Tuesday, October 01, 2013

One More "The Status Quo Is Saved" Rally and Then...?

We can anticipate another rally once the political charade plays out, but what happens after that?

We can safely predict the inevitable budget-debt ceiling deal will spark yet another "the Status Quo is saved" rally in the stock market. But what happens after that?

Here is a three-year chart of the S&P 500 (SPX). The potential for another spike higher is reflected in the rising stochastics.

But overall, the chart is showing weakness and the potential for a serious decline.The negatives include:

1. A number of indicators (MACD and relative strength) are negatively divergent, i.e. they are declining as price moves higher

2. The 20-week moving average (MA) is stretched above the 50-week MA (i.e. the market has reached a point where the 20-week tends to converge with the 50-week MA)

3. The upper Bollinger band is flattening, showing loss of momentum.

Some similarities with 2011 are discernable. In 2011, a multi-month topping process traced out a classic head-and-shoulders pattern. This year, the chart has a similar structure of divergence, with a potential double top in play or even a spike higher to a nominal new high in the the 1750-1775 area--a target that some technical analysts have forecast for quite some time.

Regardless of whether the market double-tops or hits new nominal highs, the set-up for an extended decline is already in place technically. All this can change, of course; negative divergences can reverse, and a new uptrend can push indicators into bullish territory. But until that happens, the bearish indicators bear watching.

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