Critical week for SP500 | Episode 67

By Jason McIntosh | Published 9 September 2022

Trade the Trend is a weekly video focusing on where the stock market is going. It’s for investors and traders looking for technical analysis of the SP500, as well as stock markets and commodities markets in general. Jason uses technical analysis of stocks and trend following techniques to help you piece together the world’s biggest puzzle.

Where is the Stock Market Heading?

00:00 Intro

00:33 Bullish shoots appear amidst a bearish backdrop

05:27 This is price action you want to see (and this is what to avoid)

09:04 I’ve just bought a position in this beaten-up sector

12:34 This chart could change your view about where stocks go next

Transcript (abridged)

Please note: Charts available from video

We’ve got the S&P 500 up on the screen. And I think this is really shaping up as quite an interesting chart. So, just going through it from the top. We’ve got this three-point trend line which has developed since the January high. And so that’s a key feature of this chart now that we need to monitor. And we’ve also got a situation where the current price in the S&P 500 is sitting below the moving averages. So, I’ve got a 50 and a 100-day moving average on this chart. At the moment, we’re below the moving averages, which does always make a market vulnerable when it is set up in that position. So, from that standpoint, I think we need to respect that the S&P 500 still satisfies two of the key criteria really for a downtrend. And while all this remains the case, I think we really need to keep close watch for potentially another leg lower. But having said all that, we’ve also got to keep an eye up for positive signs, and there are positive signs developing on this chart.

Firstly, we’ve had a breakout here. We’ve broken above the May high. So, that’s positive because what it does, it breaks this sequence of lower lows and lower highs that we’ve had in place for most of the year. And we’ve also had a strong rally off that June low. And with this recent pullback, we’re now starting to see prices attempting to rebound from what’s still quite an important area down around 3900 is where some Fibonacci levels came in. And there’s also some support coming through some previous highs. So, the market is starting to rebound from an important level. So, it’s going to be interesting now to see what the next stage of this rally could look like if that’s what’s going to happen.

So, let’s jump over to the four-hourly chart and get a little bit more detail on the recent price action. And so last week…we’re in around here. Last week I was talking about the potential for a rally. I was thinking that maybe this decline from the August high was nearing an end. And perhaps we’re at a point where we’re going to see what the market could do on the upside, what rally could it put in place? And then that would give us clues as to is this the start of a larger advance or just a pause before lower levels?

And the reason I was thinking that we could see a rally develop through here is that through this period here, through this rally we had during August, we had a big breadth thrust in the S&P 500 where we had 90% of S&P 500 stocks getting above their 50-day moving average. So, that’s a broad-based rally in the market which you typically see during a larger period of advance. And there was also increasing bearish sentiment creeping into the market over the previous week or two. And when people get increasingly bearish…and we had a couple of big down days. People started talking about an imminent break of the June low. It was just a sign that maybe people were getting too negative, and that could be cause for the market to be close to some sort of a bounce. So, I thought it was worth keeping an open mind and not just having a knee-jerk bearish reaction to this pullback that we’ve seen through August.

And just in the last couple of days, it looks like the S&P 500 may now be starting to…maybe trying to start to engage with some sort of a larger upside move. And I think this is where technical analysis really can help us. And I think the structure of the rally if this rally does develop or whether it be a consolidation that then starts to move sideways, what that looks like, the way that’s structured, I think that’s going to tell us a lot about how to be positioning our portfolios possibly over the next several months.

And from a bullish standpoint…So, I’m just going to duck back to the…just go back to a daily chart to look at this. So, from a bullish standpoint, what we really need to see now, we need this rally of the low from this week. We need this to actually gather a bit of momentum. We want to see quite a strong thrust upwards that takes us back up to near this trendline, then maybe that opens the door for some consolidation over…who knows what the timeframe could be? It could be several weeks, could be a month, could be more, but then that would open the door to a breakout above this trendline, which then puts another bullish sequence into play.

So, that would be the positive price action that we’re looking for. And this is really where the buyers are coming in where we are now actively buying this dip and setting the market up for potentially another advance. Doesn’t necessarily mean this would be a new bull market if that were to happen. This could all still be part of a broader popping formation that might still take many more months to develop and completely play out. But it would still lead to several months of rising prices prior to another leg down. There’s so much on the table. There’s so much uncertainty still. We’re really trying to navigate this small bits at a time rather than make big sweeping calls about big bear markets or big bull markets. At the moment, we’re looking for the possibility that this rally does extend.

On the bearish side, what we don’t want to see happen…Let me just sketch something in. What we don’t want to see happen is kind of a lackluster consolidation over the next several weeks. So, I’ve drawn the pattern in first, and now I’m going to fill it in with the price action. So, this would be some sort of a bearish flagging pattern where the market just bounces sideways for several weeks potentially, a week, four weeks, maybe a bit longer. And then from there, it starts to roll over again.

So, it’s quite a different price action with the bullish side. The bullish side was a strong rally, and then sideways. The bearish scenario is going to bounce along the bottom, and then potentially roll over. So, that’s why I say the next bit of price action is going to tell us quite a bit about where this market is probably going to go over the next several months. It’s how it sets up in here. And if we do get that sideways process, that could really be the setup for another sell sequence. So, as I say, it really is a case of watching this price action and seeing how it develops.

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Now, what have I been doing this week? I’ve been adding a bit of exposure, a little bit more exposure to the market. And I’ll show you how I’ve been doing it. I’ve been doing it through the Russell 2000 is how I’ve approached it this week. So, this is quite an interesting chart setup. So, what we’ve got with the Russell 2000, which is the U.S. small-cap index, we’ve got a bullish wedge on the chart. It’s really clearly defined, nicely structured. It really is a textbook bullish wedge. Market broke up from that in July, had an initial strong move higher. It’s now pulled back to near where the breakout point is. So, this is all going to how you’d say is a textbook wedging formation and playbook so far. It’s also come back to some support. There’s support here around 1790 thereabouts where the market’s just rebounding from at the moment.

I also like the markets rallied. It’s broken above the 50 and the 100-day moving averages. It’s had a pull back beneath them, which often happens at the start of an extended move higher. So, there’s some positive stuff going on. So, the key now is, are we going to get a follow-through rally, or is this rally going to peter out quickly and then start to roll over again? So, I don’t know. Of course, I don’t know the answer, nobody does, but when I look at this from a risk-reward perspective…and that’s, I think, the best we can do with these markets. We’ve got to look at everything from risk versus reward, and we want to play when we see the odds or the payoff in our favor. And I think there’s a case for getting some exposure to this market based on that.

So, should this market rally? If it were to rally…Let me just measure some stuff out. So, where the market currently is, where the Russell currently is, if it were to rally back up towards this resistance band at around 2100, that’s potentially a 15% rally. If it were to go midway back into this range which held it for…it was almost a year I think, we got a midway through that, well, then we are looking at maybe a 20% rally. Not predictions, possibilities, a possibility of what could happen in the Russell, even if the bear market is still in play as we go into 2023. There’s still room potentially for a much larger bear market rally or even a new bull market. We need to see how it unfolds, but there’s some good upside potential there.

The risk, well, I think the risk is quite contained at the moment. I’d be looking to exit if it broke down below this nearby support. You could have tighter stoppers, 5 or so percent. So, good upside potential with limited risks. That’s all part of my incrementally getting back into the market playbook that I’m using. So, as you may know, if you’ve been watching my videos over the last few months, so I think the last two months really, I’ve been talking about this incremental re-entering into the market. So, if a rally does develop, I’ve got a base position, and then I can continue to build on that base, but if it rolls over, I’m not overly exposed and I’m able to make a quick exit without doing too much damage. So, as I say, all about managing that risk.

Now, just want to quickly show you a chart, fascinating chart which turned up in my Twitter feed during the week from the guys over at SentimenTrader. And what this is doing…And this is another reason why I don’t want to get locked into an overly bearish mindset is so many people currently have locked themselves into. What this is doing, it’s showing institutional trader positioning in options. And what it’s essentially saying with this big spike we’ve seen to the downside is there’s a lot of hedging going on for a significant fall in the market. Last time we saw this much hedging going on was down near the bottom of the GFC selloff. There was still further selling to come, so it doesn’t tell you there’s a low in place, just tells you there’s a whole lot of negativity, and mass negativity tends to come near the lows. So, time will tell whether this has another leg down or whether indeed this is going to be…or this hedging is going to provide fuel for a further rally in the market. So, going to be really interesting to watch.

Please see video for more details analysis and charts

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Meet Jason

I'm Jason McIntosh, the creator of Motion Trader. My career began in 1991 on the trading floor at Bankers Trust. Nowadays, I trade my own systems from home in Sydney. 
Motion Trader is for investors who value robust analysis, data driven entry and exit signals, commentary, and education. I use engineered algorithms to identify when to buy and sell ASX stocks. No biases or guesswork, just data driven signals.