It’s been a dismal couple of months for the stock market. Since falling off the cliff back in April, the major indices have been trapped like a rubber ball bouncing in a box.
The S&P 500 has twice been turned away at the 1,130 level while a bastion of support stands at 1,040 and another at 1,010.
With investors fleeing equities in droves — the ICI reports that investors have pulled money out of stock funds for nine straight weeks — and with the economy threatening to tip back into recession, it’s tempting to throw one’s hand up in disgust and sell everything.
But from a technical perspective, there is room for hope. For one, on various short- and medium-term indicators, equities are oversold.
In fact, if you squint, it looks like the stocks in the S&P 500 might be tracing out an inverse head-and-shoulders reversal pattern. I’ve illustrated this in the chart below.
While the pattern might seem like an insufficient collection of squiggly lines, it’s an important reflection of investor sentiment. The first dip and rebound offer false hope; the second, deeper decline crushes all remaining optimism; and the third dip fakes out all the late arriving short sellers. A break of resistance at 1,130 would complete the pattern and send stocks flying.
So, what makes me so confident stocks won’t move lower and violate the pattern? Setting aside discussions on the economy, valuations, and monetary policy — market breadth data suggests savvy Wall Street insiders have already started accumulating shares.
Simply put: The intensity of the selling pressure has been in steady decline over the last few months. Fewer and fewer stocks are participating in each subsequent selloff of the head-and-shoulders pattern. You can see this in the lower pane of the chart above, which shows the 10-day moving average of the NYSE Advance-Decline Issues line. Combined with the recent trend of higher volume rallies and lower volume declines — this is a powerful signal suggesting a turnaround is imminent.
As of this writing, Anthony Mirhaydari does not own or control a position in any company mentioned.
Check out Anthony’s new investment advisory service, the Edge, which is launching in September. He can be contacted at anthony.mirhaydari@live.com. Feel free to comment below.
