If 'the trend is our friend', trendlines
can be our best friend in evaluating the growing risk of a reversal. Trendline analysis is also enhanced with a couple of key indicators
There are different ways to judge a bridge too far or when a trend is so 'extended' technically that any further trade entry (on the side of the current trend) is high risk. The type chart/technical analysis I'm going to examine can be quite useful for suggesting taking profits (or partial profits). I don't need tell most of you that the risk to a good profit can creep up on us. This is not to say that I'm also ready to take out puts and 'fade' the dominant trend. But I guard profits like a tiger with her cubs.
There are various ways to evaluate resistance, but sometimes there seems like NO way to readily gauge resistance. It's easy to see that resistance or selling pressures may be a stopper when an index or stock returns to the area of a prior high. If at a prior benchmark high coupled with a bullish sentiment extreme and an overbought oscillator (e.g., the RSI) reading, the probabilities of a corrective pullback grows exponentially.
A move to a prior significant top is seen of course with the S&P 500 (SPX). SPX is not 'leading' this market; the Nasdaq is. I'll get to what might offer a different type of resistance with the Nasdaq chart(s) after my first chart.
SPX closed within a hair's breath of its prior intraday and Closing high today. There's the possibility of a double top, especially when coupled with the overbought extremes suggested both by the RSI and my 'sentiment' model. This analysis is both standard technical 101 and pretty straight-forward. We're talking probabilities of a top being high. The market also lives on tricking us up too by bullish momentum. However, speaking of probabilities, the odds of a new up leg at this juncture is fairly low given what the indicators are showing. Absent a crystal ball, traders live on assessing the odds.
Keep in mind that bullish extremes in my sentiment indicator seen above tends to be a leading indicator and predicts corrections a day, to as many as 5 (trading) days, ahead of the actual occurrence.
Just as a return to a prior top can show where selling could dominate again, a return to a previously broken up trendline can also suggest where selling pressure might drive prices back down. As I've said more often than you probably care to hear it, support, once broken tends to 'become' resistance later on (just as prior resistance can remain resistance). This rule of thumb also tends to apply to previous support trendlines.
An example is upon us with the very strong Nasdaq Composite (COMP) trend that is currently tearing up the charts. We're at potential resistance in that COMP has rebounded back to what a trader mentor used to call the 'kiss of death' trendline. Stay tuned on the outcome. As I'll show with the Russell 2000 (RUT) chart, the alternative universe scenario is a breakout above such a previously penetrated trendline that (AGAIN) 'defines' technical support. Stay tuned for tomorrow (Friday) and beyond!
Just as a previously broken UP trendline can define a tough area of later resistance, a return to a previously pierced DOWN trendline may mark the point of an upside reversal. This is seen below in couple of instances with the weekly S&P chart. As prices can just keep falling along such a trendline, the concomitant tip off is often a trendline 'touch' AND an oversold condition or at least a neutral mid-range RSI reading.
I tend to look at the big cap benchmark stocks a lot in terms of drawing and re-drawing trendlines. I go through the 30 Dow stocks a lot, as I can usually find at least 2-3 that offer compelling trades. With Boeing, and I don't know a thing about the 'fundamentals' affecting their earnings outlook (nor do I wish to as I see all I need in the chart), the pullback to the previously penetrated down trendline at the March 2009 bottom was accompanied by an oversold RSI (check). This coupling suggested not only potential for an upside reversal but also low risk of a sizable further down leg.
I mentioned the Russell 2000 (RUT) chart pattern seen next as being an apparent exception to the idea that a return to the prior busted up trendline would be an area to sell into. Still, based on the elevated RSI I'd be surprised if the up trendline plays its support role just as it did before. Stay tuned on this outcome!
Intel Corp (INTC), a key tech bellwether, is rising along trendline resistance here and this comes in a price area that saw enough selling before to drive the stock back down again. Another 'real-time' example as we will soon see how this technical aspect or consideration plays out.
Another tech bellwether, Cisco Systems (CSCO) seen below suggests that its move above $26 may encounter significant selling (or withdrawal of buying) at the previously broken up trendline. The pullback into the late-January low was a return to support implied by a previously penetrated up trendline; prior support once broken appeared have 'become' support on subsequent pullbacks. Again, however, this moment was accompanied by a 'fully' oversold RSI reading; the first such RSI extreme (on the downside) in the prior year. A quick 17% rebound in the stock resulted in a tidy profit in CSCO calls.
The trendline pattern seen above, both of potential current resistance and helping pick up on early-Feb upside reversal, is replicated and seen below in United Technologies (UTX), anther Dow stock. It only takes a couple of key technical picks like these to make a great quarter. I look for the 'low risk' potential of an 'oversold' condition, especially if I have a chart pattern that suggests pulling the (trade) trigger. Oversold is not enough to go on; a price area that suggests 'turnaround' potential is the key further determinant.
Not only do you see the 'kiss of death' trendline on HOURLY charts but use of the 21-hour RSI, which has been trending DOWN as prices trend UP (a bearish divergence), gives some further ammunition for a view that this index (and the market) is vulnerable to a correction. And, SOON, if it is going to happen. Chart patterns have a time (window) and price component.
GOOD TRADING SUCCESS!!