Someone wrote me yesterday asking for some more explanation on my recent take on retracement levels and trendlines that were suggesting technical resistance coming in around current levels. I think she was a hopeful bear. There's generally no way to reliably pick even an interim top in a strong advance like we're in. Easier to find bottoms as there are often climax type selling panics and V-formations. Tops tend to have more of a 'rolling' pattern.
Still there are things you can point to that suggest that the probabilities for a correction are increasing. Such factors as prices reaching resistance implied by a down trendline, hitting a key fibonacci retracement level, reaching an overbought extreme, including where trader sentiment gets to a bullish extreme. All are 'risk' factors to those counting on further upside as the probabilities of a correction increase with these technical circumstances. We can't pin down an exact turning point usually, but the charts and some indicators point toward some combination of perceived negatives ahead that will create anywhere from a pause to a mini selling stampede.
I learned trading the hard way like many if not most of us: by taking too many high risk trades, staying in too long or, getting out before a trend really took off, etc.
The specifics of being at a couple of long-term resistance trendlines, such as in the Dow and S&P, although they may be clearing this hurdle, can be seen on weekly charts depending on WHICH KIND of trendline being used also. I'll show the charts.
Another technical aspect I wrote on recently was about fibonacci retracements and how telling they can be. Here's the deal, as I've found it. A stock or index achieves a decisive upside penetration of a long-term trendline, then it's in the clear technically as far as possible trendline resistance. This isn't to say prices won't just reverse at some less-obvious point. Sometimes buying just runs out. Overbought situations point to where so much buying has come in that the bulls may be tapped out.
The key 38, 50 and 62 percent retracements (with the addition of the 66% retracement) are often areas of significant to strong support or strong resistance. If prices break out above what is a 38% retracement of a prior big down leg, the probability of a move to a 50% retracement is high. Above a 50% retracement, the probabilities tend toward a further retracement to the 62 to 66% area. Above 66 percent, two-thirds of the last big downswing, figure that prices can make a 'round-trip' 100% retracement.
The Dow has cleared potential resistance at the half way point in its retracement of the 2007-2009 bear market decline. It may be in the process of also clearing resistance suggested at the second ('external') long-term down trendline. I haven't put it on the weekly INDU chart yet, but the next retracement level that could be reached in this current move, or after a pullback, is in the 11250 area, at the 62% (.618 fibonacci) retracement.
There's another kind of trendline that suggests some overhead resistance for the Dow and that's seen on the DAILY chart, specifically at the upper boundary of its broad uptrend channel. Pullbacks have been regularly occurring at minor resistance implied by this upper trendline, currently intersecting in the 10600 area.
The probabilities of INDU breaking out above 10600 and sailing above this level is quite low in my estimation, especially given the RSI extreme as well as the past patterns of corrections at the high end of the channel. An interesting thing about probability theory is there ARE instance of heads being tossed 15 times in a row; it's just uncommon! But of course, this IS the market!!
The long-term down trendlines in the S&P 500 (SPX) played out mostly the same way as the Dow, in terms of contrasting its internal down trendline with the conventional rendering of a trendline that touches 2-3 or more of the absolute highs. By the way, sometimes one type trendline will tell you one thing that's useful and the other trendline type another thing.
Useful in how price action unfolded after SPX broke out above its lower ('internal') down trendline was the way that the subsequent pullback found support AT the trendline (per the green up arrow). What was resistance, once exceeded, 'became' support later on. This pattern is characteristic bullish action.
The upper trendline is yet to be cleared decisively but price action so far suggests that SPX will at least test, if not exceed somewhat, the 50% retracement level at 1120. The index is now getting into a tougher area in terms of a greater supply of stock that could be offered as SPX climbs above 1100. The RSI is not 'confirming' a new high in prices. While bullish still for the long haul, I don't favor hanging in with much on the table, expecting a sizable further move before a correction sets in. I'll wait.
A good illustration of the pauses and pullbacks that can occur at the various key retracement levels is seen with the Nasdaq 100 (NDX) which is way out front in terms of how much of the prior bear market decline IT has retraced as its currently in that highest 'risk' zone of a 62 to 66% retracement. It may be tough sledding to clear the 1800 level for NDX, especially given the distance this tech favorite index has come.
But I digress, as I was speaking about how pauses and pullbacks can occur at the various key retracements. I've highlighted the corrective price action after NDX first reached the 38% retracement area. At the 50% retracement it was a pause and a several week sideways trend before the next surge higher began. At the 62% retracement level another sharp sell off occurred although it was short-lived.
A correction seems 'due' and would probably result in another buying opportunity in calls. It's been tough to be as bearish as the economy looks dismal but investors are starting to get the message. Better to be a bull and trust that your pockets will be full.
GOOD TRADING SUCCESS...AND HAPPY THANKSGIVING!