While the action that played out on the charts of the major market averages on Friday may seem at first bullish, there were some underlying technical issues.
The Dow Jones Industrial Average was up over 500 points early in Friday’s session and finished out the day 319 points higher. The S&P was up about 2% at its Friday session high and closed up a little over a percent. On the surface these numbers represent very bullish action but looking a deeper at the technical picture the outlook is less clear.
The problem showed up very late in Friday’s session with a sudden and sharp sell-off. This created what chartists call a “gravestone” doji candle on the daily chart. A regular doji or doji star candle forms when the opening and closing price of a stock or index are the same, or very close to the same price. When the opening and closing ranges are both situated at the lower end of the overall candle range it is called a gravestone doji candle.
The gravestone doji price action creates a large upper shadow or wick. This represents early and strong buying interest that fades later in the session. It indicates a failed rally attempt and often suggests a trend reversal, in this case, from bullish to bearish.
Gravestone doji candles formed on the daily charts of all major market averages on Friday. But this doesn’t mean that the broader market is going to immediately reverse direction and head lower. The late day pullback may just have been the markets seeking equilibrium after the initial gap higher. Or it could have simply been Friday afternoon profit taking.
But volume on Friday was also problematic. It was just under the 50 day moving average of volume. A move of Friday’s magnitude should have produced more upside volume, but that was not the case. In fact, while the overall volume picture was weak, that weak volume may not have even been positive volume as is indicated by the volume bar on the chart, and the On Balance Volume indicator.
The volume bar is colored either dark (positive) or red (negative) based on whether that day’s close is higher or lower than the previous session close. The OBV indicator is a cumulative measure of volume also based on the close. If the close is higher than the previous close the volume is added to the indicator, and if the close is lower than the previous close it is subtracted from indicator. These are very basic measures of volume and the preferred measure, in my opinion, is the Accumulation/Distribution line. It is the basis for the Chaikin Money Flow indicator and the Chaikin Oscillator.
The A/D line tracks money flow not by simply the closing price but by where the close is relative to its overall range that day. If the close is in the upper half of the session’s range than it is considered positive volume, and if it is in the lower half of that day’s range it is considered negative volume. Volume is added or subtracted from the line as indicated.
Friday’s volume bar was colored as positive and the OBV reading was higher than the previous session. Note, however, the A/D line reading was lower because the session close was in the lower half of the overall session range. In fact it was at the bottom of the range creating the gravestone doji. So, the daily gravestone doji candle action is potentially negative and volume, while average, suggested selling at the top. (Note the late session action on the ten minute chart when the index attempted to retest the highs made in the morning.)
The point to be made in this analysis is not that the market is about to immediately reverse direction and head lower. It is simply that the upside is being built on an increasingly tenuous technical foundation and a very tenuous fundamental base. The fundamental component at this point is almost entirely represented by news regarding a China trade deal.
The tenuous technical underpinnings of the market reflect the impulsive fundamental reactions to tweets and rumors. This is a component of my thesis on why the market is may be headed much lower over the intermediate term.