They Do Ring Bells at the Market Top

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I am more confident than I have ever been in recent months that today’s action in the markets (SP500, DJIA, Nasdaq etc. ) marks the beginning of a much longer consolidation/correction phase than we have seen since March of 2009.

I am still long the TZA and plan to stay that way as a core short position for at least the next 3 to 4 weeks.  I have a game plan and will tell you about it shortly because I still feel as though I have somewhat of a ‘cheat sheet’ on this market. 

Anyway, here is a brief summary in bullet form the reasons why I believe a long corrective phase is at hand that should see the market decline between 10 to 15% from the recent highs…

  • The SP500 has broken decisively the very long bull market up trendline that has been in force since March of 2009.  This was the high angle up trendline that has defined this bull trend and it was broken very decisively with a wide price spread and very high volume especially in comparison to volume levels of the last month or two advancing rally.
  • The WEEKLY MACD has finally confirmed a bearish downside crossover today which means that now the price trend should transfer to a “3 steps down 2 steps up” type action.  I have mentioned the weekly MACD many other times in previous posts and each time it looked like it was going to do a bearish cross, it them reversed and stretched itself out and evaded the sell signal.  But this time it failed to evade the sell in a big way especially when you consider the heavy volume and wide price spread to go along with it.
  • The Monthly January 2010 candlestick bar on almost all major indices has now transformed into a very bearish looking reversal hammer ( which implies that February will likely see the majority of the most devastating downward price action).
  • The YEARLY 2010 candlestick has now transformed into similarly very bearish looking gravestone doji.  The yearly 2010 candle now very clearly to me is saying the market wants to do some price retrace down into the 2009 candle.

Those are the main points that give me confidence on this trend change.  Now onto the charts…

SP5004charts

The composite of charts above covers the main points that identify the trend change in the market.  They do not however cover the volume side of the market which is extremely important.  The volume reveals the ‘extra strength’ confidence of a sell signal in my opinion.  If you look at the price chart of the SP500 for the last several months you will see that today’s low which was on record high volume is pushing into a very important trading support shelf of November 16th, 2009 to December 21st 2009.  The key observation to make is that today’s volume was higher than any previous swing high volume level of that period in 2009.  That means that we have a character change in the market.

When I referred to ‘cheat sheet’ at the beginning of this post I was talking about the 1975 corrective phase after the similar ‘automatic rally’ that occurred from 1974 to 1975.  I have studied both periods quite a bit and believe there to be very similar price structure and pattern.

Notice from the chart above ‘D’ that the majority of the corrective phase in 1975 was spread out over about 30 trading days and was quite persistent in terms of price destruction.  It was definitely not a crash type market action, instead more grinding and just persistent lower highs and lower lows.

Also notable in the 1975 decline is that it was halted right at the 200 day moving average line and then went into a messy sideways consolidation.  I think our market has a decent chance of doing similar behavior this time around.  That would likely put the SP500 near the 1050 to 1030 range as a stopping point right near the 200 day moving average.

I believe we will see somewhat similar type price decline this time in 2010 and I expect the majority of the decline to be over within 1.5 to 2 months.  So I think it is probably a mistake to jump out of short positions too soon, at least the core short positions.  After getting stopped out so many times trying to short the market on the way up, I suspect that many are hesitant to sit on their hands too long and book profits too early for fear of another big market rally that stops them out.  So again I think sitting tight for core shorts for at least 3 to 4 weeks is the best way to capitalize on the pending decline.

We still do need to break down and through the 1116 to 1113 range on the SP500 before we can breathe easy.  As confident as I am on the trend change here, the market must still break down and through that range since it is a months worth of support.

In the near term I suspect we will get some support of bounce Friday 1/21/2010 and into Monday and Tuesday and then possibly break down again near the Fed Meeting next week.

It will be interesting to see how the decline unfolds in the weeks ahead.  I am especially interested to see what type of rallies develop during the decline.  In 1975 they were very weak and barely existent.

If we are going to follow the 1975 pattern clearly, then we would want to see persistent lower lows and lower highs on the daily bars for the next 30 or so trading days.  Sure there will be a few rallies, but look for them to fail early and then revert back to lower lows and lower highs.

I am making the assumption that the coming decline will find bid support eventually near the 200 day moving average and start a consolidation and then another big rally much later in the year.  That is my intermediate term outlook.  But I can tell you that many other traders with a lot more experience and knowledge than me are looking for a decline back down to and through the March lows.  I don’t believe that will be the case but as always we will just have to see how the decline plays out and the behavior of the market at key support points.

I suspect this decline will take longer to play out, because the bounce up was more significant this time around and probably the level of bullishness too.

Posted in Market Timing, SP500
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