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CHART ANALYSIS


Broad Markets Still Looking Healthy

08/06/09 12:02:33 PM
by Donald W. Pendergast, Jr.

It's been nearly four weeks since the broader market indexes reversed higher near their anticipated weekly cycle lows, but do these markets have enough staying power to keep the bull trend intact through the end of the summer?

Security:   .RUT, .NDX, .SPX
Position:   Accumulate

As reported a few weeks in advance of the actual reversal, all of the major US stock indexes (.RUT, .NDX, .SPX) were anticipated to put in significant weekly cycle lows before the end of July 2009. The actual turn was a couple of weeks early (based on average weekly cycle lengths), but who cares -- the main thing is that the stunning reversal of March 6-9, 2009 (also a weekly cycle low), was rewarded with a powerful period of follow-through, the fruits of which we are all (hopefully) enjoying right about now. Indeed, the dramatic increases in all of the indexes over the past five months has been nothing short of historic, causing many traders and investors to wonder just how long this party can last. Using the weekly chart of the Russell 2000 index, we'll see if we can come to a rational conclusion regarding the path of least resistance for the US stock market.

FIGURE 1: RUT, WEEKLY. The Russell 2000 index may reach its next weekly cycle high by early to late September 2009, possibly gaining as many as 60 points by that time. Track this weekly index chart to see how accurate these estimates are.
Graphic provided by: MetaStock.
 
In Figure 1, from the prior weekly cycle low in March 2009, it took the .RUT 13 weeks to peak out at a cycle high, after which it descended toward the 475.00 area, forming yet another weekly cycle low. Note the blue line that connects both swing lows, forming a very solid, bullish trendline, one that projects upward at a fairly high (and easily sustainable) angle of attack. Prices have launched higher out of the early July cycle low, and the big question now is this: "How long until we can expect the broad markets to peak and roll over once again?"

One way to find an answer to this question is to determine how many points the index gained during the first complete weekly cycle and then use Fibonacci ratios to estimate conservative time/price zones where the market may reasonably be expected to hit resistance before turning south. In this case, we find that the .RUT gained an astounding 193 points from early March to early June, a run that took 13 weeks to complete. Armed with that information, we now determine the low price of the most recent weekly cycle low (473.54) and multiply 193 by whatever Fibonacci ratios will produce a number, which, when added to the latest weekly cycle low, will determine a potential reversal point on the index chart. For example, 193 * 62% = 119 points, so we simply add that product to 473.54 (the recent weekly cycle low) to obtain an index value of 592.98. That's about 5% above today's closing price of 565.99, and could be an area to expect some turbulence/resistance.

Going a little further, if we plug in the Fibonacci 79% ratio into the same equation, we arrive at an index value of 625.45, about 10.5% higher than today's close. You'll also note that I calculated an approximate time period for the cycle top to appear; since the first cycle high of the March-June swing took 13 weeks, if we multiply 13 weeks * 62%, we arrive at a figure of about eight weeks, which would be approximately September 4, 2009. Using the Fibonacci 79% ratio in the same equation, we arrive at a figure of about 10.25 weeks or approximately September 21, 2009.

Now, while all of this sounds like little more than numerology or "magic numbers"-type card tricks, bear in mind that the stock and commodity markets do exhibit many repetitive patterns that revolve around both price- and time-based components. Some of this may in fact be because of self-fulfilling prophecies (that is, when everyone believes something to be true, even if the belief has no rational, provable scientific or experiential basis). But others, like myself, tend to believe there is some sort of higher-dimension ordering of the events and activities that take place on this planet, including those in the stock and commodity markets, and that at least some of that ordering is, to some extent, actually hard-wired into the entire structure of the financial, social, and spiritual dimensions that affect our everyday lives.

Be that as it may, given the strong cyclical and trend action in the broad US markets, it might pay to err on the high side of these time/price turning point estimates; in other words, look for the cycle high to manifest in the latter half of September, at a price level approaching 625.00. The internal strength indicator from the .NDX (top of the chart) is showing phenomenal strength and trend characteristics that have not been witnessed since late 2004, so this bull run in the broad markets should be given every benefit of the doubt.



FIGURE 2: FSAVX. The Fidelity Select Sector Automotive Fund is still outperforming the rest of the pack by a wide margin.
Graphic provided by: MetaStock.
 
By the way, the strongest industry group in the US stock market (as reflected by the medium- and long-term performance rankings of the Fidelity Select Sector mutual fund complex, as shown in Figure 2) is the automotive-related industry group, represented by the Fidelity Select Automotive fund (FSAVX). I suppose that the current US "cash for clunkers" program may also be a good way to help put "cash into your trading account" if you play the stocks in this group on the long side, looking to buy retracement moves as this historic bull market rally grinds higher.

So why use the 62% and 79% ratios for this time/price estimate, anyway? Why not use a straight 1.00 to 1.00 ratio? Why not begin with ratios smaller than 62%? Well, you could start out with the 23%, 38%, and 50% ratios first, assuming the market in question had not already exceeded the price levels produced by such calculations. All of those levels had already been invalidated, due to such strong price action in this particular index, which is why I started with the 62% ratio. Use whatever ratio that will produce a product that exceeds the current price of the index and then work from there.

If the index keeps going, in this case, rising above 625.00, you could always plug the 1.00 Fibonacci ratio into the equation to give the next probable cycle high or timing turn estimate. Trading isn't about seeking perfection. It's about playing the probabilities in such a way that you enhance your chances of winning, even as you minimize the damage caused by the inevitable losing streaks that appear.



Donald W. Pendergast, Jr.

Donald W. Pendergast is a financial markets consultant who offers specialized services to stock brokers and high net worth individuals who seek a better bottom line for their portfolios.

Title: Writer, market consultant
Company: Linear Trading Systems LLC
Jacksonville, FL 32217
Phone # for sales: 904-239-9564
E-mail address: lineartradingsys@gmail.com

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Date: 08/07/09Rank: 3Comment: 
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