Why the Bulls Need to Use Caution

By Sam Collins,

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Yesterday, stocks opened lower following a worse-than-expected jobless claims number. Selling continued through the first hour of trading, pushed along by more concerns about Greece's borrowings, as the cost to insure the country's bonds rose to a record high.

But the selling ebbed when the president of the European Central Bank ( ECB ) tried to assure lenders that there was no information that would indicate that Greece will default on its bonds. The assurance was made following the ECB's decision to leave their targeted lending rate at 1%.

The Dow Jones Industrial Average ( DJI ) was off about 54 points just before the ECB announcements, but buyers emerged following the statement in the U.S. financial sector.

The U.S. dollar, which was strong in the first hour, began to sag, and the euro rallied. By the close, the financial sector had swung from a 0.7% loss to a 0.8% gain. 

Buyers also picked away at retail stocks following strong sales gains for both Target ( TGT ) and The TJX Companies ( TJX ) for March. But despite strong sales for JC Penney Co. ( JCP ) and Kohl's ( KSS ), both of those stocks fell.

At the close, the Dow rose 30 points to 10,927, the S&P 500 ( SPX ) gained 4 points to 1,186, and the Nasdaq ( NASD ) gained 6 points to 2,437. 

The NYSE traded just over 1 billion shares with advancers over decliners by a margin of 8-to-7. The Nasdaq crossed 611 million shares with advancers just slightly ahead of decliners.

May crude oil fell $1.25 to $84.63 a barrel on a reaction to increasing inventories, and the Energy Select Sector SPDR ( XLE ) gained 21 cents, closing at $59.20. 

June gold fell 10 cents to $1,152.90 per ounce, and the PHLX Gold/Silver Sector Index ( XAU ) closed at 175.95, down 10 points.

What the Markets Are Saying

After two days down, stocks posted modest gains yesterday. But, although encouraging to the bulls, it was not a reversal day to the upside, but it does neutralize the negative chart picture and puts us back into the position of evaluating the markets internal and sentiment indicators.

All of the most-watched internal indicators for the Dow Industrials, the S&P 500 and the Nasdaq are still overbought, with the slight exception of the momentum indicator, which is just slightly overbought. The momentum's fall to a more neutral stance is not surprising given the relative sideways movement of stocks during the past four sessions. 

The single internal indicator that continues to bother me is the Relative Strength Index ( RSI ) . Although it has fallen from the extreme highs of March, it is still overbought. But a modest correction in stocks could bring the RSI more in line, and for that reason, along with the many levels of support , I believe any correction will most likely be shallow but long lasting.

On to the sentiment indicators. The AAII numbers have been moving to the more bullish side for the past two weeks, and now show bulls 42.86% and bears 30.36% (which is not good). 

The CBOE Volatility Index ( VIX ) is at 16.48, showing a level of excessive bullishness and complacency among options traders. StreetSmartReport.com commented yesterday that the VIX has closed that low only four times since 2007, and each time it coincided with a major top. StreetSmart went on to say that the most significant top was made on Oct. 9, 2007, which was the exact top of the 2003 to 2007 bull market.

There has been no change in either the internal or sentiment indicators for several weeks. They must lead us to a very cautious stance on the market, so I remain a very cautious bull.

Today's Trading Landscape

Earnings to be reported before the opening: Blyth Industries and Constellation Brands.

Economic report due: wholesale trade.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

This article appears in: Investing Stocks

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Sam Collins

Sam Collins

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