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Russell 2000 Rendezvous With 650 This Year?

08/26/09 08:50:18 AM
by Donald W. Pendergast, Jr.

Sure, daily price action in small-cap stocks can be erratic, even nerve-wracking at times. To get the big picture, however, consider spending some quality time with your Russell 2000 monthly charts.

Security:   .RUT
Position:   Accumulate

Many market analysts have begun labeling the five-and-a-half-month old advance from the bear market bottom as nothing less than record-breaking and miraculous. Whatever sort of colorful nomenclature you choose to tag it with, one thing seems certain: the rally still appears to have legs. Our brief examination of the Russell 2000 (R2K) monthly graph see in Figure 1 reveals various technical clues that confirm that assertion.

FIGURE 1: RUT, MONTHLY. Given the megastrength of the broad market's internals (top of chart), this rally should be assumed to be a high-velocity, high-mass object in motion, not unlike a freight train.
Graphic provided by: MetaStock.
 
Figure 1 shows the monthly graph of the R2K; I've overlaid it with two sets of Keltner bands that appear to work well in identifying consistent support/resistance (S/R) areas. The outer bands are set at 6.18 standard deviations (SDs) from a 45-month exponential moving average (EMA), while the inner bands are set five standard deviations from the same 45-month EMA. These are not magic numbers, by the way; they just resonate well with the typical ebb and flow of this particular index over long periods of time. Visual analysis is the best way to arrive at the best number of SDs to use, unless you are a MetaStock/TradeStation programming giant who loves to spend all evening running tests, backtests, and even more backtests. Anyway, the single most important support/resistance focus in this Keltner array is the center line (the 45-month EMA), as it does a terrific job (on many stocks, indexes, and commodities) of identifying likely S/R areas beforehand. And of course, confirmed breaks of the Keltner centerline is even a bigger deal, as significant follow-through is usually seen.

Right now, the center line is at approximately 688.00 and has also begun to flatten out. Just below that, spanning the range from 645 to 662, the Fibonacci 61.8% retracement of the entire 2007-09 plunge and a very strong area of previous chart support (now acting as resistance) is firmly enmeshed. This could mark the area where this rally will finally meet significant overhead supply and begin to stall out if not actually correct hard to the downside. Bear in mind that the internal strength of the monthly NASDAQ Composite (top of the chart) index remains exceptionally strong; it's actually close to a bullish zero-line crossover and should be given every benefit of the doubt. The entrance of late bulls at this stage of the record-breaking run could very well be the fuel that continues to push the R2K up toward those strong resistance areas, and watching the direction and trend intensity of the internal strength indicator is one of the best ways to confirm if that's actually happening.

One additional indicator to watch here is the detrend oscillator (bottom of the chart). Although it's getting a little high, it's not at the previous extreme witnessed in the wake of the massive 2003 stock market rally. Typically, the detrend will begin to lose steam and start rolling over, even as prices continue to make a fresh nominal high. In time this morphs into a confirmed bearish price-momentum divergence. If we see that begin to manifest near the 640-650 area, it should be a clear warning to tighten stops and or lighten up on long positions.

While no one can really know how far the R2K's massive rally will stretch, major bull runs like this need to be given every benefit of the doubt, especially since the monthly internal strength indicators (advancers/decliners, up volume/down volume, new highs/new lows and rate of change) of all the major indexes are still locked into rock-solid uptrends. And when market internals are healthy, expect the money to keep flowing in, at least for the time being.



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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