Tuesday, May 28, 2013

Technical Tuesdays: How Market Tops Are Formed

The blog postings of April 30 and May 7 described key aspects of the market topping process: an affair that tends to be more distributional and rolling versus market bottoms, which tend to be more panic driven, plunge-rally-non confirmation-plunge affairs.

In a market top, price stalls over a period of time (sideways is the net effect) allowing the moving averages to rise to meet price at a juncture from which a downside break ensues triggering a Mega Trend reversal and we're off to the bearish races. And all this tends to occur in the seasonally weak May to October period. Now, let's fill in the details with some statistical color related to market advances and what tends to happen when certain thresholds are reached. To accomplish this, allow me to share the following set of facts re what happens when markets move (and they always do) from that keeper of the historical market keys, none other than the Nostradamus of financial markets, Sam Stovall, Chief Equity Strategist with S&P Cap IQ.

The accompanying table (click image to enlarge) is from Sam's report published today, which illustrates the probabilities of how equity markets react following various market advances (from >0% on up). Now, if the pullback outcome is the higher probability in the current environment AND if we assume 5% is a good average number AND the time period takes us into the fall of this year (which is just around 90 days from the end of May to the end of September), then price at that time will be somewhere between 1560 and 1600 (on average) and the 200 day moving average will be (drum roll, please)...approximately 1580.

Investment Strategy Implications

The markets wiggle and they squiggle as the financial media tries to explain in their best effect-therefore-cause behavior why what just happened in the financial economy must have its roots in the real economy. Last week it was (horrors) the Fed may turn off the liquidity spigot sooner than expected*. Then this morning, whoopie times returned as the hedgies turned their risk-on switch. However, it might behoove my beloved members of the financial media to focus on the larger, more important longer term picture (yes, yes, I know it doesn't serve the financial interests of the financial media to do this) and try to identify what investors need more than what they want. And what they need more than they know is how history and methodologies can produce useful analysis.

*This fact will be explored in a future Thematic Thursday edition as the logic of why anyone would act in a bullish mode predominantly if not solely because of easy money needs to be exposed.


Technical Tuesdays is a product of Blue Marble Research Advisory and illustrates selected elements of market intelligence analysis. Market intelligence analysis - along with fundamental and thematic analyses - form the three-legged stool of the analytical approach employed by Blue Marble Research Advisory.

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