The Week in Crayons

One of the keys to watch for during this week was how the markets would react to the push we had last week up to our 2012 highs in many of the broad market indexes. Would we blast through resistance? Would supply overwhelm demand as we formed a new top? As it turns out, we got a bit of a mixed bag as we failed in our attempt to follow through higher yet still found a strong bid supporting us as we rebounded strongly to close the week. As I mentioned last week, we are currently at a point of inflection in the markets, and while its likely that the market is currently concluding the phase of consolidation that has characterized most of the summer, we still do not have conclusive evidence as to what our new phase will be. Because of the strong bid that has supported us throughout the summer, odds are that we are getting ready to break out, but until we have a clear signal that that has happened, the proper posture for traders to take is one of caution and limited participation to safeguard against the possibility of a market top.

Looking at a chart of the SPDRs S&P 500 etf (SPY) we can see that we have basically had two distinct phases of market behavior for the large majority of this year. Both phases are clearly divided by one trend line, the neck line from the head and shoulders pattern (the first phase) we formed as our rally to begin the year tired out. The next phase would be the broad consolidation we appear to be emerging from as buyers and sellers took turns pushing each other up and down the broad channel we spent most of the summer in.

August has seen us reclaim that neckline along with a strong decrease in volatility pointing to a change in character from the violent surges we saw throughout the second phase as buyers and sellers disagreed wildly on the value of equities. We have now pushed through most of the supply created from the head and shoulders pattern and have found support at the convergence of the widely followed 20 period moving average with the trend line that acted as the “floor” throughout that first phase. However, momentum is clearly waning seen in the downturn on the Stochastics indicator as well as the red candles that have begun to appear on the Stockguy22 Momo Trend Bars as we face the last area of supply that buyers need to absorb before we can head higher. Because of the fact that price is wedged into a somewhat narrow area between our recent highs and the rising trend line that is currently supporting it, we will likely get some clarity in the next couple of weeks as something will have to give. Obviously, the longer we can hold above our rising averages or trend line, the more bullish things will be while a failure at these levels will force us to take a step back and reevaluate the situation to see if we are just prolonging our consolidation or resuming a larger scale topping process.

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