Friday, April 23, 2010

The Big Picture

I think it would be a good time to step back and look at the big picture. The above chart is a monthly chart of the SP500. One of the things that stood out to me years ago during the 2002 to 2007 rally was how the market respected what I am calling the decadal pivot of 1160.75, which is just the midpoint of the decline from 2000 to 2002. This level was influential even before the market topped in 2000 as can be seen by the first red arrow. It was then support and afterward resistance during the 2000 to 2002 decline. Later during the 2002 to 2007 rally it proved to be significant resistance which led to a multimonth consolidation. After breaking through that level in November 2004, the market consolidated above it for many more months before the uptrend resumed. However, in January of this year, the market only paused briefly before punching through with vigor.

I've noted the previous range of the congestion zone during 2004 and 2005 (blue lines). Even though it does not appear to be significant at the moment. I believe this range will prove to be significant during the rest of this year. The top of the range is at 1260. The expectation would be for a pause near 1260 and consolidation above 1160 for the rest of the year with the worst case scenario being a return to 1060 at the bottom of the range. If 1260 is penetrated meaningful and sustained during this summer, then we should expect an assault on the all time highs by the end of the year as there will be no significant resistance above that level.

The yellow line at the bottom of the sell zone is the August 2007 low. This is not a strong resistance area as it was strongly penetrated in May 2008. Therefore, the line in the sand is 1260. The March 2008 low as 1256.98. Penetration of and reversal at 1260 with a monthly close below it should usher in a retest of at least 1160.

From the longer term perspective, a move approaching or exceeding the 2000 monthly closing high of 1517.68 should be seen as an opportunity to sell long term holdings, a rare gift. At that level, the SP500 would be tracing out a large expanding wedge, a megaphone pattern with the expectation that a restest of the 2009 low will follow in the future. If it pulls back in a corrective manner from that high level and breaks out then we would most likely be in cycle wave 5 up. Even so, that would only usher in another top that would most likely lead to a retest of the 2009 low. Either way risk will be high at that point.

The sustained move above 1160 this month has routed the bears. Until we see a sustained move back below that level, I will not be shorting this market and only very select stocks that are definitely breaking down against the trend. We should expect a brief pullback at 1260, perhaps one that lasts 2 to 4 weeks, and thereafter a rally into the sell zone. A move above the 2000 monthly closing high of 1517.68 would be a rare gift and a second opportunity opportunity to sell long term holdings. While it is possible that we are in cycle wave 5 up to new all time highs, that is not the most probable outcome. Even so, we are now clearly in a sustained cyclical bull market that must be respected.

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