEARCA:SPY) would be an extremely bearish development.

In this chart of the Bullish Percent Index we see a “bear alert” that was issued in mid-April when the S&P 500 (NYSEARCA:SPY) was about 100 points, 7% higher than today’s levels.  The black horizontal line is the point below which the “bear alert” will become “bear confirmed,” a condition which we haven’t seen since last summer’s correction.

And here’s the scariest chart of all.  This is a chart of the 30 Year Bond Price (NYSEARCA:TLT) and the red blocks show how bond prices spike during times of stress in the stock market as we saw during the crisis of 2008 and the corrections of 2010 and 2011.

“You are Here” is where we are today and we can see near panic in the bond market as record levels are being reached with bond prices higher and yields lower than levels reached during the height of the financial panic and bear market of 2008-09 when the S&P (NYSEARCA:SPY) declined to 666 and the Dow Jones Industrial Average (NYSEARCA:DIA) sunk to 6547 in early March, 2009.

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So the bond market is pricing for an even more dangerous environment than it saw in 2008-09 while the major indexes have only declined single digits from recent highs.

Most analysts think that the bond market  is “smarter” than the stock market and so if this is correct, the stage is set for what could be a significant stock market wipeout.

ETFs For Armageddon

We all read a lot about the dangers and risk in today’s world but very little has been written about how investors can seek profits from today’s challenging markets.

At Wall Street Sector Selector, we try to capture moves in both up and down directions rather than just “buy and hold” or moving to cash during troubled times.

Two of our favorite ETFs today are AdvisorShares Active Bear ETF (NYSE:HDGE) and iShares 20+ Year U.S. Treasury Bond Fund. (NYSE:TLT)  Wall Street Sector currently holds positions in both of these ETFs, however, in today’s volatile markets, positions can change at any time.

chart courtesy of StockCharts.com

In this chart of (NYSE:HDGE) we can see how it is above both its 50 and 200 day moving averages, indicating strong upward momentum and a “bull” market and MACD shows a strong upward trend.  RSI, however, is vastly overbought and so we expect a retracement (within the context of the ongoing uptrend) sometime in the future after the recent strong move.

In this chart of iShares 20+ Year Treasury Bond ETF (NYSEARCA:TLT) we can graphically see the recent “flight to quality” as assets flee “risk” sectors for the safety of U.S. Treasury Bonds.  Various duration bonds are at or near record highs as the bond market prices for “Armageddon.”  This ETF is currently overbought, as well, so higher moves could be expected after a short retracement and higher prices would be supported by more fear and problems coming from Europe as well as any move by the Federal Reserve to further ease monetary policy via more quantitative easing or an extension of Operation Twist now scheduled to expire in June.

Bottom line: Overall, we expect more volatility and lower stock prices ahead over the next few months.  In the very short term, major markets are extremely oversold and so a bounce higher would be expected.  Longer term, we live in dangerous times but danger and opportunity always present themselves hand in hand. Great dislocations like current problems in Europe open doors to great potential opportunity. 

John Nyaradi is the author of The ETF Investing Premium Newsletter.

Disclosure: John Nyaradi’s service holds positions in (NYSE:HDGE) and (NYSE:TLT) and positions can change at any time.  John Nyaradi’s service actively trades a wide range of exchange traded funds and positions can change at any time.

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