Stocks Could Sell Off but Not Swoon: Technicians

Despite the market’s resilience in the face of anti-austerity election wins in Europe, stocks are still positioned for further selling, some technical analysts say.

But the pullback should be relatively small and open the door for a new round of buying, they said.

Bull or Bear Market
Andrew Unangst | Photographer's Choice | Getty
Bull or Bear Market

Wall Street stocks steadiedMonday after an initial shallow sell off, following through on Friday’s steep losses. The market was responding to elections in Greece and France, the latter of which voted in socialist Francois Hollande as president.

More of a concern was Sunday’s election in Greece, where both hard left and hard right parties who oppose the Greek bailout made gains, at the expense of the ruling party.

Markets globally sold off on the news and the euro traded lower. But by mid-morning New York time, the gloom lifted and French and German stock markets closed higheron the day.

“It does seem like we’ve got a little bit more (selling) to go,” said Oppenheimer Asset Management chief market technician Carter Worth. “We’ve been at this for five weeks. It’s one or the other—either price or time allows an overbought condition to get worked off.”

The S&P 500’s last pullback started in April, tumbling 4.6 percent after it hit its high for the year of 1,419 on April 2. It has since recovered ground, and is now down just about 3 percent from that high.

Worth said he expects stocks to decline further, with the S&P 500 possibly testing the key 1340 level before turning higher again. If the market does not fall that far, he expects it to trade sideways for a while more as it consolidates.

Rich Ross, global technical analyst at Auerbach Grayson also sees 1,340 as an important technical zone the market may head towards. “I think from there you could see a move down to 1,296-1,300. I think that’s a pretty good downside target from here, roughly five percent on the downside. If you have a five percent correction then you want to be particularly aggressive,” Ross said.

“I thought coming in to the week that the market was on pretty shaky footing. I still think we’re vulnerable here too. I don’t think this burgeoning correction is over. We are holding critical support,” said Ross.

Ross said the market’s reaction on Monday was an almost “buy the news,” but he said the market is showing signs of wear. The U.S. had been a standout as the technical structure of European markets looked poor, but that may be changing.

“I would remain cautious. I don’t want to say ‘sell in May.’ I don’t want to oversimplify it. I think technically speaking, we’re setting up for that type of situation to unfold again. I would keep some dry power for a better buying opportunity ahead,” he said. He noted that some of the high-flying momentum stocks are “showing cracks,” like Chipotle and Priceline . He also pointed to Apple, well off its high.

Paul LaRosa, chief technical analyst at Maxim Group, said it’s not clear whether the market will head lower from here, but what is clear, is that the market makeup is entirely different than it was this time last year.

“A year ago, we turned negative on the markets—in May of 2011. While the indices were near highs, we saw a lot of individual stocks and sectors topping out…I just don’t see that type of waterfall correction occurring this year,” he said.

LaRosa said if the S&P does break through support at 1,357, it would head to 1,340, but he would not expect it to get below 1,300. He said the support level for the Dow is 12,710 and the Nasdaq is 2,946. “My feeling is we have not broken down yet. There is some deterioration in the market. However, if those levels hold we have a chance of rebounding and making new highs,” he said.

Michael Darda, chief market strategist at MKM Partners, agrees the market is not going to be in for a sell off or “summer swoon” similar to last year or the year earlier. “”The fact that this has become nearly a consensus view, based on a panoply of widely cited risk factors, is one reason we believe it is unlikely to occur. We continue to believe pullbacks will remain in the 5%-7% range, so we would be inclined to buy into weakness if/when it develops,” he wrote in a note.

He also points out that the S&P is now 1.5 valuation points lower than it was before last year’s swoon. That would suggest, he notes, that the risks described by the financial media may already be reflected in current prices.

Meanwhile, both Worth and Ross point to signs of technical weakness in some industry sectors.

“Some of the key sectors are starting to show their age from the move we had from the October lows,” said Ross. “Consumer discretion has been a group that has largely carried the market on its back as the economic recovery was more robust than many had anticipated.” Since the beginning of the year, the S&P consumer sector is up 15.4 percent.

Worth also sees some sectors showing signs they are ready to correct or consolidate. He notes the S&P consumer discretionary sector is too far above its 150-day moving average and looks due for a correction, while the consumer staples sector also looks ready to correct.

The technology sector is another that’s too far above its 150-day moving average and risks a bigger correction, he noted.

Telecom is the only single sector at an “identifiable buy or sell juncture” and could be readying for a breakout move. He points out that AT&T , its biggest component, has just broken out.

Materials have sold off to a level of support at the 150-day moving average, where the potential to rebound is high, but he adds it will be important that it finds support and does not deteriorate as the energy sector has. Energy, he adds, has been a poor relative performer and has been “just wandering around” without a lot of character. The S&P energy sector is down 1.7 percent year to date.

As for financials and industrials, they are not signaling either a bullish or bearish trend, but the defensive utilities sector is on a steady uptrend, according to Worth.

Follow Patti Domm on Twitter: @pattidomm

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