Author Archives: Rob Moreno

Potential Head And Shoulders Top Forming On The Dow Chart

The previous post looked at the possible formation of a bear flag on the NASDAQ Composite daily chart. It implied a decline that retraced 50% of the previous March/September rally range. Another bearish reversal formation is under construction and near completion on the Dow Jones Industrial Average chart. A classic head and shoulders pattern has developed over the last two months.

As the Dow chart clearly illustrates the August high formed the right shoulder, the head is the September high, and this week’s lower high may be the right shoulder. Neckline support is located at the 27500 level. This is an important support level because it intersects with the horizontal support line drawn off the June high, a three month uptrend line, and the 50 day moving average. If this nexus of support were to breakdown the head and shoulders pattern projects another approximate 6% decline from current levels. This would revert the average back just below its 200 day moving average.

A break below the neckline 50 day average would be a major technical moment. If accompanied by the NASDAQ taking out its key 10750 level the outlook for the broad market would be clearly negative. In both cases, however, confirmation is required just like any technical price pattern.

The Nasdaq “Bear Flag” Projects A 50% Retracement Of The March/September Rally

Last week the NASDAQ Composite broke the long term trend line that has defined the six month March/September rally. Since then it has been trading in a narrow range below that uptrend line and around its 50 day moving average.

The price action since the NAZ made its recent high and the consolidation after the trendline breakdown resembles a bearish flag pattern. A flag pattern suggests a measured move that is calculated by taking the height of the flag pole and subtracting it from the bottom of the flag itself. In this case, the target is measured by taking the September high/low range and subtracting it from the 10750 level. The NASDAQ measured move then projects down to and targets the 9500 area. This would be a 50% Fibonacci retracement of the March low and September high rally range. It would return the composite to its 200 day moving average.

On a percentage basis it is a 12% decline from current levels and more than a 20% pullback from its high this month. That would qualify as a correction in strict technical terms. At this point in time this bear flag analysis is speculation. Like all technical patterns it requires confirmation. But it is a textbook set-up. The Relative Strength Index has dropped below its centerline and the Money Flow Index is preparing to do the same. These readings represent a loss in positive price and buying momentum. They reinforce what is playing out on the chart.

A return to the 50% Fibonacci level, while temporarily painful for bullish investors, could be a healthy reversion. But it remains to be seen if the NASDAQ does in fact breakdown or, if it does, the pattern plays out as the chart so neatly outlines.

Did Snowflake Mark The Top Of This Market

There is always an event that we look back and say, “Yes, that marked the top.” The much celebrated Snowflake initial public offering may be such an event. It may not be a long term top but the charts suggest we could see a significant pullback.

Take a look at the seven month charts of the Dow Jones Industrial Average and the S&P 500 Index. The rally has been underscored by a strong uptrend line. Over the last two week that support has been tested and appears to be giving way under the pressure.

If we zoom in on this chart we see that the price action over the last two weeks looks somewhat like a bear flag pattern. Also, yesterday’s candle on the industrial average formed a gravestone doji. That candle opens near the low of the day and explores higher levels and ends the day closing back on the low. The implications are clear an inability to hold those higher levels.

The 50 day moving average just below current levels could supply support. If this slide lower picks up speed, however, a deeper reversion possibly to the 150 day moving average would be a more likely target. That would represent about a 10% decline.

Take a look at some of the big technology names:

Apple (AAPL) has formed a bear flag pattern.

Amazon (AMZN) has broken its 50 dma and is testing support.

As solid a performer as Microsoft (MSFT) has broken below its 50 dma and formed a bearish engulfing candle on the daily chart.

The technology sector started this current market decline and there is no indication it has slowed down.

The stage is set for a meaningful pullback. It remains to be seen, of course, at what levels the sellers feel comfortable becoming buyers again.

The Financial Sector Could Be Poised To Out Perform The Broader Market

The financial sector has chronically under-performed the broader market over an extended period of time. That dynamic may be in the early stages of a transformation. Last week the S&P 500 Index returned to its high of the year. This week it has made incrementally new all-time highs. By contrast the financial sector, as represented by the Financial Select Sector SPDR ETF (XLF), remains about 20% below its all-time February high. The technical interpretation of the charts, however, suggests things could change. The S&P 500 Index is historically extended and the range of the XLF is tightly contracted. A technical inflection point for both the index and the ETF is likely near, in time and price.

The first chart shows how the new highs on the $SPX have taken the index over 13% above its 40 week (roughly 200 day) moving average. This diversion from an important mean is historic and may be the widest in a very long time. It suggests a reversion to the mean of some degree and it will happen. The question is, of course: When? And that is unknown. The uptrend has been our friend for about five months and calling a top or even the start of a sideways consolidation period is not what we are implying in this post.

Now take a look at the Financial SPDR daily chart. The fund price has been contracting in a symmetrical triangle or wedge pattern for over four months. This action has delineated a clearly defined downtrend or resistance line and a well-defined uptrend or support line. The downtrend line is being reinforced by the declining 200 day moving average and the uptrend line is being supported by the rising 50 day moving average. The takeaway is that the XLF is being squeezed and a breakout or breakdown is imminent.

Now let’s pause and review what my experience with triangle patterns has taught me. The first thing is that the closer that price gets to the apex of the triangle, the less volatile the breakout or breakdown. Also, false breakouts or breakdowns happen often and patience is required to determine if the initial move is genuine or not. In our current case, the action on the XLF chart has taken price very close to the apex of the pattern. This suggests to me a potential false move before the start of a new trend. My guess is that the ultimate reaction will be a breakout and a continued move higher over the intermediate term.

The bottom line is that the $S&P Index looks extended while the XLF looks like it is poised for a move higher. The charts are the basis for the conjecture that the financial sector is ready to take on the role of out performer relative to the broader market.

This Pattern Is Why Bitcoin Could Rally Much Higher

(Back from a long vacation.)

The price of Bitcoin has rallied right along with the stock market over the last several months. But Bitcoin has been engaged in a much more significant process over the last ten months. It has been forming a strong foundational base. The recent breakout from that base could propel the price of Bitcoin significantly higher.

The process began in October last year with the formation of what was to be the left shoulder of an inverse head and shoulders pattern. Bitcoin fell to about $6,500 but then moved back up to the $10,000 level. A second and deeper dip took the price down briefly to $4,000, followed again by a rally back to the $10,000 area. This delineated the neckline level. A minor pullback in June was followed by some consolidation above the 50 day moving average, and then a strong breakout above neckline resistance.

A breakout from a well-defined inverse H&S formation projects an upside price target measured by taking the height of the pattern and adding it to the neckline. In this case the H&S pattern projects a target price in the $16,000 area. That may or may not turn out to be the case but it is what the textbooks suggest. Bitcoin’s solid basing action over the last ten months certainly sets up the possibility.

The Relative Strength Index, a measure of price momentum, is above its center line. Chaikin Money Flow, a measure of the strength and direction of money flow, is also tracking higher and above its center line. The chart and the technical indicators are all bullish and the expectation is that Bitcoin continues to move higher.

Reverse Engineering Chart Patterns – Prevent Weekend Chart Hypnosis

It’s Sunday morning. Do you sit in front of your computer, coffee cup in hand, and look for stock trading candidates? Maybe, you input technical conditions into a scan engine. Then it spits out a bunch of stocks with oscillators entering or leaving overbought or oversold zones, or with classic MacD crossovers either bullish or bearish. Perhaps the scan engine suggests candidates flirting with a Fibonacci level or Fibonacci time frame, or Fibonacci arc or Fibonacci angle, there are any manner of Fibonacci ingredients, and there are any manner of general technical conditions to screen for. Many of them work. Often these scans reveal some very good trading material. Sometimes they don’t and that’s all part of the trading game.

My main objection to scanning via indicator or oscillators is that the people who use them often have no understanding of how they are constructed. For instance, the data used in the Relative Strength Index, is similar to the data used to compute the Stochastic indicator. “Technicians” have to be careful then not to use a like indicator to confirm another like indicator. This problem is called multicollinearity. It’s comparing apples to apples by using similar input data.

Back in the days before computer charting, I had to update weekly charts sent by mail. I would simply draw a new daily candle as the trading week progressed. But, if you chose to, you could also update the technical indicators, like the MacD and the RSI, which were included on the charts. This involved following the formula for the indicator and doing the math. One positive result was that you became familiar with the information that went into the construction of the indicator or oscillator. This helped avoid the danger of multicollinearity and it gave me a better understanding of technical indicators and oscillators. Today there are so many or more accurately too many, indicators that can be attached to your computer charts. Again, “technicians” (I am using this word lightly) fill their charts with studies and they have no idea what those studies represent. To them it’s this simple: a moving line crossed over or under a particular horizontal line, and that is either a good or bad thing for the stock. If you don’t know what input produces the output of your indicators you are not a technician. But, I digress.

Reverse engineering a chart is the opposite of imputing data into a scan engine to find a trading candidate. It involves first identifying a stock chart that provided a profitable trade in the recent past. Then disassembling the chart by looking at the technical conditions just prior to the initiation of the trade. This includes not just the indicators and oscillators, but any candle patterns and volume levels, all using multiple time frame analysis. Basically, you’re looking at a chart that represents a previous profitable trade and you’re trying to identify the early technical particulars that made it a winner. Breaking it down and deconstructing the conditions just prior to the initiation of the trade.

Often traders just move on if they miss a winning trade. They immediately start scanning and scrolling for another opportunity. But reverse engineering, even a missed trade, is an opportunity to gain more trading insight. Take, for instance, a chart that has a clear stair-step pattern of higher highs and higher lows. It may be too late to enter that trade but you can go back to where the trend began, and notice the technical conditions that presaged the start of the pattern. The same applies, of course, to bearish trend reversals. What happened to momentum and money flow ahead of the reversal?

Reverse engineering is a simple and unique way to analyze a stock chart, and it can prevent weekend chart list highway-like hypnosis. Always use your time productively. Don’t just blindly scroll through reams of charts. Pick prime candidates and analyze them thoroughly and in a unique way. It keeps you sharp and on the lookout for new trading ideas.

Six Stocks With Large Short Interest + Good Charts = Potential Covering Rallies

Here are six stocks with solid chart patterns, improving price momentum and money flow and they have large outstanding short positions. The implication is that if there are bullish chart pattern breakouts, the shorts will be forced to cover their positions. This would initiate short covering rallies in the stocks.

Remember though, often times the shorts are correct in the longer term. So, if you trade this kind of strategy, keep time frames short, and take quick profits or quick losses.

The DOW – Bullish Breakout From a Moving Average Squeeze And There Is Plenty Of Upside

The Dow Jones Industrial Average ($DJIA) dropped below its 200 day moving average in early June. It’s been trading just below the horizontally trending 200 day average and more recently above a rising 50 day average. Over time this the area between the two averages compressed along with the Dow’s average true range and Bollinger bandwidth.

A period of price compression is often followed by a volatile resolution. This means that the Dow would be expected to make either a volatile breakout or breakdown. The Dow futures this morning suggest that it will be the former as they project a 500 point jump at the open.

A positive DOW breakout was being forecast by two technical indicators. The Relative Strength Index has been tracking above its center line and is now above the 21 day moving average of the indicator. This reading represents positive price momentum. The Money Flow Index, a RSI measure of money flow, has crossed above both its center line and signal average.

The Dow’s upside targets are highlighted on the below chart.

The first upside target is the 27,000 level which would close the island gap that formed in early June. This close should be accomplished at the open of trading today. The second target is the June high an additional 500 points higher from the gap close. This shouldn’t be a high hurdle for a market with the current level of positive momentum. The third upside objective is a small open gap around 29,000. If that gap is filled then the magnetic effect of new all-time highs would likely levitate the DOW above the 29,568 level.

This is a lot of DOW speculation but it seems, at least at this point in time, that the only thing that could alter this positive scenario is negative news on the virus. But if investor sentiment is like a scale, then the negative virus news is currently being balanced out by the vaccine news. Hopefully, the vaccine news will begin to tilt the scale in the healthy and bullish direction.

The Volatility Index And The Anomaly At The 26 Level – “The line must drawn here! No further!”

The market got a scare in the last two hours of trading on Monday. There was a sharp drop in equity prices on news that some businesses in California were being closed again and of renewed US/China tensions in the East China sea. The broader market dropped sharply and the Volatility Index jumped closing the session with a nearly 18% gain. This correlation is normal: as investor fear levels rise stock prices fall and the Volatility Index moves higher. But here’s a interesting anomaly that can been seen on Monday’s 10 minute VIX chart.

Earlier in the Monday session when the DJIA had been up over 500 points the VIX was also slightly higher on the day. Note the first hours of trading that are framed in green. The DJIA goes into rally mode and the VIX also moves higher, of course on a more shallow trajectory. The correlation indicator during this intra-day period shows a high degree of correlation. In the last two hours of trading when the DOW started to go into a waterfall decline the VIX rallied sharply. The correlation between the two readjusted and realigned into a normal inverse correlation.

Anomalies like this have occurred this month because of the formation of the strong zone of support that we have been highlighting on the VIX daily chart, between the 26.50 to 25 levels. When the VIX returns to that area it is more likely to bounce than to break through. This thesis has been confirmed a number of times going back to June. At this point, it looks like the only event that will take the VIX down through the support zone is some very positive news on the virus. I’m all for that. But what has been holding the Volatility Index above the support zone despite the higher equity prices?

It’s fear. It looks like traders have their speculative limit and they see the VIX at a certain level as a good level to buy puts. More profits equals more puts. Apparently that has been the case since the beginning of June. The chart below is the 10 day average of the CBOE put/call ratio. It shows the monthly increase in put buying. For those that trade the $VIX or the VXX, rebounds off the 26.50/25 area have been profitable. While for traders booking big equity gains, hedging those positions is a good idea.

In the immortal words of Jean-Luc Picard, “The line must drawn here! No further!”

Have Interest Rates Bottomed? – Is It Time To Buy The TBT?

Interest rates have been moving lower and for a long time. If you were on a fixed income like a pension during this period you’re a happy person. The low interest rate environment produced little or no inflation. This preserved the buying power of your income over time. If, on the other hand, you bought government bonds to supplement retirement income over the last ten years, it has been a different story. The yield structure you might have anticipated in your retirement years collapsed. You had two options: go back to work or go out on the risk curve to get more return, specifically buy stocks.

While a steady income is a comfort for retirees, reaching out on the risk curve actually payed off. The increased demand for return caused stock prices to move higher. The blue chip risk-reach produced both return and capital growth. This dynamic was the result of the Federal Reserve policy of lower short term interest rates.

But stock prices can’t go up forever, at some point valuation will matter. Likewise, interest rates cannot go lower forever. In fact there is little room for rate decreases and any future decreases would likely have a minimal effect on the stock market. So what if interest rates start to rise? Is there a way to profit from a rising interest rate scenario?

The ProShares UltraShort 20+ Year Treasury ETF (TBT) is an inverse exchange traded fund, and provides 2X inverse exposure to bond maturities greater than 20 years. It is a levered bet on rising interest rates. The TBT goes up when bond yields go up and interest rates rise. Take a look at the weekly 10 year chart of the TBT. Not pretty. It has headed lower along with the historic decline in interest rates. A positive correlation.

Now here is a six month daily chart of the TBT. This has some positive technical potential.

The TBT looks like it may be putting in a base or more boldly stated – a bottom. Over its ten year period of decline there have been many times when the TBT looked like it was building a base. But this time is a little different in the contextual of interest rates having basically reached their lower bound. Additionally, the lateral action on the daily TBT chart over the last four months has established a zone of support in the 15 to 14.50 area. In last Friday’s trading the TBT opened on that support and closed near the high of the session. This created a short-term bullish candle.

At this point in time, the chart suggests several possible outcomes. The first is that a triple bottom has been made and the TBT along with interest rates will begin to move higher. (My anecdotal observation over the years is that when rates rise they accelerate quickly.) Higher rates correlate to gains in the TBT. But another possible outcome is that rates remain near current levels and move horizontally, bumping along the support area. This second scenario is less positive for the TBT. Of course, there the third possible outcome that interest rates move to zero and the 15-14.50 support area is taken out. This outcome would be a clear negative for the TBT.

My opinion is that the lows for the TBT are in, based on the charts and the level of short term interest rates. It is not likely that the Federal Reserve will allow short term rates to move to zero, and they will do what they can to keep longer term rates from reaching that lower bound. So, the TBT at current levels seems a good risk/reward trade. Support is clearly delineated and if my hypothesis is wrong, a confirmed move below the 15-14.50 area provides a nearby exit point.