We’ve just hit another stock market milestone…
It began in March 2003 and has galloped all the way through to the present day. But to see and hear the way some traders, investors, and the blowhards on television have reacted recently, you’d think the world was coming to an end.
But when you take a moment to think about it, the truth is… a four-year bull market is a pretty good thing!
And that’s exactly what we’ve had on the S&P 500. If you take a look at a chart of the index, dating back to March 2003, you’ll see a strong bull market over that time, interspersed with five healthy corrections along the way. The longest pullback lasted about five months – from March 2004 to August 2004.
But right now, everyone is asking the same key questions: What does the recent market volatility mean? And is it the trigger point for another one of those ‘healthy corrections’ – or something bigger?
Let’s turn to the technicals for some clues about this stock market milestone…
US stock market trends: hangover from the seven-month party
When the market began rising in July 2006, not many people thought it would blast its way through to the end of February.
Most economists believed the correction (which began in May 2006) would cruise through the summer months into what are historically the weakest months of the year for the market – September and October. And especially given the markets traditionally experience a down cycle during mid-term elections.
But after bottoming out, the S&P 500 bulldozed into mid-October – and ended up exceeding its May 2006 highs, along with the Dow Industrials and Nasdaq indexes.
Capitalizing on increased liquidity from hedge funds and private equity funds, the overbought market continued to rise through the end of 2006 and into 2007. During this impressive 7-month rally, the Dow Industrials, Dow Transports, and all the small-cap indexes made new all-time highs.
But the party couldn’t last forever…
US stock market trends: the market started in February
A 9% slump in China’s Shanghai Composite Index triggered a mass selling spree, with the ripple effect felt around the world.
In just three days, the Dow, S&P, and Nasdaq indexes gave back all their gains for the year. Since then, they’ve sprung back and forth between gains and losses.
So what next? There are two scenarios from here…
A Short Slip Or A Drawn-Out Decline?
There are three indexes that didn’t toss all their gains away during the market’s swoon: The Russell 2000… the S&P Small-Cap… and the S&P Mid-Cap. As I write, all three are clinging onto modest gains.
• Scenario #1: If they can stay above their 2007 lows, this correction could be short-lived.
• Scenario #2: If the small-cap indexes sink into negative territory for the year, we could be set for a lengthy correction, or a consolidation period within a long-term bull market.
I’ve illustrated the outlook for the S&P 500 on the chart below.
Chart Courtesy of Trade Navigator Software: https://www.genesisft.com
The upper blue line is drawn from the highs of March 2004, and you can see the highs from May 2006 touching it. The lower blue line is a trendline drawn off of the lows in March 2003. The red line represents the 200-day moving average.
As you can see, the S&P 500 blasted through the upper trading channel last October, before retreating back to test it just a couple of weeks later. The index then took off again, making a series of successive new highs.
But when the market collapsed at the end of February, the S&P plunged back down to the top of the trendline.
This means we’re now at a decision point…
Because the trendline has proved to be pretty solid support for the index since October 2006, it’s possible that the bull market can resume from here. However, the February selloff inflicted a lot of technical damage, and there’s probably more to go on the downside.
Stock Market Milestones: A Key 30-Point Support Range
Simply put, to confirm that the indexes have further to go on the downside, they first have to close below the lows posted during the brutal week of February 26 to March 2. That would put the S&P 500 back inside the trading channel – and then we’ll be looking at the next area of support for a potential reversal.
But before we start thinking about that scenario, there’s a key 30-point support range that you need to keep an eye on.
My colleague D.R. Barton, Jr. and I have written here about the proven predictive power of Fibonacci retracements. As a quick refresher, Leonardo Fibonacci was a 13th century Italian mathematician who popularized a string of inter-related numbers called the Fibonacci Sequence. In investment circles, this tool is used to gauge support (downside) and resistance (upside) levels where markets and stocks could head next. Following a major move, there are three main retracement areas – 38.2%… 50%… and 61.8%. And once you identify these, it allows you to time your investments better, since you’re able to pinpoint the best times to buy and sell.
So here’s what Senor Fibonacci is telling us right now for the S&P 500…
A 38% retracement from the July lows comes in at 1,370.The 50% retracement is at 1,341. And the 200-day (40 week) moving average is currently around 1,350, so we have a cluster of support within that 30-point range.
If the major indexes drop below their March 5 lows, the best case for the bulls would be for the S&P 500 to drop down into that range and consolidate for a few weeks before reversing to the upside again.
As I’ve shown on the chart above, the trendline coming off of the March 2003 lows moves up to 1,320 over the next few weeks. This is a critical technical level, as it represents about a 62% retracement off of the July 2006 lows.
• Bottom line: If the S&P tests that level, it must hold in order for the long-term bull market to stay intact. If the index drops below that mark, it would be bearish over the longer-term.
Stock market trends: we’re heading higher – but beware volatility
However, with the Dow Industrials, Dow Transports and all the small-cap indexes having all notched up new all-time highs over the impressive 7-month market rally, my pattern recognition system has projected higher targets.
And although these stock market milestones have yet to be reached, my intermediate to longer-term analysis tells me that the February highs will eventually be taken out.
The key question is ‘when?’ This answer is a little more uncertain right now – and with the market having found some real volatility for the first time in months, this is not the time to be pumping too much money into an unpredictable market. Keep some powder dry for now, and remain patient until we see some signs of a bottoming process.
By Jim Stanton, Technical Analyst,