Market Direction Finally Gets A Bounce

After one of the worst trading sessions since 1974, the S&P 500 finally got a decent bounce today. Market direction has been decidedly down since May 2. Today marked the first strong bounce in the S&P 500 since then. All it took was extreme oversold readings, a rise in the VIX index and some assurances out of Germany. Meanwhile overall the S&P 500 remains in serious trouble but this bounce could last a day or two longer and stay positive for market direction before the next leg down. Let’s look at the past 6 months market direction for the S&P 500 index.

Market Direction 6 Month Chart

In the S&P 500 market direction chart below you can see the formation of a possible double top in the index. The second top is created a lower high as well as a lower low in the S&p 500. The most recent selling has removed 8.7% from the S&P 500 since the most recent high to Friday’s close. This marks the first serious correction in the bull rally that started in November 2011.

This correction has broken the 50, 100 and 200 day moving averages. Today’s bounce back up in market direction pushed the S&P 500 up to the 200 day moving average.

Market Direction 6 month chart

Market Direction Chart for Nov 2011 to May 2012

What investors should be looking for from here is a few days of bouncing higher and then a third lower high being put in place as the market direction reverts back down. This will mark the second leg down in this correction and it will at the least, retest the 200 day moving average. However I am expecting the next leg down will easily fall below the 200 day moving average.

Market Direction / Market Timing Technical Indicators

At the close of the market today below are the market timing technical indicators. While today’s move higher did has an impact in turning many of the indicators up slightly, overall the market timing sentiment remains lower.

Momentum is still negative and MACD (Moving Average Convergence / Divergence) is so far not supporting this rally. That doesn’t mean the rally won’t continue for a few more sessions. Instead what it means is this is just a bounce up in market direction before more selling enters the market.

The Ultimate Oscillator remains oversold which is a good sign that the market could bounce for a few more sessions yet.

The rate of change is still negative, but the two most important indicators at the close of the market today were the slow stochastic and fast stochastic.

Both of these indicators are flashing “bounce continue”. The market direction should definitely continue higher for a couple more sessions. However the break of the 200 day moving average is a significant event and the first break of the 200 day since last fall.

Market Timing indicators show that the market direction is back up but only for a few days

Market Timing indicators show that the market direction is back up but only for a few days

Market Timing and the 200 Day EMA

When it comes to moving averages, the testing of the 200 day is a significant event as any break of the 200 day will see the market test it at least one more time. That means that today’s rally should continue for one to two more trading sessions before selling returns to test once more the 200 day moving average.

If the 200 day moving average holds in the re-test then selling may slow in the market or even dry up. Personally I am not expecting the 200 day will be able to hold when the re-testing of that moving average occurs shortly.

Market Direction Summary

This move up is an excellent opportunity to put together a list of favorite stocks for put selling as well as selling covered calls. Then when the market turns back down, I will be in a great position to sell naked puts and I can consider buying to close any covered calls I have sold. By staying with a rotating covered calls strategy where on every bounce I sell covered calls and then every resumption of market direction lower I buy them back to lock in my profit I can continue to profit in this volatile market and build up more protection for the next leg down in market direction.

  • Alicejens59

    What is the reason for thinking there is a retest of the 200 day moving average coming after this bounce? Does this mean this is a dead cat bounce?

  • A lot of my market timing comes from experience. When the 200 day moving average is broken it is rare when the market simply keeps falling. In most instances the 200 day will be revisited or retested a number of times. For example, in the past 3 trading sessions the 200 day has been retested a number of times. Until there is a decisive break of the 200 day the market might just turn back up from here. Doubtful at this stage if it can go very high, but for a few days at least the market could stay at or above the 200 day moving average.