McMillan's technical look ahead

Filed under: Indices, Newsletters, S and P 500, DJIA"Several factors came together this week to produce a very nasty decline," notes technical expert Larry McMillan. In his Options Strategist Hotline, the advisor notes, "The over-riding technical factor, in my opinion, was the breaking of the 1535 level on S&P 500." For the technically-savvy he points out, "When both the Dow and $SPX broke out to new all-time highs (was it really only two short weeks ago?), $SPX left behind a well-defined support level at 1535-1540." This past Tuesday, he observes, "When the market started its sharp decline, it was clearly noticeable that selling accelerated greatly as soon as the 1535 level was penetrated on the downside." In his assessment, this suggests a formation known as a "false upside breakout?" And he adds, While this false breakout is bad enough, there is another rule
of thumb associated with such things." He explains, "It is said that if a stock, or an index in this case, stages a false breakout in one direction and then comes back to break out in the opposite direction, then the second breakout is the 'true' one." That, he says, is what has just happened with $SPX. He points out, "The index had traded in the 1490-1540 range for two months, before breaking out on the upside two weeks ago. Two days ago, it fell back into that range, thereby making the upside breakout false. It has now managed to close below 1490, thus breaking out on the downside. While this is not a technical indicator per se, it is a negative development." On the other hand, he notes that breadth oscillators are extremely oversold. He says, "While this means that sharp, but short-lived rallies are possible, it is most definitely not a buy signal." Some of the worst declines, he cautions, occur while conditions are "oversold." Meanwhile, he notes that volatility has continued to rise, with the $VIX spiking up to above 23 today, its highest reading since June 2006 - and then April 2003 before that. He explains, "A spike peak in $VIX would be a buy signal. It hasn't quite qualified for that yet - and often the very first spike peak is not the eventual peak - but a close below 20 by $VIX would qualify as a spike peak buy signal." To summarize, he says, "Technically, the $SPX chart is bearish, having broken out on the downside; breadth is deeply oversold, but not yet on a buy signal; $VIX is potentially about to give a spike peak buy signal; and the equity-only put-call ratios are bearish. This adds up to an intermediate term bearish signal." However, he adds, "Because of the extreme oversold conditions in both $VIX and breadth, sharp but short-lived rallies are possible." Moreover, he notes, we have now seen a second "90% down day" and a deep discount in the near-term $VIX futures. He observes, "Those are both short-term bullish signals." How to reconcile these conflicting signals? McMillan says, "One plausible scenario is that the market rallies enough to satisfy the short term signals and work off the oversold conditions, and then declines to retest today's lows near $SPX 1465." He continues, "If that holds and if the put-call ratios can roll over to buy signals, that might be the end of the decline. If not, a true correction - which historically has been defined as a decline of 10% - might well emerge, taking $SPX down to 1400 or slightly lower." Each day, Steven Halpern's TheStockAdvisors.com features the latest investment ideas and market commentary from the financial newsletter community. Permalink | Email this | Linking Blogs | Comments