TECHNICAL ANALYSIS IS A WINDSOCK, NOT A CRYSTAL BALL
Yesterday’s sharp decline caused the S&P 500 to undercut Tuesday’s intraday low while the DJIA rested its low from early Tuesday. Consequently, even deeper near-term, price-related oversold readings were registered yesterday when compared to the same readings registered after Monday’s “Dow dump” of 1175 points (see below). Note: The chart appears “busy,” but I felt it was necessary in order to provide a useful historical, 7.5-year context.
Interestingly, while oversold price-related measures became more oversold, I noticed that many internal volume and advance-decline statistics, including the percentage of new 52-week lows, were indicating that selling pressure may be abating. In fact, many of the internal breadth indicators I follow were “less worse” after yesterday’s “Dow dump” of 1032 points than we saw earlier in the week. In other words, the levels of selling intensity yesterday showed less selling pressure than what I saw earlier in the week. As the market retested and slightly undercut the previous lows, those price declines occurred with less selling pressure. As a first step in the bottoming process, I view these types of indicators as positive divergences.
Since no one has a crystal ball to discern when the equity market has recorded an exact low, for me to feel confident that a meaningful low has been recorded, strong internal readings must be consistently present and confirm the next rally attempt. I’d also like to see breadth thrust measures confirm that selling pressure has been exhausted and that demand is back in charge. And, in a perfect world, I’d like to see the rally occur with investors still cautious, i.e., excessive optimism doesn’t come into play too quickly. To this point, on Tuesday, when the DJIA reversed from being down over 560 points to then closing up over 560 points, the internal readings supporting the intraday rally were awful and, from a technical perspective, placed extreme doubt on the ability of the rally to hold. And of course, those fragile gains have been given back.
Now that a correction (10%+ decline) has been recorded by several domestic market indices, I am still of the mindset that a double bottom chart configuration is the likeliest scenario. These types of moves typically look like a W on a chart and are usually a healthier, more sustainable alternative than a market decline that resembles a V pattern, embodied by a straight down then straight up bottom formation. Historically, W-pattern bottoms tend to develop over time and require patience and vigilance in terms of managing risk. But they also tend to be longer lasting.
Finally, when the equity market is in the midst of systematic- and algorithmic-generated selling (which I view as part of the cause), margin calls, and emotionally charged index fund redemptions—which has been the case recently—I prefer to identify support levels in terms of ranges. They are shown on the chart below.
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Art Huprich, CMT
Chief Market Technician
Day Hagan Asset Management
—Written after the domestic equity markets closed on 02.08.2018. Chart sources: Stockcharts.com.
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