INVESTMENT EDGE
“The simplest explanation is probably the right (best) explanation”
For those looking for “why” the following chart provides the best explanation as to why world equity returns have struggled this year. Virtually every major market around the world has seen a net outflow of money out of stocks since Jan 1st.
There you have it. Until this chart gets turned upside down, caution is warranted.
On a longer term weekly perspective, the US stock market SP500 index has rallied from the February correction bottom now to just below July 2015’s prior $2126 highs as it closed the week at $2096, just 30 handles lower. With the bulls knocking on the door of all-time highs, a breakout and hold could open up the door to a huge rally, as the resistance void that would be created has the possibility of producing a price vacuum sucking stocks much higher. If you want to see what that looks like go check what happened to the SP500 as price broke out to new all-time highs in the second quarter of 2013. I am not saying that is what will happen rather just that it is one possibility we need to be aware of.
The bears haven’t thrown in the towel just yet though. Last week’s candle formed a cautionary gravestone doji thereby adding the 2nd of the 3 necessary for a bearish reversal shooting star pattern. To confirm this pattern, the bears need to close the index lower next week, preferably below the first candle in the pattern otherwise the pattern will be considered dead and void.
Taking a look at a shorter term daily chart below, you can see in the upper pane of RSI momentum we formed bearish double divergence. While divergence is not a sell signal, it is a warning price has gotten ahead of itself and warns of, at least, a pause, or worse, a correction. For the past 2 ½ months price has been contained within the (red horizontal) trading range but finally broke out to the upside on Wed. Friday we fell back into the range warning of a false breakout. We still need confirmation and follow through next week but if the false breakout sticks, it raises concern about the potential of “from false breaks comes big moves in the opposite direction”. Notice too, how the volume (bottom pane) on the breakout was lackluster, well below its average telling us not that the bulls were strong but rather the bears were taking a break. One final feather in the bear’s cap is the fact price has formed a bearish rising wedge (blue dashed lines). Because it has yet to confirm with a breakdown below the lower support channel line, it allows for the possibility of one more move higher before any break occurs (forming triple divergence).
My read is the bulls and bears are locked in an epic battle. With an eye on the longer view a slight edge must be given to the bulls. On the shorter term, the bears are out in the lead. Add to this mixed message the fact we are in the throes of a dull seasonality period (June-August) which will likely keep any move (higher or lower) in check as most market movers are on vacation. So with no clear winner, patience is needed as there is not enough evidence on our longer term investing time frames to commit to either the bullish or bearish case.
Back on March 18 I posted a bullish pattern setup on Sugar, titled “How Sweet It Is” where I wrote
Right now price sits just below prior resistance and has formed an inverse head and shoulders reversal pattern. If price can break above the red horizontal resistance with confirmed volume and hold, I find this a very attractive commodity play with plenty of upside potential, the first projected target some 25+% higher.
Here is a look at today’s closing chart. While it didn’t quite hit the 25% target, today’s high was 23.5% higher than the price on the date of my post. Close enough for government work.
For those who followed along and took the trade, congratulations! I don’t provide buy and sell signals so you should follow your plan on how to manage. But if I owned it, I would consider locking in some or all of my profits as 1) we have hit our intended target and 2) we are now in an area of major resistance and moving into overbought conditions. With a series of higher highs and higher lows and a rising 200 day moving average, for those with a good management plan, once the consolidation is over, it looks like it has room to move much higher. Some may ask why I would consider selling some if the upside has more potential. My only reason is because it’s a rule. If I enter based upon a pattern, I look to exit (at least some) on completion of the pattern target. I prefer to not give back my gains and attempt to make sure every position makes money. Oh yah, I have also learned not following a plan and switching horses in the middle of the stream can quickly derail profitable investing.
Oil has been in a relentless uptrend since its Feb bottom at ~$26/bbl. The divergent low told me to expect a good rally but this has gone well beyond anything I expected especially when considering the fundamentals and head winds it faces. This trader’s fueled rally has now taken it up to an area of major resistance, $51-$53. As you can see, price has formed a divergent oversold high bearish rising wedge with falling volume.
Investing offers no guarantees but a confirmed break of this pattern (before it has a chance to confirm a close above resistance – otherwise all bets are off) to the downside provides an excellent exit for those long black gold. And for those blessed with excellent position management skills and ability to short, the first downside target of this pattern is the $41-$42 area offering a 15%-20% profit opportunity.
The US small cap stock index (IWM) has gone nowhere for more than 2 ½ years. Since peaking in June of last year it has been in a protracted downtrend falling 25% peak to trough and during that time formed a series of lower highs and lower lows as you can see in the 5-year chart below.
Just recently, the index broke above the downtrend line. One thing I like to see on resistance breaks as confirmation the break will hold, is for price to immediately fall back to the upper side of that resistance (now turned to support) line, hold and then move higher. This is exactly what happened and adds to the confidence and probability of higher prices ahead. Another bullish note is that price has crossed and held above the 200 day moving average which is just now beginning to curl higher.
While these signals are constructive, small caps are not out of the woods just yet. There is plenty of overhead supply that bulls will have to eat through which should make for a slow grind but most importantly the pattern of lower highs and lower lows still needs to be broken if this index is going to move substantially higher and worthy of long term investment capital.
