S&P Just Gave Back December's Gain Now What?

Two weeks ago we warned that the S&P 500 – and especially the futures contract, ES – was going down. In fact we even said where it would go.

We wrote then:
… we are now calling for a decline this month, especially in the segment that interests us, the S&P500 mini-futures, current symbol ESH4. …we see a real possibility the ESH4 may revisit the December lows around 1774.00 before January is out.

And that’s pretty much what happened. The futures closed at 1775 yesterday (Monday Jan. 27), giving back – in the space of two weeks – most of the gains made in December.

So what comes next?

These are scary days for the bulls. Those greater fools who bought the dips around the bottom of the congestion area (the yellow band on the chart) are seriously under water now.

And we have the first meeting of the Federal Reserve Open Market Committee with the new chair, Janet Yellen taking place Tuesday and Wednesday.

We think the Fed will not – cannot – withdraw Quantitative Easing, despite the talk of “tapering off.” At the first sign QE might actually be reduced the market has swooned – and will swoon more if the Fed sticks to its promises.

So we expect the “taper” will remain nominally intact, accompanied by some kind of market-calming statement/news, and followed by some new –and probably surreptitious – form of QE-by-another-name.

The price action we expect to see is a bounce from around this level to about 1810-1825 or lower 1800 to form a head-and-shoulder pattern, and we are looking to short that shoulder. The shoulder may well be the best chance for the gasping long-side investors to bail out. We think they will take it, and drive the price back down from that level.

If the right shoulder is the lower level, the price is likely to fall further.

Note that while we are short-term bears – our strategy at this point is to sell the bounces – for the longer term we remain bullish. However a break below the December low, 1754, will shake our confidence and force a reassessment.

Chart: S&P500 mini futures (ESH4) as of Jan. 27, 2014.