ETF Weekly Update: Be Afraid, Be Very Afraid (INDU, RUT, TUR, IAU, EWP, ITB)

July 31, 2011

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“Be afraid, be very afraid,” the famous quote from the 1986 horror movie, “The Fly,” could be very applicable to our situation today as stock market and ETF investors.

Not only are we facing the uncertainties of the long playing soap opera on Capitol Hill regarding lifting the deficit ceiling and the attendant possibility of a U.S. credit downgrade, but now we are also looking at some very troubling economic reports that could easily be pointing to the likelihood of a double dip recession.

At Wall Street Sector Selector, we remain in the defensive mode, expecting lower prices ahead.

On My Wall Street Radar

The fundamentals border on the horrible and we’ll discuss those in detail in a moment, and technical indicators are, unfortunately, no better.

Chart courtesy of www.stockcharts.com

In the Point and Figure Chart of the Dow Jones Industrials (DIA) above, we can see how a “sell” signal was generated on July 25th with a downside price objective of 11,400.

Most ominously, the blue, bullish support line was penetrated, which indicates a significant trend change in point an figure charting, similar to a break of the 200 Day Moving Average in conventional technical analysis.

Chart courtesy of www.stockcharts.com

Similarly, the Russell 2000 (IWM) generated a “sell” signal on July 27th and also broke its trend line.

The breaks of these two trend lines is extremely significant as such action doesn’t occur very often and seldom produces whipsaws and so could be a clear harbinger of a new bear market in these major indexes.

The Nasdaq Composite and S&P 500 are also on intermediate “sell” signals but remain above their trend lines and so it will bear watching to see if this action spreads to these other major indexes.

The Economic View from 35,000 Feet

Last week’s economic activity and news were dismal, to say the least.

The debt ceiling/deficit debate continued with no resolution and even with the expected 11th hour solution, it’s growing more likely that the ratings agencies might still downgrade U.S. credit standing which would likely lead to higher interest rates and further economic headwinds in the days ahead.

But the worst news of the week, by far was Friday’s GDP report which could be described as nothing short of horrible. The highlights (lowlights) were:

GDP during this “recovery” has not yet reclaimed the level reached in 2007 before the onset of the financial crisis.
GDP for the 2nd Quarter came in at +1.3%, lower than the +1.6% expected.
GDP for the 1st Quarter was revised downwards from +1.9% to a skimpy +0.4%
Numerous downwards revisions to previous reports indicate that the recession was considerably worse than previously reported.

What It All Means for Stock Market and ETF Investors

The most shocking figure in the GDP report was the revision to the 1st Quarter number from +1.9% to +0.4% because this tells us that the economy was close to contraction in spite of all of the stimulus and quantitative easing that have been applied over the past several years.

Worse, and this is really important, many economic reports released so far during the second quarter indicate further slowing from Q1 which could lead one to conclude that there will be an upcoming revision to Q2 that could actually show a contracting GDP as the economy continues to slow.

Welcome to the beginning of the “double dip?”

Even if the economy manages somehow to limp along and avoid a double dip recession, this pathetic growth rate isn’t nearly strong enough to generate a decline in unemployment as the combined first half growth was less than 1%.

Furthermore, any budget cuts will likely generate more economic headwinds at the state and local levels and further slow economic growth.