|The lower panel of Figure 1 shows the daily price bars of Home Depot (HD). This figure shows the 200-day linear regression trendline (solid blue line) along with the upper one sigma channel line (red dotted line), the upper two sigma channel line (red solid line), the lower one sigma channel (green dotted line), the lower two sigma channel line (solid green line), and the lower three sigma channel line (dashed green line). Besides their statistical importance, the red channel lines represent resistance lines and the green channel lines support.|
|FIGURE 1: HD, DAILY. This chart shows the daily price chart of Home Depot (HD), in the lower panel along with its 200-day linear regression trendline and its channel lines. The top panel shows the linear regression slope indicator followed by the R-squared indicator in the next lower panel.|
|Graphic provided by: MetaStock.|
|Figure 1 shows the linear regression trendline along with its upper and lower channel lines sloping down, indicating that HD is in a primary bear market. This primary bear market trend is also evident from the linear regression slope indicator in the top panel having crossed below its zero line and the R-squared indicator in the next lower panel having crossed above its critical level.|
Note in the bottom panel that price moved down to its lower three sigma channel line in mid-August where it found support. Since that time, price has regressed back to its linear regression trendline. This is typical behavior. Once price moves significantly away from its linear regression trendline, it will often move back toward, or regress back to, its linear regression trendline (hence the name). In a strong downtrend, once price regresses back to its trendline, it is expected that price will turn back down and continue its downtrend. However, in a newly established downtrend, which is the case with HD, price may actually move up to the upper one sigma channel line before turning back downward. This is because newly established bear market trends have not gained sufficient bearish strength to turn back down at or before moving back to its linear regression trendline.
The linear regression slope indicator in the top panel measures the direction of the trend and its price acceleration, or momentum. When this indicator is above its zero line, it indicates that the trend is in the upward direction and when below it indicates that the trend is down. Further, when the trend is above its zero line and moving higher, it indicates that price momentum is increasing and when the trend is below its zero line and moving downward, it indicates that price momentum is increasing in the downward direction. Note in the top panel that the linear regression slope indicator is below its zero line and moving downward. This is an indication that the primary trend is bearish and price momentum continues to increase in the downward direction. As long as price momentum continues to increase in the downward direction, price should continue to move lower.
The R-squared indicator in the next lower panel measures the confidence of the trend as well as its strength. When this indicator is above its critical level, it indicates that there is a 95% confidence level that the trend will continue. Further, as long as this indicator continues to move upward, it indicates that the trend is continuing to strengthen. Note that the R-squared indicator is currently above its critical level and moving higher. This is an indication there is a 95% confidence level the primary bear market will continue and that it is continuing to become stronger.
|In a primary bear market trend, any upward rally is to be considered a countertrend moving against the main trend. Such rallies are corrective in nature and do not normally rally above the beginning of the main trend. Since price has now regressed back to its linear regression line, and knowing that it should now be ready to turn back down, we want to look at a shorter time frame to get a closer look at when price might actually turn back down. To accomplish this, we look at the 20-day time frame shown in Figure 2.|
|FIGURE 2: HD, DAILY. This chart shows the daily price chart of Home Depot in the lower panel along with its 20-day linear regression trendline and its channel lines. The top panel shows the linear regression slope indicator followed by the R-squared indicator in the next lower panel.|
|Graphic provided by: MetaStock.|
|Figure 2 shows the upward rally taking place since early August with the 20-day linear regression trendline and its upper and lower channel lines sloping in the upward direction. Note in the top panel of Figure 2 that the linear regression slope indicator peaked in early September and has been moving downward since. This peak represents the end of the period of price acceleration (momentum) and the beginning of price deceleration. Note that price deceleration occurs near the end of a trend. During this period, price may continue to move higher, making higher highs, while at the same time the rate at which price is moving upward is slower than it was 20 days ago. This period is also known as a divergence.|
The middle panel of Figure 2 shows the R-squared indicator. Note that this indicator is now below its critical level. This indicates there is no longer a 95% confidence level that the upward rally will continue and is vulnerable to a reversal.
I have also added a red horizontal resistance line in Figure 2. This horizontal line makes it easy to see that price has made a new higher high.
The stage is now set for a reversal. Price has made a higher high, price is decelerating, and there is no high level of confidence that the upward rally will continue. All that needs to occur now is for price to turn down.
|In conclusion, long-term statistical analysis shows that Home Depot is in a primary bear market trend. The analysis also shows that price is moving upward in a countertrend or corrective rally. The shorter-term statistical analysis shows the stage now set for HD to reverse back to the downside. All we need to signal that price has resumed its downward trend is for the 20-day linear regression slope indicator to move back below its zero line and for the R-squared indicator to move back above its critical level.|
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