Since the June 4 price lows, the S&P is admirably up over 10%. Since then, prices peaked at 1,426 and have closed as high as 1,417. Now around 1,410, how much higher will this market go and can it close above 1,420?
In the August 2012 ETFguide Newsletter’s Short-Term Market Meter of July 20, we included the following update for our subscribers:
“The rally from 6/4 continues to grind higher as it approaches resistance at 1,390. If prices can break 1390, the May and April highs of 1,410 and 1,420 are the next resistances, but that is looking less and less likely. In the past month, the S&P 500 has made four separate 50-point overlapping moves (down, up, down, and up) which shows the lack of conviction in this up move. Breadth and momentum indicators are also not confirming the price moves, which are warning signs for bulls. We are looking for at least a short term top soon.”
Soon after we published this, stock prices continued to fall from 1,365 on July 20 to a bottom of 1,330 on July 24.
In addition to looking for a short-term top, we also identified the 1,390 zone as resistance that could eventually come into play. If 1,390 were to fail as resistance then 1,410-1,420 would be the upside target.
Why were the upside targets chosen, and what does 1,390 have to do with it?
The 1,410 and 1,420 prices are the previous highs from both April and May, and they are also the highest price since early 2008, last occurring before the worst part of 2008’s selloff.
In fact, 1,390 was the price where a trendline from those highs was coming into play and providing resistance.
Continuing to track the market’s choppiness, the Aug. 1 ETF Profit Strategy Update stated, “Price was rejected last week at 1,390 by the green resistance trendline, which connects the tops from April and May and should be watched. This keeps the ball in the bear's court. A breakout above this trendline would trigger a buy signal with prices seeking 1,390 and then the double top area of 1,410-1,420.”
A few days later on Aug. 6, 1,390 failed as resistance and pointed to 1,410 and 1,420 as targets. Eventually on Aug. 21, prices went as high as 1,426 but immediately sold off to close below 1,420 at 1,412. The 1,410-1,420 target was met.
Why can’t the S&P close above 1,420?
In technical analysis previous peaks and troughs often act as important resistances and supports, as investors and traders who were previously underwater on their trades get back to even and close their positions, happy to just breakeven.
In this case investors who bought the S&P at 1,420 in April were losing money for over three months as price stayed below 1,420. Investor psychology comes into play, but often after a long losing streak like the last three months, investors will sell when they get back to breakeven. Once 1,420 was hit again, sellers jumped in forcing prices down.
From a shorts perspective, investors who were selling at 1,420 in April likely had their stop losses placed just above 1,420, and likely the reason price went as high as 1,426 on Aug. 21 before closing well below that. Those buy-to-cover stops got taken out on Aug. 21, leaving only the breakeven sellers and thus forcing prices down and rejecting the price at 1.420. ETFs that short the S&P are the SH and the SPXU.
In summary, 1,420 remains a key upside resistance level, and a major battleground between bulls and bears is playing out. (The equivalent price on the Dow Jones Industrial Average is 13,300, along with its ETF (DIA) at $133.)
The ETF Profit Strategy Newsletter uses fundamental and technical analysis on key markets like U.S. stocks, bonds, and gold with weekly updates.