A number of business broadcasts this week began with the news that stocks are in the midst of the biggest correction so far in 2012. That’s true, but it isn’t as concerning as it sounds.

As we noted two weeks ago, stocks just completed a powerful first-quarter performance. For the first three months of the year, stocks showed little weakness. After such a strong showing—especially with the fundamental economic challenges that persist—it isn’t surprising to see stocks take a breather.

The chart below shows the current situation quite well. This week the S&P 500 broke below its 50-day moving average (MA) for the first time since mid-December. That certainly must be viewed as a negative signal, but it is not necessarily evidence that a major correction is on the near horizon. As evidence, the last time this occurred the S&P 500 only stayed below its MA for a few sessions before it staged the strong advance that carried us through the past three months.

The next section of the chart is a moving average convergence divergence (MACD). The recent market weakness turned the MACD downward, but it has not yet fallen into negative territory. At this point it is impossible to know whether the indicator will slide below zero or whether it will turn upward again.

The relative strength index (RSI) which is the next portion of the chart is telling a similar story. The RSI dipped below 50, but if it recovers over the next few days and re-establishes its trend above the 50 level, then the current mark will not be significant.

What these three indicators are showing is that under current circumstances, caution is warranted. The next week or two will determine if this is just a short-term downward blip or if it is the beginning of a more significant intermediate correction.

The bottom section of the above chart should give hope to market optimists. This is a stochastic oscillator and it does a fairly good job of identifying investment turning points. This latest period of weakness has pushed this indicator to a low level. In many cases when the indicator reaches this level, a market rebound occurs.

The weakness of this indicator is that while it does a good job of identifying overbought and oversold market turning points, it is not predictive of the amplitude of the ensuing reversal. In other words, while a rebound is likely, it is difficult to forecast whether it will be minor or major. And we cannot say whether it is going to last for three or four trading sessions or for several weeks.

One more chart can help in the current assessment of market conditions. The image below shows a comparison of the Nasdaq, DJIA and S&P 500 over the past six months. While all three made good gains during this period, notice how the Nasdaq was at the bottom of the three around Thanksgiving and then jumped ahead of the other two major indices in March.

The Nasdaq is considered as an index driven by technology stocks. The general perception is that the Nasdaq does better than the other two blue chip indices when economic conditions are favorable. In a weak economy, money tends to shift away from the Nasdaq and toward blue chip stocks or bonds.

After the recent downturn, the Nasdaq currently remains the strongest of these three indices. If the market weakness continues, we would expect that the Nasdaq would accelerate its decline and slide below the other two indices.

So far, the Nasdaq is holding up better than the S&P 500 and the DJIA. Unlike those indices, the Nasdaq has not yet broken below its 50-day MA. As a result, there remains a possibility that this will be a minor correction and that stocks will quickly resume their advance.

The next couple of weeks are going to be important for stocks. If there is a reversal and stocks advance to new yearly highs, then that sets the stage for a rally that could continue for several more weeks or months.

On the other hand, if major stock indices fail to recover or cannot reach new highs, then it would not be surprising to see a much more significant correction that lasts for weeks or months.

Flint Stephens

The markets are closed Friday for the Easter holiday. As a result, we will not have our regular weekly commentary.

After a couple of sharp down sessions, major indices are edging closer to their 50-day moving averages and to downside support levels. We will be watching the situation closely.

Have a great holiday.

Flint Stephens

On the final trading day of the March, major stock indices appear poised to post the strongest quarter in the past two years.  Yet there is concern from some prognosticators that the rally could end soon.

For the past two weeks, major indices have struggled to advance and some market watchers are concerned that stocks could be on the brink of a more significant correction.

While the technical picture for stocks remains strong, there are some reasons for concern. For example, U.S. GDP grew at a 3% annual rate. But many expect much slower growth over the first quarter of 2012. A CNNMoney survey of economists showed that most expect growth will slow to 2.1% in the first quarter of this year and remain below 3% for all of 2012 and 2013.

Another major worry is the high unemployment rate. While recent weeks produced some improvement in new jobless claim numbers, Federal Reserve Chairman Ben Bernanke expressed concerns that recent improvements in jobless numbers might not be sustainable. “The job market remains far from normal; for example, the number of people working and total hours worked are still significantly below pre-crisis peaks, while the unemployment rate remains well above what most economists judge to be its long-run sustainable level. “

While Bernanke tried to put a positive spin on the employment situation, he admitted that, “On balance, an assessment of a broad range of indicators suggests that a substantial portion of the decline in the unemployment rate does reflect genuine improvement in labor market conditions.”

Of course there is also the situation with rising gas prices, which threatens to act as a brake on the entire U.S. economy.

While these types of concerns are legitimate, they do not necessarily mean that stock prices are on the verge of a major correction. The chart below shows performance of the S&P 500 Index (SPX) over the past six months. By virtually any measure, the nearly 25% gain over that period is impressive.

I added the blue highlighted area to more clearly show the past three months. This quarter has been defined by steady acceleration and low volatility. While the percentage gains of the final quarter of 2011 were also strong, the volatility was much more significant.

Technical indicators for major market indices like the S&P 500 remain strongly positive. For example, the gold line on the top portion of the chart is a simple 50-day moving average (MA). Since late December, the S&P 500 has trended well above its MA.

The other three indicators on the bottom portion of the chart all remain in areas that traditionally indicate powerful bull trends. That remains true even after two weeks of sideways market movement.

The bottom line is that for investors currently holding long positions, there is no reason at this point to believe that the recent advance is in jeopardy. It is common during a strong bull market move to have periods of sideways consolidation or even retracement.

Nevertheless, it is difficult to argue that the recent positive movement in the economy is tenuous. As a result, we are keeping a close watch on the markets and on our indicators. We trust that when this rally ends, they will give warning signals. So far those indicators are showing that this is not the time to be worried.

Flint Stephens

It is a good idea on a regular basis to step back and take an overall view of what the markets are doing. If you are trying to keep track by the headlines and stories of the financial news media, the picture is often distorted.

For example, I suspect many people believe that over the past few weeks, one of the hottest market sectors has been oil. We’ve all witnessed gas prices rising at the pump and there have been numerous media stories about the high cost of gasoline.

In reality, oil has not kept pace with blue chip stocks over the past three months.

Below is a chart of several major indices and ETFs representing a couple major sectors. For the most recent three-month period, the Nasdaq has easily been the top performer of this group with a return of about 18%.

The S&P 500 and the Dow have also done well, but their gains are several percentage points behind the technology driven Nasdaq.

The gain in oil trails that of all three equity indices for this period. In fact, oil is up only about 4% since mid-December. The price of oil has been declining since late February, while gas prices continue to rise.

Gold, an investor favorite that began a long-term upward move in 2009, has dropped off the past few weeks and is currently at the same level as in the summer of 2011.

Out of this group, the biggest loser over the past three months has been long-term government bonds, down more than 6%.

As the chart shows, over the past several days the equity indices are losing momentum. So far the weakness is not significant enough to cause major concern. Technical indicators like the relative strength index, 50-day moving average, and moving average convergence divergence (MACD) all remain positive. Nevertheless, we will watch the situation closely to make certain this does not become more than a typical market fluctuation.

As indicated previously, this three-month advance is likely to persist for at least several more weeks; however, there are several economic challenges that could derail the rally.

Perhaps the biggest immediate risk is the rising cost of gasoline. If it continues to escalate, a new round of inflation is all but inevitable. With GDP growth at about a 2% annual level, it would not take much to cause that growth to shift to decline.

With continued worry about high domestic unemployment, possible debt defaults in Europe and continued Middle East tension, constant monitoring is essential, even though indicators remain positive.