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WEDGE FORMATIONS


Rising Consolidations Haunt S&P 500 Equal Weight Index

04/28/05 07:50:44 AM
by Arthur Hill

After a significant support break in mid-April, the Rydex Equal Weight S&P 500 (RSP) countered with a rising consolidation that looks bearish.

Security:   RSP
Position:   Sell

The Standard & Poor's 500 is a market capitalization weighted index. This means that the stocks with the largest market capitalization carry the most weight. Companies like General Electric (GE), Exxon Mobile (XOM), Microsoft (MSFT), and Johnson & Johnson (JNJ) carry the most weight. In fact, the top 10 components make up around 20% of the index.

In contrast to S&P 500, the Rydex Equal Weight S&P 500 index (RSP) treats each component the same regardless of market capitalization. This means that General Electric (with a $384 billion market cap) carries as much influence as Teco Energy (TE)(with $3.4 billion market cap). This equal weighting makes RSP a good index to judge the "average" stock.

Figure 1: Rydex. Looking at the price chart, the index broke key support at $148 with a sharp decline in mid-April.
Graphic provided by: MetaStock.
Graphic provided by: Reuters Data.
 
Looking at the price chart, the index broke key support at $148 with a sharp decline in mid April. The support break got a quick challenge as RSP quickly moved back above $148, but the advance looks like a rising wedge. These are typically bearish consolidations. Note that the index formed a rising wedge at the end of March, and this preceded the mid-April breakdown.

A move below the lower wedge trendline would be negative and further weakness below the April 27th low would open the door to a support test around $137 (September-October lows). Should the index hold, I would look for further strength above $151 before starting to think bull. There is a lot of support on either side of $150, and this turns into resistance. Therefore, I would not be impressed unless the index can exceed this resistance zone. A move above $151 would break the resistance zone and the blue trendline extending down from early March. Then, and only then, should the bulls get excited.



Arthur Hill

Arthur Hill is currently editor of TDTrader.com, a website specializing in trading strategies, sector/industry specific breadth stats and overall technical analysis. He passed the Society of Technical Analysts (STA London) diploma exam with distinction is a Certified Financial Technician (CFTe). Prior to TD Trader, he was the Chief Technical Analyst for Stockcharts.com and the main contributor to the ChartSchool.

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Date: 04/28/05Rank: 4Comment: 
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