Good morning. Now that we all know what the focal points of this market are, namely the yuan, China's stock market, and oil, it is probably a good idea to start off this fine Tuesday morning with a review of the latest on the subjects.

This morning, stocks are rebounding smartly across the pond in response to an improvement in the pricing of the yuan. Offshore pricing of the yuan has clearly been in focus after last week's debacle. Recall that one of the big worries in the market is Beijing's credibility in terms of being able to control both the pricing of the yuan, and to a lesser extent, the stock market.

The big fear from a macro standpoint is that further depreciation in the yuan could generate another wave of global deflationary pressures. It is this worry that is giving the bears the ammunition they need to start talking about contagion and systemic risk.

However, the offshore rate for the yuan has seen a marked reversal so far this week and actually traded at a premium to the onshore rate overnight for the first time since October. Recall that the spread between the offshore and onshore pricing hit a record last Thursday.

As you would expect, it was intervention by the PBoC (People's Bank of China) via Chinese banks that was cited as the driver of the improvement in the yuan pricing so far this week.

However, in the unintended consequences department, Reuters noted this morning that intervention drained an enormous amount of liquidity from the market as the overnight deposit rate hit a record high.

Another factor in the yuan story is, of course, the "evil speculators" - aka traders taking advantage of the situation by piling into short positions in the Chinese currency. However, China is now pushing back in an attempt to scare traders out of their shorts.

Han Jun, who is the deputy director of the office of Central Financial Work Leading Group, said overnight that expectations that yuan will depreciate another 10% or so against the dollar (the working assumption among macro traders at this time) are "ridiculous and impossible."

Jun further warned traders that attempts to short the yuan will not succeed and stressed that market expectations can be changed.

In sum, the party line out of Shanghai seems to be that (a) there is no fundamental basis for further depreciation in the yuan and (b) China has no interest in seeing the currency fall further against the dollar.

Oil Update

To be sure, adverse supply dynamics (i.e. too much oil on the market and more coming online) continue to get bulk of the attention in the crude story. However, the issue of strength in the US dollar is seeing increased focus lately. The point is dollar strength is another key driver of oil weakness. Lest we forget, oil is priced in U.S. dollars.

In a recent report, Morgan Stanley pointed out that while oversupply is the primary driver that pushed oil prices under $60, the difference between oil at $35 and $55 is due primarily to the impact of the stronger dollar. The firm's research suggested that if appreciation in the greenback continues, prices in the range $20-$25 are possible -- simply due to strength in the currency.

And bounce, 2, 3, 4...

This morning though, everything seems to be right with the world and the much ballyhooed oversold bounce appears to be underway as bourses in continental Europe are sporting gains of 2% or more and U.S. stock futures are following suit. But while the market is indeed oversold and the current dance to the downside may have been overdone, we should keep in mind that traders have been selling into rallies of late and that Friday's attempted rebound failed miserably.

However, if we've learned anything in the last few years it is that once a move takes hold, the trend following algos tend to rule the day. So, if the anticipated pop at the open can stick, we should probably expect to see the algos chase their tails for the majority of the day.

Today's Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

Major Foreign Markets:
Japan: -2.71%
Hong Kong: -0.89
Shanghai: +0.21%
London: +1.48%
Germany: +2.28%
France: +2.12%
Italy: +1.48%
Spain: +1.20%

Crude Oil Futures: -$0.17 to $31.24

Gold: -$9.70 at $1087.00

Dollar: lower against the yen, higher vs. euro and pound

10-Year Bond Yield: Currently trading at 2.196%

Stock Indices in U.S. (relative to fair value):
S&P 500: +18.50
Dow Jones Industrial Average: +146
NASDAQ Composite: +49.75

Thought For The Day:

We cannot become what we need to be by remaining what we are. -Max De Pree

Here's wishing you green screens and all the best for a great day,

David D. Moenning
Founder and Chief Investment Strategist
Heritage Capital Research

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

1. The State of China's currency/stock market
2. The State of Global Growth
2. The State of the Earnings Season
3. The State of Global Central Bank Policy

The State of the Trend

We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 6 months, and long-term as 6 months or more. Below are our current ratings of the three primary trends:

Short-Term Trend: Negative
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend: Neutral
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend: Neutral
(Chart below is S&P 500 daily over past 2 years)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:

• Key Near-Term Support Zone(s) for S&P 500: 1860-80
• Key Near-Term Resistance Zone(s): 2000(ish)

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...

• Trend and Breadth Confirmation Indicator (Short-Term): Negative
• Price Thrust Indicator: Negative
• Volume Thrust Indicator(NASDAQ): Negative
• Breadth Thrust Indicator (NASDAQ): Negative
• Short-Term Volume Relationship: Negative
• Technical Health of 100+ Industry Groups: Moderately Negative

The Early Warning Indicators

Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

• S&P 500 Overbought/Oversold Conditions:
  - Short-Term: Oversold
  - Intermediate-Term: Oversold
  
• Market Sentiment: Our primary sentiment model is Positive

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.

• Weekly Market Environment Model Reading: Neutral

Indicator Explanations

Trend and Breadth Confirmation Indicator (Short-Term) Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates an All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Price Thrust Indicator Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line's 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a "thrust" occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Indicator Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Indicator Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Bull/Bear Volume Relationship Explained: This indicator plots both "supply" and "demand" volume lines. When the Demand Volume line is above the Supply Volume line, the indicator is bullish. From 1981, the stock market has gained at an average annual rate of +11.7% per year when in a bullish mode. When the Demand Volume line is below the Supply Volume line, the indicator is bearish. When the indicator has been bearish, the market has lost ground at a rate of -6.1% per year.

Technical Health of 100 Industry Groups Explained: Designed to provide a reading on the technical health of the overall market, this indicator takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as "positive," the S&P has averaged returns in excess of 23% per year. When the model carries a "neutral" reading, the S&P has returned over 11% per year. But when the model is rated "negative," stocks fall by more than -13% a year on average.

Weekly State of the Market Model Reading Explained:Different market environments require different investing strategies. To help us identify the current environment, we look to our longer-term State of the Market Model. This model is designed to tell us when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model tells us whether the odds favor the bulls, bears, or neither team.

Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided "as is" without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.