CAUTION IS ADVISED - General Markets

Ok guys, I've been watching this since I made the "Top" call earlier in the month.

First, GO READ THE BOTTOM OF THIS BLOG and UNDERSTAND the disclaimer. This is MY VIEW ALONE - nothing more or less - period! Don't trade on this, this is nothing more or less than the musing of a guy who does this for HIMSELF (nobody else, for money or not!) and sometimes gets it right!

This is a purely technical indicator but its one I pay attention to, because while it can be wrong it is quite reliable. It pairs with the other technical indicators I've talked about - this one is only valid over fairly significant periods of time (e.g. a few months) and generally portends significant reversals - and sometimes far worse than "little corrections."

Note that this pattern was not there prior to the February plunge, but that event - and the recovery - set the stage for it!

I'm going to present a chart here to show you what I'm talking about:



This is a one year of the S&P500.

Pay particular attention to these trendlines. This is called a "rising bearish wedge", and it is named that because as the market goes up it hits trendline and fails there repeatedly. You need two, preferably three "hits" on the trendline upward. The bottom line shows the same thing - lows which repeatedly test but cannot breach the trend. Again, you need two and ideally have three or more retracements.

Note that the trading range becomes more and more constrained as the wedge closes, and it slopes upward. This is a bull market trap! As the market grinds higher you will be tempted to buy because its continuing to go up - but as the market rises it is running out of room - becoming constrained - on the downside.

The indication here is one of supply overhanging demand (money) as the price increases.

In addition, and quite ominously, we have the MACD losing momentum and the RSI clearly overbought but on a downward slope (just breaking down.)

This indicates that there is a possibility that the breakdown is imminent.

The exact point where this pattern "completes" cannot be determined exactly in advance. Further, confirmation of the break does not occur until support is broken. We can argue over what constitutes a "break" here, but I would like to see the 1410ish level breached, and a break below 1375 would be a clean break.

In other words, while the RSI and MACD look pretty ugly, its entirely possible that we retrace to the 1460ish range and then head up again, tightening the wedge even further. You can have more than two or three pips off the trendlines - in fact, the more pips you get, the stronger the trend and the more likely it's correct - its just that the end game gets extended somewhat.

But note that in this particular case, the noose is tightening. Either it has to break out or break down - and quite soon, because room is running out!

Again - while the MACD and RSI look suspicious, there is no confirmation until you breach support! Even a violent 20pt down move doesn't get there, although it violates the lower channel and forces it to be reset lower (e.g. it extends the possible run before the jaws close.

This is a very difficult pattern to spot and trade, mostly because it is not possible to determine in advance when the wedge runs out of room. If the trend were to continue and you extend those lines, it runs out of room somewhere in May. However, these patterns do not have to run to exhaustion and usually don't before they either break down or break out.

Caution is advised because this pattern, while quite reliable (in fact, if you look at the last several big market breakdowns, they have all been preceded by this pattern!) is not foolproof.

As an example we could get a strong break over 1500, which would replace the second top which we bounced off in February - and potentially extend us out quite a ways! However, it would take a truly extraordinary run to violate the pattern that is forming here - to straighten the slope (which is what you need to void the pattern entirely) would require an incredible breakout in the S&P 500. We could also break the pattern to the downside, then resume an upward movement - a retest of the February lows, for example, would effectively "straighten out" the lower trend, making a "megaphone" pattern instead (this is also bearish, but we would then likely have another cycle or two before the breakdown, extending things significantly.)

But - given the fundamentals underlying the market, a breakout looks unlikely. More likely is either a retest of February's lows or, if things really go bad, we violate that support level - in which case we've got real trouble.

As such it is my position that while timing the break with any sort of precision is unlikely to be possible extreme caution is advised, especially with entry into any NEW long positions.

Breaks from this pattern can and frequently do come with extreme violence.

Now let's take a look at the Dow Jones and Nasdaq to see if there is correlation:






Hmmmm..... the MACD isn't quite as clean on the momentum break (yet) but the RSI is either at or over the "overbought" indicator, and the wedge is present. That looks kinda ominous.....

With all three primary indices showing this pattern at the same time, my personal view is that it is time to be extremely cautious.

Oh, just one more thing.... its called history.






I put a vertical line here where the break actually happened in 2000. Didn't bother in '87 - didn't need to.

Note that the RSI was just turning and the MACD had not yet rolled over in both cases. Guess what happens if you wait for the momentum to decidedly turn downward on you? Those looked pretty, didn't they?

Do your own due diligence, form your own opinions - its your money!