It's been my experience over the years and many market cycles that in many if not most years there are just a few (e.g., 4-5) instances where there are major price swings in the Market; where upside or downside reversals lead to at least a 10% move.
How to identify the points where these occasional prolonged market moves start and stop is the BIG question of course. I will address the factors of price patterns, overbought/oversold conditions, extremes in bullish or bearish sentiment and, in the case of the Nasdaq charts, being able to 'see' daily price gaps.
The S&P 500 (SPX) was up just over 13% on the year. The Nasdaq Composite gained nearly 16%.
Looking at the weekly Nasdaq Composite (COMP), there were two advances and two declines of at least 10%. I look at the lowest weekly close to highest weekly close for an up trend and vice versa, from highest weekly close to lowest weekly close in a down trend.
Four price swings are noted on my weekly COMP chart within 2012; two advances of longer and stronger duration (and typical of a long-term UP trend) AND two declines of shorter duration and with less of a percentage decline (also typical of a primary up trend).
I will not do the same review of major price swings in 2012 for the S&P 500 (SPX) as COMP alone will illustrate the points I will make further on regarding technical aspects that taken together suggested potential for a sizable move ahead.
Usually there are only a few trends in a given year that are worth getting in on (at least for directional trades using calls and puts) and that these can usually be identified by all or most of the following: A pattern whereby there's a topping or bottoming chart pattern PLUS an overbought or oversold RSI extreme PLUS ideally a high daily or 5-day average of 'extreme' bullishness or extreme bearishness.
What you will notice with extremes in SENTIMENT is that this often is a leading indicator where extremes are seen 1 to a few days before a significant upside or downside trend reversal; such extremes sometimes also occur or occur again shortly after the lowest low or highest highs.
As well, simultaneous with significant upside reversals or soon thereafter, there are often upside price GAPS that occur.
At big tradable tops there is often a churning action that results in several repeated highs in the same area which is what (Charles) Dow called a line formation. You'll see this pattern ahead of the two big downside reversals in 2012. At or around the time of a bottom formation, upside moves often see overnight price gaps where the (daily) lows are above the prior day(s) daily highs. Along with an apparent upside or downside reversal pattern I look for:
EXTREMES IN THE RELATIVE STRENGTH INDEX (RSI)
EXTREMES IN BULLISH OR BEARISH 'SENTIMENT'
The January to end-March period, as noted above on my weekly COMP chart saw more than an 18% gain trough to peak from the lowest weekly Close in January to the highest weekly Close in late-March. Shown below on the COMP daily chart are highlights of the November 2011 bottom. The 18% gain was from January 2012 lows only so as to include just what happened within 2012.
Chart and indicator patterns for this period involved:
The late-November 2011 BOTTOM: There were two upside price gaps in COMP in late-November that suggested a possible bottom. [NOTE: in the S&P, pricing is such that you don't usually see price gaps as initial order imbalances in NYSE stocks cause the lows and highs to get 'adjusted' to the prior day.]
The initial upside price gap, occurring the day after the 'final' low, was accompanied with a low RSI reading, but one not in the extreme ('oversold') range I highlight. With my CPRATIO indicator, the prior 1-5 days is a common time frame for single 1-day (or on a 5-day average) sentiment extremes to peak AHEAD of a final upside or downside trend reversal which was the case here.
The late-March TOP: see the discussion below this chart, for the technical aspects of the late-March top, which kicked off the late-March to early-June sell off.
Reflected in my next daily COMP chart below, that of the late-March to early June period, there was a 11% decline, peak to trough.
HERE COMES ANOTHER 'RULE' OF THUMB FOR BULL MARKETS: BUY DECLINES OF 10/10+ percent!
The late-March TOP: note that several highs occurred in the same area. The line of initial intraday highs indicated resistance and occurred after a long run up and ALONG WITH a high Relative Strength Index (13 is set as 'length') AND was preceded by an 'overbought' extreme in bullish sentiment. Such leveling off in prices along with extremes in the aforementioned key technical indicators generates a sell 'signal' so to speak.
The June BOTTOM: note the UPSIDE chart gap. COMP's upside price gaps occurred in the context of a low (not quite a low 'extreme' within the lower lines) RSI; this was accompanied with preceding and following extremes in bearish 'sentiment'. This concept involves the theory of contrary opinion, where high and sometimes prolonged levels of bullishness occurs with topping action and vice versa.
The bottom in the period shown was not PRECISELY indicated in terms of Sentiment extremes AT that bottom, but low bullishness before and after, in contrary opinion terms, suggested that buying calls had a favorable risk to reward.
The early-June low to the September top brought a nearly 16% gain.
Technical aspects of the June BOTTOM is described above.
The September TOP saw a repeat of the topping pattern of late-March as, after a prolonged run up, a line of intraday highs formed suggesting AT LEAST an interim top. What made for the likelihood that the top was a likely or possible intermediate top was the RSI extreme PLUS the high level of bullishness seen in my lowermost (CPRATIO) indicator.
The mid-September to mid-November sell off was peak to trough just over a 10% decline.
Technical price and indicator aspects of the September TOP are described above.
The November BOTTOM was, as in early-June, marked by an upside reversal type price gap PLUS an oversold RSI extreme PLUS what I consider to be another type of 'oversold' in my call/put model, which is a low level of bullishness. As is sometimes if not often the case, the low extreme in my CPRATIO indicator was by 1-2 single day readings. Sometimes such extremes are also seen on a 5-day moving average basis, sometimes not.
Finally, in a related comment, the line of support seen with repeated recent intraday lows just over 2950 (as highlighted below), followed by today's (12/31) strong upside move, suggests that 1.) the Market expects the new Congress to reach a fiscal deal if the old one doesn't and 2.) that given such a deal, the path of least resistance is still UP.
GOOD TRADING SUCCESS!