Crosscurrents In The S&P 500

03/31/05 11:42:43 AM

by David Penn

Is it "down for the upstroke" time for the S&P 500?

Security: $SPX
Position: N/A

Recently, Jim Cramer of the Real Money radio program remarked to his listeners that the market was difficult for many to understand, in large part because of the many "crosscurrents" that seemed to be pulling the market in different ways. As a market fundamentalist, Cramer was referring to the crosscurrents of Federal Reserve monetary policy, earnings season, end-of-month "window dressing," and a number of other fundamental financial issues.

For better or worse, the market technician finds him- or herself no less buffeted by crosscurrents. On the one hand, there is the bull market from 2002 through 2004. On the other, there is the bear(ish) market of the first three months of 2005. On the one hand, there is the intact trendline that extends from the August 2004 lows well into March 2005. On the other, there is a trendline from the top in early March that was only recently broken by a bounce on the penultimate day of the month.

Figure 1: SPX. A one-day negative stochastic divergence on Wednesday the 30th may set up the pullback that will confirm and extend that day's rally--which itself was anticipated by a stochastic divergence.

Graphic provided by: Prophet Financial, Inc.

Do those currents cross enough for ya? Looking within the downtrend of March, there is another set of bullish/bearish crosscurrents. Consider the 30-minute chart of the Standard & Poor's 500 in Figure 1. (For a few days last year, we actually referred to them as "demiheure" charts here in the office! No Francophobes here). Over the past week, the S&P 500 has produced a positive stochastic divergence between the lower price lows on Wednesday, March 23, and very late on Tuesday, March 29, and their corresponding higher stochastic lows.

This positive stochastic divergence is probably what sparked the near 13-point rally on Wednesday, March 30. Unfortunately, I did not anticipate it--in large part because I was more focused on the possibility of a positive divergence between the Tuesday low and either of the two previous lows on Monday and the previous Thursday. Now, it is clear that those two previous lows were not especially significant compared to the ones that ultimately formed the positive divergence.

So, we have a bullish current in this time frame--a current that may or may not have run its course. However, there also appears to be a bearish current as well. This current also comes in the form of a stochastic divergence, this time a negative one at the top of the S&P 500's Wednesday the 30th rally.

While this negative stochastic divergence is not entirely complete, it is hard to doubt that the market is quite close to completing it. Here, note the consecutively higher highs in the S&P 500 on March 30 and the corresponding lower highs in the 7,10 stochastic. Insofar as this is a one-day divergence, there's less of a chance that this particular divergence will be the spur for a major move back to the downside. But what would be perfectly reasonable from a divergence of this size would be for the divergence to anticipate a pullback, a pullback that might presage the rally suggested by the longer-term positive stochastic divergence from Wednesday to Wednesday.

Given the size of the base that formed over that "Wednesday to Wednesday" time frame--a base that is about 12 points from top to bottom--a rally into the 1191 area shouldn't surprise traders. Not only would a rally to this level take back most of the losses from the sharp decline into the close of trading on Tuesday the 22nd, but also a minimum upside to 1191 could be the start of what some traders have spotted as a head and shoulders top developing in the daily charts of the S&P 500.

In some ways, that's getting a little ahead of the game. But it does represent still another crosscurrent--a negative divergence leading to a rally leading to a head and shoulders top leading to a breakdown--that market technicians will be rowing against before the question of market direction is resolved, one way or the other.

David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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Crosscurrents In The S&P 500

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