Infrequent Swing Pattern

SPX – 1187.44

DJIA – 10,973

“I think the economy is moving towards escape velocity…that we walked back from the brink of depression and that there is a great deal under way that should result in increased job creation.”

-Larry Summers, April 2, 2010 speech in London

The stock market discounts future business conditions, looking ahead about six months give or take a little. It shares its secrets with those who understand its dialect but it’s not the sort of blabbermouth whose daily gyrations spew forth secrets. The idea is to avoid the burden of preconceived notions, taking our signals from the market itself instead of quarrelling with it at every turn. Traders, speculators and traders who profit the most from technical analysis expect the least.

The Market Trend Indicator (MTI) is designed to identify and capture most of the stock market’s moves up or down, the sort that typically last weeks to months, the intermediate-term trend. An 18% exponential average is roughly equivalent to a slightly weighted 10-week moving average. The MTI continues to signal UPTREND until one or more of the three key indexes closes below its respective 18% weekly exponential moving average. This week, the SPX’s 18% average is 1137.90 and the DJIA’s is 10,588. The New York Advance/Decline line is 9,604 net advances above its 18% average.

The MTI’s message is confirmed by the other indicators I track, including net volume, the 21-day rule and 3-day swing chart. Peak net volume readings were set in early March and are still in effect, +42.6 for the NYSE and +44.5 for NASDAQ. The 21-day rule stays on uptrend status until the SPX trades below the low of the prior 21 trading days, a low the jumps to 1134.90 after today. The SPX’s 3-day swing chart is in its seventh swing from the July 2009 low, not stretched or extended but on a count high enough to be alert for a change in trend. The last 3-day swing low is 1044.50, the February 5 low.

The daily swing chart from that February 5 low had nine swings through the March 25 high (1180.68). The pattern since is one I picked up from Jerry Favors nearly 30 years ago, a “sell-the-next-rally” swing chart pattern that seems to work about 80% of the time after nine swings or more. Since volume remains light on the latest breakout and other technical factors already point to this intermediate swing being a little long in the tooth, my plan is to raise trailing stop sell orders even tighter.

Investor psychology seems a bit complacent to me but it’s certainly not a speculative froth, more like a strange, anxiety-ridden brew. Once this rally runs its course, I wouldn’t be surprised at a 1994 or 2004 sort of correction supported by a broadening business expansion prices but restrained by the Fed’s quantitative easing exit and other headwinds. It may play out this way or not; just as no one knows how far a rally will carry and how long it will last, the same holds true for declines.

The S&P 500 (SPX) rose 4.9% in the first quarter. From Bespoke Investment Group, the next table reflects first quarter stock performance in other countries.

Other G7 Nations BRIC

Japan               + 7.5%                                    Brazil               + 5.2%

Germany         + 8.1%                                      Russia             + 9.1%

Great Britain    + 6.1%                                    India                + 5.4%

France             + 5.9%                                      China               + 3.2%

Italy                 + 5.4%

Canada            + 3.8%

There’s little change in sector or group action, other than a rebound energy-related issues following the breakout by crude oil prices. California gasoline sales fell for the fourth consecutive year in 2009, off 1.5% to 14.8 billion gallons and down from a peak of 15.9 billion gallons in 2005, so perhaps the trough is passed or perhaps the market doesn’t expect the Chinese to give up cars and ride bicycles once again. The best performing groups in the consumer discretionary sector are hinting that momentum could return but I suspect it’s more of a late gasp than the start of an extended run from here.

Long-term (30-year) government bond prices sliced under an important rising trendline. Using TLT (Barclays 20-yr.+ Treasury ETF) as a proxy, note how the June 2009 was broken slightly on high volume yesterday. I think a test of the June 2007 lows (82.20) is underway. I would add to short positions and lower trailing stops from just above the February 5 high (92.42) to just above the March 18 high (91.98).

The U.S. Dollar index remains in an uptrend, but note how the pattern has taken on a more ominous wedge pattern. Gold broke out of a triangle but I want to see confirmation from a little more strength on the continuous contract before adding to positions and raising stop orders, under the February 5 low for recent purchases ($1058 2^nd London fix) and under $989.50 2^nd London fix for longer held positions).

Harmonic Preview:

(High Probability SPX Turning Point or Acceleration Days)

April 8             (Wednesday)

April 16           (Friday)

*An asterisk denotes a dynamic SPX price square in time; different factors account for the other dates.

I’ll close with my Market ID (internal dynamics) chart, it’s made from eight technical gauges, none of which is price but heavily influenced by advances and declines (A/D line up eight weeks in a row) and volume (lagging) as well as other breadth indicators. It’s not the sort of pattern seen at bull market peaks.

Conclusion:

Based on the daily swing chart pattern (draw it out if you want to add this to your repertoire) and aging intermediate-term advance, I think it makes sense to raise trailing stop sell orders to a tighter than normal level for intermediate-term speculators. For ETFs tied to both the SPX and Nasdaq 100 (NDX), I recommend a stop sell levels 1% under the 20-day moving average or 1150.00 as of today for the SPX and 1920.84 for the NDX. When the trend reverses, and given the contrary nature of group rotation, I plan to short the strongest areas not the weakest; those would be ETFs tied to small cap indexes.

The information contained herein is based on sources that William Gibson deems to be reliable but is neither all-inclusive nor guaranteed for accuracy by Mr. Gibson and may be incomplete or condensed. The information and its opinions are subject to change without notice and are for general information only. Past performance is not a guide or guarantee of future performance. The information contained in this report may not be published, broadcast, rewritten or otherwise distributed without consent from William Gibson.