Nov 30, 2016
No Doubts on the Renko chart of the S&P 500
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No Doubts on the Renko chart of the S&P 500
Black Friday and the S&P 500
Today will be one of the slowest days of the year in the stock market. Nobody on Wall Street wants to go to work. And if not for a rule that the stock exchange cannot be closed 4 days in a row I suspect that all parties would happily give it as a holiday. So it is a good day to step back and reflect on the market, and not trade. Go participate in Black Friday, eat 2 (or more) leftover turkey sandwiches, but do not trade. The market will be there on Monday.
Stepping back for me most often means reassessing the long term picture. And as a technician I do it by looking at charts of price action. The chart of a stock or index's price has a lot to say. It is a road map of investor psychology. It is a history of the battlefield skirmishes played out between buyers and sellers on a daily basis. It shows you where all the pressure points are and how they resolved.
So when I look at the chart of the weekly price action in the S&P 500 since the 2011 low it sings out to me. With just two simple lines on it to help explain, this is a very bullish chart. The Andrews' Pitchfork is a simple tool to discern a trend. This one in the chart above shows the pullback into the low in early 2016 and then a bounce. And since then the S&P 500 is riding higher between the Median Line and a 50% pullback from it. Steady rising price action.
The 40 week Simple Moving Average, roughly equivalent to the 200 day SMA, is also a simple indication of strength and the most basic indicator of bullish or bearishness. And the S&P 500 has stayed above that line since it reclaimed it in March. There is no weakness in this market. It had a long correction through time, and now appears ready to resume its path higher.
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Trump, Sentiment and the Efficient Market Hypothesis
Stock markets Tuesday continued the move higher that they had started Monday. They closed within a couple of percentage points of all time highs at the end of the day. The election volatility seemed to have all played out. But the world now is a 24/7 place for news and we have Futures markets to reflect the financial views of that news. So when election results started coming in and Hillary Clinton was not going to win in a landslide, futures started to sell off. Later as Donald Trump won key states they slid further. And as it appeared that Trump would win S&P 500 futures were down over 100 points. How can this happen? I do not mean how can Donald Trump win or how can pollsters be so far off. But how can markets move so fast so quickly?
Earlier that day I had taught two classes. In the first I was starting to explain Technical Analysis to my Graduate School students. They are on a risk management track and I work Technical Analysis into the mix as a tool to help with that. The first part of our discussion centered around understanding the battle between supply and demand for stocks, or as Technical Analysts call it support and resistance. I followed this quickly with a discussion on sentiment and human behavior. And in here lies part of the answer to my question.
The second class was an Introduction to Corporate Finance class for undergrads, and it happened that as part of stock valuation I was speaking last night about the Efficient Market Hypothesis. My take there is that it is a fallacy, but you already knew that. But how fitting that these two subjects came up the night that information flow moved a market limit down and then saw it reverse sharply.
Markets are not efficient. You can see from this short term chart of the S&P 500 futures market the sharp steep sell off. Volume looks really heavy as well. The push back higher was not quite as sharp but was fast and also on strong volume. By the time most of America had woken up the S&P 500 had recovered over 50% of the move down. And as I write this futures continue to move higher. How can so much change occur in so little time?
Sentiment and the Efficient Market Hypothesis can explain a lot of it. Shifts in sentiment can be very powerful. Some show up quickly, like after an earnings event or a poll outside of our expectations. They are always very emotional. Out human brains are designed for protection and almost always ask us to do the wrong thing in markets when this protectionist reaction is triggered. How many of you sold all your stocks at the bottom in February 2009? For the advisers out there, how many times do clients get the most nervous and ramp up calls near the bottom of a market pullback?
But then cooler heads prevail and real market moving information starts to creep back into our brains. Earnings reports have been good and earnings forecasts are trending higher. Inflation may be creeping up but it is still controlled and the FOMC is already talking about raising rates. The lone factor then is how a Trump presidency will impact the markets. If anyone thinks they can tell you that today, this week or this month then you should stop listening to them. There are way too many moving parts. So expect markets to hold volatility measures a bit higher with that uncertainty. But beyond that inputs to market prices continue to look strong. Understand sentiment and react with facts.
Weaving Point and Figure with Candlesticks in the S&P 500
Renko charts are a bit of a hybrid from my vantage point between Candlestick charts and Point and Figure charts. From the short term perspective, against the daily candlesticks, a Renko chart smooths the change in price. A change is made by adding a green or red brick only when the price has moved outside of a preset range. The most common case is to use the 14 period Average True Range (ATR), a measure of volatility, for the brick size.
It is also similar to a Point and Figure chart in that it does not pay strict attention to time. It may take weeks for a new brick to print, but it still only prints one brick. This means the lower axis of the chart is not a fluid flow of time. This means the more volatile a timeframe the longer it will appear on a chart, like a Point and Figure chart that alternates a lot between X's and O's.
So reviewing the Renko chart above for the S&P 500 over the time since the 2011 correction can add some perspective. The chart below can do that. It shows the steady trend higher from the 2011 pullback to the high in 2015. It also shows how the chart morphed into a consolidation channel. That channel held, between about 1850 and 2100, for almost 2 years until July. The break above at that point came back and retested the breakout before reversing just this week.
Momentum indicators on this chart remain in bullish zones. The RSI has pulled back from an overbought condition, while the MACD is moving up. The Index is over its 200 brick moving average and that SMA is rising. There may be a further back and forth pullback in this Index, but the prospects for more upside look strong. And a print over 2182 will gather more money to the Index.
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The Market is Through the Worst
Wednesday, statistically, was said to be the worst performing day of the month, in the worst performing month of the year, for the stock market. What happened? Both the S&P 500 and the Nasdaq 100 rose over 1% and the Nasdaq closed at a new all-time record high. Just like in sports, this is why you play the game on the field. So now that everyone, even President Obama, is breathing a sigh of relief what happens now?
The chart of the S&P 500 below gives some clues. Following the price action, the index broke over long term resistance in July and moved to a new high. Falling just shy of 2200 it then started to pull back. The pullback retested the break out zone and held. And now it is moving back higher. This broadly created a break of an expanding wedge pattern. The retest, hold and reverse gives solid confirmation of the break out. And now it has a target to the upside over 2400. Yes I wrote that with a straight face.
The S&P 500 will not move there in a straight line, of course. And it never has to get there. The thing is that the price action is showing strength and movement to the upside. Momentum confirms this with the RSI moving back over the mid line as it rises. The MACD has stopped falling and a reversal would add weight to the case for more upside in the S&P 500.
The next major resistance test will come at the prior high, near 2190. Above that level sets a next step to 2390 then 2400. The price and indicators are lining up for more upside in the S&P 500.
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New All-Time Highs in the S&P 500. Now What?
After a multi-year run higher the S&P 500 made a new all-time high Monday. 16 months ago this was happening at least 15 times per month. But this all-time high was the first since May 20, 2015, over 13 months ago. It comes after a 12% and a 15% pullback. Will it hold up? Only time will tell. There are many indications though that it will.
The first is how the Index dealt with the 200 day SMA on its last touch. a one day plunge below and then near instant recovery. The 200 day SMA is the most basic of technical analysis indicators. Above it is bullish and below it bearish. To pullback to the 200 day SMA and then rebound higher is a bullish scenario. The Index has been over its 200 day SMA for nearly 4 months now, except for that one day.
The momentum indicators also support continued movement higher. The RSI is in the bullish zone and rising, while the MACD is crossed up and rising. The Bollinger Bands® are also opening higher as the Index rises. So the price action, 200 day SMA, RSI, MACD and Bollinger Bands all support more upward price action. How far will it go?
There is no resistance above as the Index has never been higher. Longer term chart projections look for a move to 2500 or higher using technical patterns and Elliott Wave techniques. It will certainly not be a straight line there though. Add to those the chart above. It suggests a target of 2460 on a break of this expanding wedge to the upside.
Add in as well the Point and Figure chart using the Average True Range as a box size now sees a bullish price objective of 2363. Three targets from 3 separate forms of technical analysis suggesting moves over 2450 and a fourth over 2350. That could have the making for a great 2nd half of 2016.
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Is Brexit the Last Roadblock?
The US stock market had a long run higher off of the bottom in February. That ended in April and it has been moving sideways since. That consolidation has been in an upward drift. A series of higher highs and higher lows has started an uptrend, but will it continue? As always at points of consolidation there are no lack of opinions either way.
The preponderance of evidence suggests that it should continue higher. But the market has failed to do so for 13 months. Many will talk about the reasons that have held it back. When will the FOMC raise rates again? When will inflation rise so that it makes sense to raise rates? What about the strong dollar? What about the weak European markets? What about the Brexit vote?
Let me be the first to tell you that Brexit may or may not be the catalyst to a major move in the markets. Can you pinpoint a market move to one event? Sometimes. The Gulf War. Soros breaking the Pound. But those are rare. But that is very rare. Most times it is the removal of layers of worry that compound. In this way Brexit may be that catalyst. Or it may not be. The market can always shift focus to a July rate hike. Or falling growth in employment. Or whatever. But for now the risk is to the upside in the market. Brexit or not.
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The Brick Wall in the S&P 500
Eight times the range from 2115 to 2135 has stopped the S&P 500 from advancing. A narrow 20 point range. Less than 1% of the index value. Very thin. But it has acted as an impenetrable brick wall each time. Brick walls can stand without cracking or breaking hundreds of years. This one has only been in place for 16 months. Is it crazy to think it might be broken so soon?
I do not know if it will be broken, but that entire 16 months can be viewed as a correction. Most times when you talk about a correction it is very noticeable in a chart. A deep pullback like what happened in 2008. There are a couple of pullbacks in the chart below. But the deepest is only 15%. Not the 20% that many look for as a 'correction'.
So is the S&P 500 still waiting for that 20% correction? I cannot read the future, noon e can. But I can tell you that the market does not need to correct 20% before it can move higher. Markets can correct through a deep drop. But they can also correct through time. And this market has been doing that for the last 16 months. That is quite enough for it to move higher. Again, I do not know if it will move higher right now, or take another 5 months or not at all. But it has been through a long correction. 15% and 16 months.
It looks promising on a short term basis right now. After the rise off of the drop to 1810, the brick wall halted it again. The seventh time. The pullback from there was shallow, just 85 points. From there a higher high was made at 2120 before a pullback to a higher low at 2050. Higher highs and higher lows define an uptrend. The RSI is holding in the bullish zone after a pullback as well. If this continues a 9th time at the wall could be in the cards soon. Will it break this time or hold firm?
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