ETFs: Preparing For A Big Drop

As we head into the first week of February, index and sector ETF charts are looking precarious. The past two days of selling have dropped SPY (SPY) below the 50 day moving average on increasing volume.

- iShares Russell 2000 index ETF (IWM) also dropped below the 50 day, but with slightly declining volume.

- PowerShares QQQ (QQQQ) is still in a sideways trading range.

In the bulls favor, we are probably a bit oversold at these levels, and the government could announce new plans at any time to squeeze the shorts. At the same time, we have some significant earnings reports this week, as well as a variety of reports relating to retail and to employment. News is likely to be bad. I expect Friday’s employment number to be much worse than we saw for November and December. To review the last report:

Nonfarm payroll employment for December was dismal as the number of jobs plummeted 524,000, following a drop of 584,000 in November. Payroll jobs contracted every month in 2008 for a cumulative loss of 2.6 million-the largest yearly drop since the end of World War II.

Keep in mind that many companies are likely to have delayed layoffs until after the holidays. We already know that companies announced over 100,000 job cuts just last week.

In a brutal week for the job market, an assortment of companies across various industries announced more than 100,000 job cuts.

The bulk of the job loss news occurred on Monday, when several major U.S. companies announced sweeping job cuts, pushing the day’s total to more than 70,000.

If we take a look at some sector ETF charts, we can see many are under heavy technical resistance.

- Retail HOLDRs ETF (RTH) is in a downward sloping channel, is below the 50 day moving average, and made a lower low on Friday. I have a good number of retails companies on my short watchlist, including TGT, DLTR, HD, RSH, CONN, BBBY, BBY, JWN, WSM, HIBB, SBH, KSS, M, FL, AZO, and ZUMZ. I’ll try to get some charts up by the end of the weekend.

- Consumer Discretionary ETF (XLY): The consumer discretionary ETF was lower on Friday on increasing volume, and has significant overhead resistance. A break below Friday’s low would provide a good short entry.

- iShares Dow Jones Transportation Average ETF (IYT): The transports look particularly weak, and is very close to breaking below November’s low. According to Dow Theory, this would be a very bearish development for the broader market.

- Industrial Select Sector SPDR ETF (XLI): Industrials are trending lower, and are underneath a declining 50 day moving average.

- Financial Select Sector SPDR ETF (XLF) has layers of overhead resistance.

- United States Oil ETF (USO) is forming a base and a potential bottom, with heavy trading throughout January. A sharp move higher would likely create buying interest for oil services, could spill over into other commodity sectors, and also generate a short squeeze in heavily shorted sectors like financials, real estate, and homebuilders. On the other hand, a break to new lows would probably indicate that distribution is occurring on a broader basis.

Some reading:

- Bonddad has an excellent overview of the GDP number.
- Mr. Mortgage discusses home inventory and default numbers, as well as underreported “shadow inventory”.
- Mish Shedlock provides a variety of grim news and statistics, including links to some transport numbers:

The 22.6% free fall in global cargo (December 2008 vs December 2007) is unprecedented and shocking. There is no clearer description of the slowdown in world trade. Even in September 2001, when much of the global fleet was grounded, the decline was only 13.9%,” said Giovanni Bisignani, IATA’s Director General and CEO.” Air cargo carries 35% of the value of goods traded internationally.

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