There are four keys to the current bull market kingdom. The first key is Fed policy. The second is interest rates (a derivative of Fed policy assuming the Fed does not lose control of the bond market). The third is earnings (currently threatened by labor shortages, supply chain and transportation problems, inflation, and a potential economic contraction). The fourth and final key is global stability (currently threatened by Chinese military incursions into Taiwan).
The pressure is off the Fed to taper and/or raise rates due to the current stock market correction and economic contraction. But a disturbing, intermediate reversal pattern continues to develop on the 10-year treasury rate chart, and we need to monitor this pattern carefully. The developing pattern could reflect higher inflation expectations and portend a return to 2018 interest rate levels (double what rates are now).
Both inflation and China remain wildcards. As to earnings, strap in as third-quarter earnings – AND FORWARD GUIDANCE – are about to get underway. At least with September’s reversal of August’s stock market gains, the frosting is off the cake, and that is likely a good thing for the short term.
We successfully retested the September 20th low on Friday on short-term fear extremes. Thus the probabilities favor the 80-day cycle low is in place. Also, we were bumping up against the Navigator Algo buy trigger line at Friday’s close, and I will notify readers if it triggers today.
Amazingly, and as deep as the correction went Thursday night, market makers brought the market all the way back to the Weekly Expected Move low by Friday’s close. It is always important to monitor the expected move high and low each week. Knowing the level allowed me to ride a nice trade into the close from the depths of the early morning lows. I honestly expected the trade to fail, but that is why our algorithms are more important than my opinions.
All references to the stock market below use the S&P 500 index futures as the proxy.
The Monthly Chart
On the monthly Emini chart, September’s candlestick was a bear outside down bar closing near its low and below the August low. This is bearish, but the bull trend is strong. Traders will typically buy the first intermediate pullback and retest the high before resuming two to three months of sideways to down trading. The bar after an outside bar typically has a lot of overlap with the outside bar, so we do expect October’s price action to invade September’s candle to some extent, perhaps even retesting the September high. The probabilities do not favor new highs.
The Weekly Chart
The stock market has been in a small pullback bull trend for more than 60 bars (weeks) which is unusual, unsustainable, and climactic. But traders know that most reversal attempts in a strong bull trend are minor. That means they become either bull flags or the start of a trading range. Since this rally has been so extreme, a trading range for ten or more weeks is likely underway which should end in late November on the next major cycle low. Even if there is a marginal, new, all-time high in the next few months, traders should not expect a resumption of the bull trend until at least December.
Friday’s Action
Friday had a big bull body after breaking below the September 20th low. The bulls hope this 2nd reversal up from the 89-day EMA line will resumption the bull trend. They see this as a lower low, double bottom with the September 20 low.
But Friday had a big tail on top, and the September 23rd high is still a credible lower high trend reversal. It could also be the right shoulder of a head and shoulders top. Today, traders will be deciding if the 89-day line and support are more important than the 50-day line and resistance. As mentioned above, even on the daily chart, It is typical for a market to enter a trading range once it has a big reversal down from a buy climax.
Always remember that big up and down bars reflect directional confusion. It is that very confusion that typically results in a trading range. On close examination, the daily chart has essentially been consolidating since July. Traders are deciding if the September selloff is just a bear-leg in the trading range or the start of a bear trend.
A bear trend has a series of lower highs and lows. The bears need to do more before traders believe that the market is in a bear trend. When the chart is this unclear, the probability is usually about 50/50 for the bulls and bears, far from the “crash” talk prevailing on YouTube and other financial, social media. Traders need to see a strong break below Friday’s low or above the September 23 lower high before believing that the trading range is becoming a trend.
As always, stay tuned.
A.F. Thornton