Sell Off!

Since the end of January our focus has been on the weekly TDST Support line value of 1069.30. This was broken in yesterday’s big decline after we failed at the 38.2% retracement level. As stated on January 31 “A close of the weekly chart below 1069.30 would add to the case that the monthly sell setup is leading to a tradable short position.” If we can close below that level today we will have a tradable sell signal at hand.

And speaking of today …. The jobs report will be a big driver of what happens.

There is a Bounce - How High Should We Expect it to Go?

Today’s chart is the updated daily. Notice that since TD Setup bar #9 was reached I have added the resistance line (horizontal dashed red line at the recent high) and the TD Combo count (in red). We have not met the criterion for our first TD Sequential day.

On Tuesday we concluded that any move up here is likely to be just a correction or consolidation. After that conclusion is reached it is a good idea to calculate likely targets for the anticipated bounce. To do so I have added Fibonacci retracement levels to the chart (horizontal blue lines showing the 38.2, 50, and 61.8 percent levels) as well as the TD Trend Factor target (the horizontal purple line at the 1131 level). With these levels calculated I then look for clusters between them and the moving averages. Therefore, when viewed from the close of setup bar #9, the targets were 1111-1113 and 1119-1120.

As we enter today‘s trading we have not met either target but did reach the first Fibonacci retracement level. When this occurs we want to see if the break was ‘qualified’. There are three different qualification scenarios. The first requires that the price bar immediately before the breakout close down (since we are breaking upwards) and was not met. The second option is for the market to open above the fib line and was again not met. The final option requires a bit of calculation. Subtract the difference between the previous day’s closing price and that same day’s true low. Then add that difference to the previous day’s closing price and compare to the fib level. If the final value is below the fib level then the break is qualified.

In our case the day of interest is February first since the break of the fib level occurred on the second. Now, subtract the difference between the closing price (1089.19) and that same day’s true low (1073.87; the close on Jan. 29 since it is lower than the low of Feb. 1). That difference (15.32) is added to the closing price (1089.19) and yields 1104.51. This final value is above the Fib level (just under 1102) and so the break is *not* qualified. And note that there was no follow-through the next day.

Does the lack of a qualified break mean the correction is over? Not necessarily. What we can say, based on the slope of the short moving average (in red on the chart), is that beginning today the target areas are 1101-1102 and 1118-1120. We will have to watch to see whether the market can make a qualified break of that same fib line.

As far as trading goes, the weekly support line at 1069.30 is still the critical area to watch.

Daily Chart Developments

We have now reached TD Setup bar #9 on the daily (see attached chart). It is a perfected ‘buy’ setup. Remember that after a perfected setup has occurred the market ‘usually’ experiences a trend reversal, correction, or consolidation within four price bars of bar #9. If one were to buy the daily chart it would be in anticipation of a reversal. The system advocated here does not look to trade corrections or consolidations. We have to figure out whether a reversal is likely. To start ... Does the next higher time frame support buying this market?

As you know the weekly chart recently completed a perfected sell setup which did not lead to a trade. This means that the weekly does support a possible buy here on the daily. The weekly seems to be telling us that we may be getting a reversal on the daily chart and we need to look more closely.

Momentum (as measured by the RSI; top pane) is imparting two bits of information. The first is that the trend is down. This is seen by the fact that the RSI has fallen below 38. This does not happen in bull markets and is the reason for the two horizontal blue lines on the RSI chart. These two lines indicate bull market support. Next, note that the RSI made a new low the other day while the Composite Index (second pane) did not. This is an indication that at least a correction or consolidation is in the offing - but it will be within the context of a downtrend. But what if what we are seeing is the end of the downtrend on the daily chart? That is, the daily chart has been in a downtrend since January 19 and the trend indicator (orange lines) have shown that this is a downtrend. So perhaps this downtrend is now ending? To answer that question we turn to the REI (third pane). It is not below .45 and so will not let us make a trade here. In fact, it recently was below .45 for six periods. This indicates that an oversold bounce is in the cards and not a trend reversal.

Bottom Line: Any move up here on the daily chart is likely just a correction or consolidation.

Weekly Chart Update

To summarize the ideas presented from the DeMark studies, we are looking for opportunities to trade based on signals that roll from higher to lower timeframes. Since the beginning of the year we have been focused on a perfected sell setup forming on the monthly chart. On the next lower timeframe we saw a perfected sell setup also occur; but that trade was not taken because of the technical indicator filters used. Keep in mind that after a perfected setup has occurred the market ‘usually’ experiences a trend reversal, correction, or consolidation within four price bars of bar #9. In my methodology if one were to short the market it would be in anticipation of a reversal - not a correction or consolidation. So how do you know which will occur after a setup? You don’t know with any certainty, and that is the reason for the indicator filters.

Another good indicator (and filter) of a trend reversal is the break of a support or resistance level. Note in the weekly chart (attached) that since the rally started last March the support levels (horizontal dashed green lines) have always held. In fact they have never even been seriously challenged; but that is changing. A close of the weekly chart below 1069.30 would add to the case that the monthly sell setup is leading to a tradeable short position. Let’s watch to see if that happens.