Option Investor
Index Wrap

RETREAT FROM AN APPARENT TOP

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THE BOTTOM LINE:
As noted last week, the chart and indicator patterns for the S&P and Dow relative to the Nasdaq and Russell have been quite different. After this most recent decline, the Dow is now is now oversold short-term, and almost fully oversold on an intermediate-term basis, whereas the Nasdaq and RUT momentum type oscillators (e.g., the 13-day RSI) have just started declining after reaching an overbought level the other day. And, like the S&P 100 (OEX) and Dow 30 (INDU) did earlier at their tops of early to mid-May, the Nasdaq Composite (COMP) traced out a minor double top with the rally failure of this past week.

And COMP, like SPX, OEX and INDU, has also seen a bearish price/RSI divergence form after the push to a second similar high or a higher high, in the case of the Nas 100 (NDX); i.e., a second high was made on LESS 'relative strength' than the first peak. So, while the key Nasdaq stocks have only begun to correct, we may yet see a more dramatic break occur over time, as has been the case with the Dow and the S&P.

If oil is the wild card fundamental, oil prices are clearing experiencing at least the early to middle stages of a BUBBLE and oil could fall sharply when this speculative binge runs its course. When and if this occurs, the oversold S&P could have a substantial rebound and the tech stocks just resume their strong rise as, so far, they have barely corrected.

The bearish Nasdaq scenario is that the further-on stages of a correction brings a steep decline, as has happened or is in process of happening, in the S&P and Dow. SPX looks to have downside potential to the low-1300 area. If so, NDX ought to at least break near support around 1950 and head toward 1870, perhaps to the 1850 area.

It can take some time for a top to build and index prices often 'hang' up in the same area before coming down; the patterns for tops are often quite different than bottoms, which are more likely to see 'spike' lows followed by sharp recoveries.

As I wrote last week and could now be true of tech and not just the overall market: "The bearish case is well known and I don't need repeat it, but if the outlook is so bearish, why aren't more stocks tanking? It could of course be that a secondary top here may take some time to build, as has been fairly common in the past."

I also noted last week that NDX's key test would be in the 2050 area and the index had a reversal there. On Friday NDX closed under near support implied by its 21-day moving average. Failure in the area of a prior high, with a divergent Relative Strength Index (RSI) and a close under the key 21-day average are bearish, suggesting an early stage of a decline that will end up being more substantial than the shallow/minor tech corrections seen to date. NDX popped back above its 21-day average after its last correction so pay attention for a repeat. If long NDX puts, a close above 2000 makes me wary of continuing with bearish bets.

Holders of SPX, OEX and Dow Index puts from higher levels should be feeling a little more comfort, but those indexes may not have major further downside potential; e.g., to around 1325-1300 in SPX, 610-600 in OEX and 12000 in the Dow.

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MARKET NEWS and INFLUENCES:
Other index and sector closes, recaps of market influences like earnings, company news, related market events, government reports and activities, etc. are found in the Option Investor 'Market Wrap' section.

** MAJOR STOCK INDEX TECHNICAL COMMENTARIES **

S&P 500 (SPX); DAILY CHART:

The S&P 500 (SPX) finally broke to the downside this past week. The tip off to declining or stalled momentum was the inability for the index to achieve more than a 1-day close above the 21-day moving average. The Friday close took SPX to below the low end of the recent trading range and continued and I could say 'confirmed' its bearish chart pattern.

There is more of decline to come if the unfolding pattern is 'typical' of declines, where the second downswing carries further than the first. It looks like SPX could retest the prior low in the 1325 area and perhaps reach or get close to reaching the 1300 level.

I wrote last week that: "...the bearish price/RSI divergence that formed and that I've kept highlighted on the price chart below, is suggestive of more than a minor top formation." Stay tuned on that!

Near resistance implied by the cluster of recent lows, is at 1373-1375 as a move back to this prior support may bring in selling on any such SPX rebound. Next higher resistance, unchanged from last week, is in the 1400 area.

Support implied by prior (down) swing lows is at 1324, then at 1313.

S&P 100 (OEX) INDEX; DAILY CHART:

The S&P 100 (OEX) Index followed through on my take on the chart last week: "...bearish in the near to intermediate term; from 2-3 days to 2-3 weeks out." What next? What I would expect to see is a test of the prior 610 low at a minimum. Next technical support should come in at 602-598. My major trend outlook currently is that the March lows will hold and we won't see a lower 2008 bottom.

Immediate overhead resistance is at 624-627. Next resistance is at 640, at the 21-day moving average, which acted as a curved downward sloping line of resistance last week.

MARKET 'SENTIMENT':
OEX looks headed lower and bullish sentiment is declining also. When my 'CPRATIO' sentiment indicator, seen above under the OEX chart, hits the lower green line 'oversold' line or dips under it, I anticipate a possible bottom and substantial rally attempt setting up after that, within a day to a few (5) days after such a 1-day reading.

DOW 30 (INDU) AVERAGE; DAILY CHART:
The Dow 30 (INDU) continues to be the weakest of the major indexes. You may recall that my MOST bullish expectation was that INDU could climb back to its 21-day average and the Dow didn't quite manage that.

On a related note, the Dow Transportation Average (TRAN) retreated from its recent new weekly closing high made recently at 5437 (TRAN chart not shown here). This new all-time high in the Transports was 'suspect' to say the least in that this move in TRAN seemed so unlikely to 'signal' a similar move in its sister Dow Industrials average, as INDU would have had to climb over a 1000 points before it would attain a similar new high. The question is what was TRAN smoking!?

As with the S&P indexes, technically the assumption is that prior support, once broken, has 'become' a new resistance, suggesting immediate overhead selling interest coming in around 12270. Next resistance is at the 21-day average at 12681 as of the Friday close.

Near support I've highlighted on the chart below is at 12000-12075. I don't currently anticipate the Dow slipping below, or much below 12000, at least not before a rally sets up. Major support should be found at the March low at 11732, extending to 11635.

NASDAQ COMPOSITE (COMP) INDEX, DAILY CHART:

The Nasdaq Composite (COMP) Index made an apparent double top at its prior high and quickly reversed after that. Time will tell if this minor double top, like the similar pattern in OEX and INDU, will lead to a substantial decline later on.

COMP closed below its 21-day moving average, suggesting some loss of upside momentum. The key test of chart strength would come on a re-test of the low end of the May trading range (also representing a minor double bottom low) at 2429. Next lower support I've noted on the chart is in the 2352-2387 range, corresponding to the upside price gap of mid-April.

Immediate overhead resistance implied by the 21-day average, is at 2490. Next technical resistance and only a bit above a 66% retracement (at 2537) of the December-March decline, is at the 2551 double top. Next higher resistance is in the 2570-2590 area.

On balance, I anticipate that a top to the rally of past weeks has formed (the recent double top) and we won't see higher levels in COMP for awhile. The last rally also occurred on lower relative strength, as is seen in the 13-day Relative Strength Index (RSI) coming up to a lower level than previously occurred; a pattern constituting a bearish price/RSI divergence and something I suggesting watching out for last week.

NASDAQ 100 (NDX) DAILY CHART:

I thought last week that the Nasdaq 100 (NDX) was close to resolving the question as to whether it could take out resistance in the 2050 area. The chart and indicator patterns suggest that a top may have formed or could be forming. The bearish price/RSI pattern, as can be seen in the declining trend in the RSI line, also suggests the possibility that a significant top is in place.

The key chart aspects to watch as predictors for where NDX may be going next: 1.) whether resistance in the 2050 area can be pierced on a closing basis suggesting a move to 2150; 2.) whether support at 1950, the low end of the May trading range, will continue to hold; if pierced, another 80-100 point decline is a possible outcome. Support below 1950, per my chart highlights below on the daily NDX chart, is at the 1850-1868 zone.

NASDAQ 100 TRACKING STOCK (QQQQ); DAILY CHART:

The Nasdaq 100 tracking stock (QQQQ) key resistance is at the possible double top at 50.4; major resistance begins in the 52.8 area.

Key support yet to be tested is at 47.8-48.0. Next lower support is at 45.7, then at 43.7.

The same analysis to QQQQ applies as with the underlying (NDX) index, which is that the chart and indicator patterns looks like a top has probably been seen to the multimonth rally. Stay tuned on whether tech stocks have finally gotten to mostly peak levels for the next weeks or months.

RUSSELL 2000 (RUT) DAILY CHART:

The Russell 2000 Index (RUT) seems to have run into resistance in the 760 area and a lid may have been put on the strong uptrend of recent weeks. Next resistance is at 772. I think that there will be tough going for RUT on any further rallies into the 760-770 area, especially given the overbought RSI extreme recently reached.

Key support is at 720 to 713 and major support should be found in the 685-680 area.

I doubt that RUT is going to be able to maintain the strong upside momentum seen in recent weeks and a correction is due or overdue; the question becomes how deep of a correction. A setback to the 722 to 713 area is a good possibility.

GOOD TRADING SUCCESS!

NOTES ON MY TRADING GUIDELINES AND SUGGESTIONS
CHART MARKINGS:
1. Technical support/areas of likely buying interest are highlighted with green up arrows.
2. Resistance/areas of likely selling interest: red down arrows.
[Gray up/down arrows: support/resistance levels that got pierced]
I WRITE ABOUT:
3. Index price areas where I have a bullish bias or interest in buying index calls (or selling puts or other bullish strategies).
4. Price levels where I suggest buying index puts (or, adopting other bearish option strategies).

Trading suggestions are based on Index levels, not a specific option (month and strike price) and entry price for that option. My outlook often focuses on the intermediate-term trend (next few weeks) rather than the next several days of the short-term trend.

Having at least 3-4 weeks to expiration tends to be my guideline for trade entry choice. I attempt to pick only what I consider to be 'high-potential' trades; e.g., a defined risk point would equal in points only 1/3 or less of the index price target.

I most often favor At (ATM), In (ITM) or only slightly Out of the Money (OTM) strike prices in order not to 'overtrade' my account. Exit or 'stop' points, as well as projected profitable index price targets, are based on my technical analysis of the indexes.

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