Saturday, September 14, 2013

Stock Market Update: Strong weekly finish by the major averages...

The major market averages (Dow, S+P 500) finished off a strong week with closes both above their respected 50 day moving averages and their 61% retrace levels from the August 2nd highs. In most cases this means that the correction is over and the swing low is in. Given this information, let's take a look at some likely upside targets.
The SP 500 reached our second upside target/resistance level mentioned last week at 1687.50. As you can see on the chart above, the S+P has rallied 150 points off each of it's swing lows going all the way back to the beginning of the year. This gives us a next target of 1777.47 on the upside. This will become an interesting area as there is some important confluence which I will show later in the post.
The rallies in the Dow have also been similar, measuring roughly 1100 points in length. The Dow has underperformed during this last correction and in turn it's upside target comes in at 15,857.75.
So as the short term trends turn upward I think it is imperative and prudent to also look closely at the risks involved. This coming week the economic calendar becomes very important, as on Wednesday the Federal Reserve will gives it's FOMC Statement with a press conference afterwards. There has been a lot of speculation and anticipation about what the Fed will do with it's current Quantitative Easing 3 (QE 3) program. The markets reaction following this statement will likely be very important to the short term trend. A bad reaction could have us drop back to 1600 before we rally back to the upside targets. A good reaction pretty much ensures upside targets will be hit over the coming months.
Personally I have no idea what the Fed will do or how the markets will react. If I had to guess I would say that they will pull back (sick of hearing the word "Taper") on some amount of the Bond buying program, for good reasons. The markets demand for "safe" assets has subsided (Gold, Bonds) and in turn there is no need to continue status quo.
So we have the near term headline risks of Fed "Tapering", European elections, debt ceiling debates and the eventual appointment of a new Federal reserve chairman. We also have the risks of a Bull market that is nearing it's conclusion. While I highly doubt I will ever see the March 2009 lows ever broken in my lifetime, or a stock market crash of the likes of 2008. It is likely however that we see a good 20%-30% drop in the major averages sometime in the next 3-12 months.
The chart above highlights the fact that we are nearing a potential upside target in both time and price. This is calculated by taking the price and time of the S+P 500 from it's March 2009 lows to it's May 2011 highs. This was followed by a 19% market correction during the US debt downgrade and Euro instability. While a 19% drop does not constitute a bear market, the Dow actually did drop 21%, which according to the definition, does equal a bear market drop.
These price and time levels will be reached in the week of November 25th around 1778 on the S+P 500. Which comes in around the same level as the short term upside target mentioned in the beginning of the post.
Let's also go back to this post in July. This chart above is the long term time and price trend of the Dow, this chart gives us a caution sign roughly around the 1st quarter of 2014 around 16,500 on the Dow.

Now those patterns alone doesn't mean that the market has to stop and reverse at exactly that time and exactly that price, it is purely a blue print with some high probabilities. But in all actuality the market can and will do whatever it wants to. However along with the aforementioned patterns we see a cumulative advance - decline that continues to show weakness and bearish divergences. What I mean by this is, if you look at the chart above you see as the S+P 500 has made higher highs, the advancing issues on the NYSE have failed to make new highs alongside. In fact, now we have as the S+P 500 is only about 1% from it's all time highs, the advancing issues are only roughly at the midpoint from the August highs to lows.

Now these divergences can go on for awhile and should not be used as a timing tool, but these type of divergences are typically seen before the ending of bull markets. It means fewer and fewer stocks are participating in these advances, and that type of price action simply can not go on forever. Therefore it is important, in assessing risk to reward potential, to pay attention to all of these patterns I have mentioned above.
So in conclusion, what I am trying to accomplish here is to point out the high probability risks and rewards in this current market environment. Readers than can assess their own situation and make their own decisions accordingly. I have given my opinions but also steered clear of giving "set in stone" predictions and forecasts, which as we all know are nothing more than educated guesses.