June 1st, 2010

Market on Verge of Being Oversold

Unfortunately, nothing good seems to be on the market horizon. As a matter of fact, after ricocheting off the bottom of the 200-dma, the market seems to be in a free fall to the 300-dma at 1039.5, just 3% below today’s close of 1070.71. There’s only one silver lining for this dark picture from a technical perspective and that’s how precipitous the decline so far has actually been.

I’m encouraged by the fact that there haven’t been any crossovers among the four moving averages and they’re still in a bullish alignment (50-, 100-, 200- and finally the 300-dma) although they have begun to turn down or flatten out. I other words, the decline from the April peak has been so swift and deep as compared to the ascent leading up to it that the moving averages haven’t been able to turn down, let alone cross under each other. (click on image to enlarge)

Remember, the downside target of the ascending broadening wedge described in an earlier post is the 950 range. That also happens to be the area of the necklines for both the Tech Bubble Crash bottom in 2003 and the Financial Crises Crash bottom of 2009. It does sound too pat, neat and symmetrical for it to work out just like this but it does set up a technical support level target for this correction’s eventual destination.

Now that the Index has crossed under the 200-dma what happens next is up in the air. Over the past nearly 50 years, the index has

  • crossed back above the 200-dma 41% of the time,
  • continued to decline and crossed below the 500-dma 33% of the time and
  • waited for the 50-dma to follow and cross below the 100-dma 12% of the time (the remaining 11 outcomes, or 14%, produced single instance occurrences)

Although the lower probability outcome, I feel the next milestone will by the index crossing below the 500-dma on its way to the 950 area.

History tells us that time is more important than the steepness of the change for causing market momentum and psychology to change direction. A correction will not extend into a bear market which, in turn, will not become a crash unless the market takes long enough for the moving averages to change direction and begin to cross over themselves until their alignment turns negative. Without time, they become very oversold.

Market sentiment, like a ocean liner, doesn’t turn on a dime. It takes time for the majority of market participants to turn from being constructive about the big picture to being pessimistic. As negative as everything sounds today, the indicators don’t seem to be saying that yet.

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  • Anonymous

    Guru, I love your site, calm & peace.