Reasons to be Cautious

Since we have finished up a week it is time to look at the weekly chart. Today I want to talk about the RSI as compared to price.

Note the points where the RSI lows are marked with “bulls”. These points signify positive divergence between price and the RSI indicator. The first such point is on the week of 10/24/2008. The cash S&P500 rallied for two weeks to a high of 1007.51 but fell short of the previous swing high of 1044.31 on 10/17/2008.

The next RSI positive divergence occurred on the week of 11/21/2008. It was followed by a seven week rally to 943.85; but this was still short of the previous swing high of 1007.51. The key point: Positive divergences fail during bear markets.

Now let’s take a look at the RSI high on 1/2/2009. This point is marked with a bear because it denotes a negative reversal. The RSI is higher on 1/2/2009 than 10/31/2008 although prices are lower. The calculated minimum target for this reversal is 800.03 -(968.75 - 931.8) = 763.08. This price was hit the week of 2/20/2009 on our way to the 666.79 low of March 6, 2009. The key point: Negative reversals succeed during bear markets.

Now then. The March 6 low marks another positive divergence; and what a rally we have had! But look at the previous swing high: 943.85. We are still nowhere near that level. Lastly, look what happens if this rally fails and the RSI dare turn down from here. We will get another negative reversal. There are three, in fact, as shown by the dashed blue lines. The three calculated *minimum* targets work out as: 630.72, 567.52 and 244.24. These are not pretty.

Since I believe that a high was just made on the daily chart I would have very tight stops here if I were a bull. If one had a bearish view (which I do) then I would look to take action on a move below the last swing low of 791.37.