Prices edged lower this week, as the bulls are still reeling from the failed upside breakout that took place in February. After the breakout (whether you consider it to be over resistance at 4100 or whether you consider it to be the blue triangle in Figure 1), prices have pulled back below the apex of that triangle and volatility seems to be slowing down at least on a closing basis.
The specter of a false upside breakout has come true, and that could prove to be a major problem for the market. In late January $SPX broke out over 4100, and it looked like the bull market was ready to return. However, the breakout only reached 4200 before prices turned south again. Now, $SPX has fallen below short-term support at 4060-4070, which in my opinion, completes the false upside breakout scenario.
Stocks have struggled since the beginning of the month, after having traded at resistance at 4200. $SPX has fallen back below the previous breakout level of 4100. Any close below 4070 would be the lowest close since January, and that would be a further negative for stocks. $SPX has probed down towards that level a few times, but has bounced back up each time. Still, a close below 4070 would open the door to a retracement of the entire previous trading range -- down to 3900, or 3800 on a more extreme move.
Bear markets are tricky, and if what we are seeing now is the continuation of the bear market, it is exhibiting some of the actions that are designed to fool most of the people most of the time.
The long-awaited breakout over what had become triple resistance at 4100 has occurred. $SPX closed above that level on February 1st and then added another strong day on top of that on February 2nd, thus confirming the breakout with a two-day close above 4100. That should lead to a challenge of the next resistance levels. First, there is the gap just above 4200 that created the island reversal back in August, which led to the downward leg into October at that time. Next up after that are the August highs at 4300.
Stocks have moved back and forth through several supposed minor support and resistance levels this week. As a result, the picture has developed into that of a wider trading range, awaiting a breakout in one direction or the other. On the upside, there is double resistance at 4100, where the market topped out twice in early December. On the downside, there is support in the 3760-3800 area, where the market bottomed in late December.
Stocks started the year off strongly, rallying with expanding breadth and favorable put-call ratio buy signals. However, in the end nothing changed as once again $SPX was unable to penetrate through the downtrend line that defines this bear market, as well as failing to rise up through its declining 200-day moving average. So, stocks have fallen back from there. The first support level at 3940 has been violated, and the next one at 3900 might be in jeopardy, too. That leaves 3760-3840 as the next support area. A failure there, and one can state with certainty that the bear market has resumed.
The stock market has put on a good show of strength this week, after breaking out on the upside from the trading range that had held prices in check throughout the last half of December. $SPX is now challenging the downtrend line of this bear market as well as its declining 200-day Moving Average, both of which are near 4000. A clear breakout above 4100 would be very bullish.
We are well into the new year of trading, and the seasonally bullish period surrounding year-end has passed. The Santa Claus Rally produced a small gain for $SPX of 30 points less than its historical average of a 1.1% gain, but a gain nevertheless. If it had been a loss, that would have been another negative for the stock market.
This is supposed to be a positive time of the year for the stock market -- the so-called "Santa Claus Rally" period. Typically, the market advances about 1% during the last five trading days of one year and the first two of the next. But If this seasonal period ends with a loss, that is generally negative for the broad stock market. As the creator of this system, Yale Hirsch, said: "If Santa Claus should fail to call, bears may come to Broad and Wall." Classic!
