The magnitude and speed of the recovery in stocks off their October lows caught most of us by surprise, me included. That’s certainly a sign of strong demand, and the cyclical bull market has been affirmed by higher highs in the major stock indices. Further, we’re in the seasonally strong November-January period, which contributes to a bullish backdrop.
But looking out beyond that time frame, the stock market is due for a breather after what will likely prove to be a stellar year of performance in 2014. The indicator at the bottom of the weekly chart of the S&P 500 E-mini futures contract is a fast and slow average of the 14-week relative strength index.
As you can see, these averages have been declining since the end of 2013 and start of this year, after reaching overbought conditions that warned a point of buyer exhaustion was approaching.
Momentum generally leads price, sometimes by many months and even years. That can make it easy to be lulled into ignoring the weakening technical condition and following the herd; this works for the bulk of an uptrend, but one or two bad trades can wipe out all you’ve worked for if you don’t step aside soon enough.
