Bearish divergence warns of tech stock retracement

The US recorded more than 75,000 new COVID19 cases on July 16th. The CCP must be smiling behind their masks after successfully containing last month’s outbreak in Beijing.

COVID19 Daily New Cases

Source JHU CSSE

Technology stocks have screamed upwards despite the chaos, but bearish divergence on Twiggs Money Flow now warns of selling pressure. Expect retracement to test support at 2650 on the Dow Jones US Technology Index.

DJ US Technology Index

Dow Jones Banks Index is a more realistic representation of the broader US economy. The weak rally has fizzled out, with a Money Flow peak at zero now warning of strong selling pressure. Breach of short-term support at 320 would signal another test of primary support at 270/280.

DJ US Banks Index

Government support can only cushion the impact of a massive surge in unemployment for a limited time. Then we will witness the full extent of the damage.

Continued unemployment claims jumped to 17.355 million on July 4th, up by 840,000 from a week earlier. Judging by the rising virus count, further increases are likely.

Continuous Claims

But that is only the tip of the iceberg.

The latest Department of Labor update shows 32 million people claimed unemployment insurance benefits in all programs for the week ending June 27.

Department of Labor: PERSONS CLAIMING UI BENEFITS IN ALL PROGRAMS

…..21% of the 152.4 million non-farm workforce in February 2020.

Pandemic Unemployment Assistance (PUA) under the CARES Act, signed into law on March 27, 2020 provides benefits to those individuals “not eligible for regular unemployment compensation or extended benefits under state or Federal law or pandemic emergency unemployment compensation (PEUC), including those who have exhausted all rights to such benefits.”

The S&P 500 is inching upwards, reflecting the tug-of-war between technology stocks and the broader market. We expect retracement of the Technology Index to cause another test of support at 3000 (on the S&P 500).

S&P 500

Nasdaq: Devil take the hindmost

I am fond off quoting Jesse Livermore’s maxim “You don’t argue with the tape” but Livermore was a keen student of market conditions and based his decisions on far more than just price action in the market.

We are witnessing a spectacular stock market rally, driven by retail investors and hedge funds piling into the market while institutional investors are sitting on the sidelines.

The Nasdaq 100 broke through resistance at 10,000, new highs signaling a fresh primary advance. Bearish divergence on Twiggs Money Flow index may warn of selling pressure but it is hard to argue with the tape. Only a fall below 9500 would signal another decline and that seems unlikely at present.

Nasdaq 100

Even retail sales (ex food) have recovered sharply, from -15.3% in April to -1.4% in May (annual % gain).

Retail Sales (ex Food)

Light vehicle sales are more sluggish but June sales of 13.05 million are still a sizable bounce.

Light Vehicle Sales

So why are many old investment hands acting with such caution?

We know that the efforts to contain the COVID19 outbreak are struggling, with over 60,000 new cases per day, but the economy still seems in good shape.

COVID19 Daily Cases

Source JHU CSSE

Let’s look at where the money is coming from.

Federal Debt

Treasury debt has expanded by more than $3 trillion in the last four months (March 9 – July 9) as the government does everything in its power to cushion the economy from an unprecedented shutdown. Rescuing airlines, bailing out Boeing, emergency business loans, job preservation schemes, and supporting Fed purchases of a wide variety of financial assets to keep the plumbing of financial markets open. Every way they can, government has been flooding the market with money and some of that has found its way to the stock market. Whether through boosting stock purchases, enabling companies to raise debt or boosting consumer spending to buoy up sales, the market is flying on borrowed money.

Steep up-trends like this typically end in a blow-off. A trend is self-reinforcing if rising prices attract more investors who in turn bid up prices even further. A steady influx of new investors is required to sustain the trend, else it dies.

Similar self-reinforcing cycles are evident in nature, where they expand violently outward at an exponential rate until they run out of fuel. The fuel driving the event may differ, from dry tinder in a forest fire, warm ocean temperatures in a hurricane, consumable vegetation in a locust plague, …..or exposed population in a virus outbreak. The cycle expands, feeding on itself, until the fuel is exhausted.

A stock market blow-off is no different. The up-trend will continue for as long as rising prices are able to attract new investors. It will stop when the source of new money dries up. In this case, when Treasury tries to slow the unsustainable growth in federal debt. Then it becomes a case of devil-take-the-hindmost as a preponderance of sellers attempt to offload their stocks on a rapidly shrinking pool of buyers.

COVID19: The new normal

COVID19 looks like it will be with us for some time. The US has to guard against a second wave, destroying any hard-won gains.

Daily Cases

Especially with the upsurge in daily cases in Mexico.

Daily Cases

Australia has been fortunate to catch the outbreak early.

Daily Cases

But international travel is likely to remain restricted for a long time. When you have new outbreak hotspots like Brazil….

Daily Cases

and Pakistan appearing on the radar.

Daily Cases