Friday rally continuing?

Commentary: It was an interesting week to say the least for the markets. The markets began the week by breaking down under an important support level on high volume. After a few volatile days, the markets ended up closing out the week on a strong note. Despite this strong finish to the week, the markets remain vulnerable and traders should remain cautious of the notion that a bottom is in.

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The S&P500 as represented by the S&P 500 SPDRS (NYSE:SPY) ETF broke under an important support level earlier this week as it fell below the $106 level. This was a pivot low earlier in July and with SPY falling below this level it negates the pattern of higher highs and higher lows. Despite the strong close at the end of the week, SPY remains below a price cluster formed over the past couple of weeks and its declining 20 and 50-day moving averages. While there is the potential that SPY will hold important support at this level, it will likely take more time and a retest before an important low is formed.

The price action in the Diamonds Trust, Series 1 (NYSE:DIA) ETF, which tracks the Dow Jones Industrial Average, is revealing a little stronger picture. While DIA pierced under a similar pivot low from mid July, DIA never closed beneath that level and instead is respecting this level as support. This is a positive, but should also be taken in the context of DIA being below its declining 20 and 50-day moving averages as well. While the possibility of DIA holding support near these levels is valid, it is highly unlikely that DIA can mount a sustained rally from these levels. More likely, DIA will be range bound in the near future. This weeks low becomes even more important as it would be the second time it has attracted buyers.

While the Powershares QQQ ETF (Nasdaq:QQQQ) ended the week on a positive note, it is showing relative weakness compared to the other index ETFs. QQQQ closed well under this week’s bearish gap area and could barely climb back above the $44 level. There are now two bearish gaps that remain unfilled on this chart is just the past month which is showing that sellers are aggressively dumping stock. Overall, QQQQ remains in a much larger trading range and traders will need to watch carefully to see if sellers become more aggressive in the coming days.

While the Russell 2000 as represented by the iShares Russell 2000 Index (NYSE:IWM) has been lagging recently, it was the first of the index ETFs to fill its Tuesday gap down this week, and closed near its high for the week. All the other indexes remain below where they opened this week which is interesting. IWM is one of the key indexes to monitor for leadership, and if IWM continues to move ahead of its peers it will be a valuable clue in gauging the validity of this bounce attempt. At this point, this weeks low and the July lows are so close together, that the $59 level becomes possibly the most important level to monitor across the all the indexes.

The Bottom Line
The markets are once again making it difficult for traders as they mixed some very important technical failures with a strong close this week that hints at an attempt to bottom out. The possibility of a bounce from this level is very real, especially in light of the markets being oversold on a few indicators. However, the path of least resistance is lower now, with the indexes in a near term pattern of lower lows and lower highs. Traders will need to closely monitor how the indexes deal with last weeks highs if tested in the coming week. In the grand scheme of things, the general indexes remain in a much larger trading range established over the past year. All the indexes are trading closer to the bottom of this range, and coupled with the recent price action, it is making for a vulnerable environment. Traders should continue to trade cautiously until a clearer direction emerges.

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