Archive for June, 2010
The Lines In The Sand
This 10 year chart of SPY shows the primary market trends that are in effect. The market is currently trading above the bear market downtrend line (1) but it appears to have created a new downtrend line (2).
We can now see a well defined left shoulder, a head, and the left side of a right shoulder. The shoulder line is at 1050 that historically has been a transitioning area between up and down markets.
We are definitely heading to the shoulder line. The question is what will happen when we get there. If the market can reverse to the upside on good volume that would be bullish and would negate the head and shoulders pattern. A break through the neckline, however, has a projected downside to 900.
According to Elliot Wave Theory, market declines occur in 3 waves. So far we have one wave down, a smaller wave up and the third wave down should be the longest. I believe the market is headed lower and the decline is going to be contained within the 2 downtrend lines 1 & 2.
S&P 950 is another major area of support as anything below that is new bear market lows that I do not anticipate at this time. Therefore I expect the S&P to drop to 950. A drop to 900 would be really ugly and constitute a 27% correction from the top.
Breakout Or Bear Trap?
Is the current market rally a breakout of the bearish downtrend or is it just a bear trap? To get an idea of where the market may be headed we should take a careful look at the charts. I have put together a special version of the SPY chart with various channels marked out. The chart is in pdf format so you will need Adobe Reader loaded on your computer.
The first thing you will notice is that a massive diamond topping formation has occurred. The lower left leg of the diamond is the upper part of an intermediate term downtrend channel.
Between May and June the market found support at it’s long term uptrend support line, hit resistance at it’s alternate long term support line, dropped back down to it’s long term uptrend support line and then bounced off that and rallied back to it’s alternate long term support line. That is where we stand now.
If we take a look at the volume indicator it has been declining and hitting a lower high on each rally attempt. This is a negative divergence indicative of a weak market.
The MACD is also indicating a negative divergence as it hit a lower low in June than it did in February even though the SPY was at 1050 both times.
While they are not shown in this chart, the 21 day moving average crossed under the 50 day moving average on May 18 giving a short term sell signal and it then crossed under the 200 day moving average on June 7 giving an intermediate term sell signal.
When taken together from a technical point of view the chart of the SPY looks totally bearish and it is my guess that the current rally is a bear trap that has peaked out. I expect the rug to be pulled out from under investors feet very shortly.
We should anticipate a drop of the SPY into the intermediate down trend channel. If the Dow drops to 9000 that would be a full 20% correction from its peak on April 26. A 20% correction in the S&P from it’s peak would bring it to 976. In all likelihood both indices will overshoot to the downside scaring the living daylights out of investors.
Since the talking heads at CNBC are of the opinion that a 20% correction is a bear market, the day they announce the fact that we are now in a bear market will be the buying opportunity of a lifetime.
Just because the charts are technically bearish doesn’t mean the market cannot rally further and even break out to new highs. The probability of that happening, however, is extremely remote.