Friday, August 17, 2007

Is the Correction Over? Possible Bull and Bear Scenario on S&P 500 (August 17, 2007)

What a week we've had! The stock market goes up and down many percent each day. On Thursday, August 16, 2007, the S&P 500 Index ($SPX) opened down near the expected intermediate bottom area of 1365 ($SPX bottomed at 1370). There was panic in the market. But towards the end of the day, the market had a massive rally to finish almost even.

Thursday appeared to be a capitulation ("I surrender!") bottom and the nice recovery helped solidify that. Friday continued the Fibonacci bounce to the 1440 (38.2%) to 1463 (50%) levels.

Fibonacci Theory says that the 38.2%, 50%, and 61.8% numbers occur all throughout nature, and also in stock charts. You can place a Fibonacci Grid (the five blue horizontal lines in the chart above) with all those numbers from a high to a low or from a low to high. Resistance and Support levels often occur at these levels. If other support and resistance levels, such as the moving average or horizontal or trend line resistance occurs at those areas, then the Fibonacci lines are valid.

During a market drop, after the market hits some sort of bottom, the market often bounces to one of the fibonacci levels. It should bounce to at least the 38.2% level (1441) which was already passed on Friday, August 17. If the bounce is strong, the stock or index could bounce to the 50% level (1463) or even 61.8% level (1485). Then, the stock or index would reverse after that retracement.

In the $SPX chart, there is also congestion around the 1463 level.

So from today onwards, I expect a bounce to reach somewhere around the 1463 level. Then, I expect $SPX to reverse.

V shaped market bottoms are not very stable. What often happens is that sometime later (possible a week or so after the first bottom is made), the stock or index would re-test the lows. In the chart above, I expect $SPX to re-test near the previous lows of 1370. But the $SPX could go down to 1365 or so and then recover, and still be a successful re-test.

Now at this point, there is no edge in determining whether the $SPX will break down and start a new lower trading range, or it will bounce off the previous lows and form some sort of a Bullish double bottom.

If it breaks below the previous lows on good volume, we could see a new lower trader range, the bearish case.

However, if the $SPX bounces off the previous lows, this is bullish. We tested the previous lows twice and succeeded, forming a bullish double bottom.

At this point, we don't necessarily go straight up. The $SPX will mostly take time to consolidate, and eventually settle around 1441 to 1485 trading range. This would be consistent with the congestion that occured earlier at those levels.

After sufficient time, (maybe in the November/December timeframe), the $SPX would break out from this trading range and start challenging the previous all-time highs as part of the seasonal 4th quarter rally.

Today's Chart

1 comment:

Grow Your Funds said...

Thursday sure seemed like capitulation to me. The intraday low followed by a nice rally in the afternoon on heavy volume was good. I think as you say, a re-test seems very likely. It will be very interesting to see what happens on that re-test.