It’s No Time To Be Risk Averse
As much as we see the makings of a really deep 20% to 30% correction in the stock market it looks like it isn’t going to happen now. There are signs within the market that lead us to believe the S&P 500 (NYSEARCA: SPY) will be retesting its recently set all-time highs very soon. The question at that point will center around what the index will do next but that’s a conversation for a later time. Now, with the index hovering just above recently set lows, bearish investors and traders should pay attention to these three warning signs.
The Technical Outlook: The Market Is Bottoming
The S&P 500 has been in a corrective phase for several weeks now but appears to be at a bottom. Price action was driven lower by an increasingly negative view of the Q3 earnings season despite how strong the fundamental picture actually is. Yes, there are global supply chain issues and inflation cutting into results but the underpinnings of both issues are robust, systemic demand that only appears to be growing. The near term is facing challenges, the long-term looks bright.
So, back to the price action. The S&P 500 appear to be forming a double-bottom at the 4,300 level. It is still early in the pattern so bullish traders are cautioned from trading too early but there are other signals as well. As for the double-bottom? It looks like the baseline is near the 4,460 level, a level we will be watching closely.
MACD Is Showing Signs Of Reversal
One of the more interesting and perhaps esoteric uses of technical analysts is finding patterns in the indicators. MACD, in this case, is forming a very clear Head & Shoulders pattern while the index confirms support at 4,300. In our view, this is an indication of potential reversal that not only backs up the technical chart pattern but enhances the odds of reversal. The baseline of this pattern is the midpoint of the histogram’s range or 0. A move above this would likely come in tandem with a move above the baseline and/or the short-term moving average.
There Be Divergences, Here
Within the MACD Head & Shoulders is another phenomenon that is better viewed in the stochastic indicator. While price action was testing and resting the 4,300 level it set a new low with the second dip and stochastic is diverging. The divergence is a signal of inherent market weakness, weakness within the market move we should say, and is an indication of support when found in a bearish context. The bottom line, price action appears to be well-supported at the 4,300 level and only needs some good news to get it moving higher again. That good news could come in the form of earnings but there is a potential catalyst closer at hand. The September non-farm payroll report could be a blowout figure and, if so, would go a long way toward reassuring the market systemic challenges will be overcome.
The Big Risk Is Inflation
Even with the near-term outlook looking bullish there are big risks for the market in the form of inflation, systemic challenges, and earnings. No few companies have already come out of this reporting cycle with either weaker than expected revenue, earnings, guidance, or a combination of all three. If this trend persists the index could top out at 4,545 again and that could set the index for another dip to -5% or lower. Pricetargets.com data is already showing a marked increase in the number of downgrades.
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