STOCK INDEXES ARE TRYING TO HOLD LAST OCTOBER'S LOW -- MORE BACKING AND FILLING IS NEEDED TO REPAIR TECHNICAL DAMAGE -- SAMPLES OF PREVIOUS CORRECTION BOTTOMS -- LONG-TERM UPTREND IS STILL INTACT
DOW TRIES TO HOLD LAST OCTOBER'S LOW... My Saturday message suggested that U.S. stock indexes could drop to last October lows; but that those lows should hold if this is just a market correction (and not a major top). Chart 1 shows the Dow Industrials trying to climb back above last October's intra-day low at 15855 which was temporarily broken during Monday's panic selloff. The fact that the market is in an oversold condition (see RSI line on top of chart) may help to steady the market. Chart 2 shows the S&P 500 still above last October's low and in an oversold condition. That doesn't necessarily mean that a bottom is in place. But a rebound from here could be the "start" of a bottoming process. A lot of technical damage has been done over the last week. And it's going to take some time to repair that damage. That process could last for a couple of months, and normally includes a period of "backing and filling". That usually includes retesting of lows, and maybe even another "lower low". At least that's what we've seen in the past after steep market corrections.
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Chart 1
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Chart 2
SAMPLES OF PAST BOTTOMS... Although the past doesn't always repeat itself, it's instructive to see some samples of market bottoms after steep market corrections. Chart 3 shows the market plunging during October 1987 before hitting bottom the same month. That bottom was retested during December, however, before turning back up again. Chart 4 shows what happened during the second half of 1998 near the end of the Asian currency crisis. Prices fell during July and August before bottoming at the start of September. That Labor Day bottom was successfully retested during October before resuming its uptrend. Chart 5 shows what happened during the last market correction during 2011. After peaking in May, prices rebounded from an August bottom only to hit a "lower low" during early October. Prices turned up from there. Those previous corrective bottoms showed that the first low is usually retested (and is sometimes broken). And, October often marks the final bottom. October bottoms are also common at or near major bear market bottoms (like 2002 and 2008). Those previous examples suggest that any bottoming process this year could last at least a month or two (into October), and will most likely include a retest of recent lows. That assumes of course that this is a market correction, and not the start of major bear market.
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Chart 3
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Chart 4
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Chart 5
DOW STILL IN LONG TERM UPTREND... The weekly bars in Chart 6 show the Dow Industrials still in a long term uptrend. This month's correction is the first time the Dow has lost 10% since since 2011. That would make the recent plunge only the second correction since the bull market started in 2009. That favors this being a correction as opposed to a major top. Chart 6 also shows the Dow testing a rising trendline drawn under its 2009/2011 lows (which also coincides roughly with last October's low). That makes the current test of support even more important. Another factor in the Dow's favor is that it still remains well above its 2007 intra-day peak at 14198. Previous peaks usually act as major support levels (hence the horizontal red line turning to green in 2013). That also favors the current selloff being a downside correction within an ongoing uptrend.
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Chart 6
DOW HAS RETRACED 38% OF FOUR-YEAR UPLEG... Normal stock market corrections usually retrace at least 38% of their previous upleg. The Fibonnaci retracement lines in Chart 7 show this week's low in the Dow coming very close to the 38% retracement (upper line) of its four-year advance since 2011. Even if the Dow were to suffer a deeper 50% retracement (to the middle line), it would still remain above its 2007 peak. So far at least, the downside correction in the Dow is within normal retracement parameters.
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Chart 7
OVERHEAD RESISTANCE... Fibonacci retracement lines work in the other direction to identify overhead resistance levels. The red lines in Chart 8 show where potential overhead levels could limit any short term bounces in the Dow. The first level of overhead resistance at at the lowest line (near 16510). The Dow hasn't reached that level yet. But any bounce would most likely run into selling near the red lines as traders pursue a policy of "selling on strength".
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Chart 8
AN EVEN SHORTER-TERM LOOK ... For the Dow to enter a short-term bounce, it first has to clear initial overhead barriers formed this week. The 30-minute bars in Chart 9 show intial overhead resistance at Tuesday's intra-day high at 16312 and Monday's intra-day high at 16361. So far it hasn't been able to do either. That's keeping it in a short-term sideways pattern between Monday's high and Monday's intra-day low at 15370. It's going to have to break one of those levels to determine its next move. The best the market may be able to hope for now would be a period of stabilization for a month or two to repair technical damage. It would also be good to see it hold around last October's bottom.
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Chart 9
VIX SPIKES TO 2011 PEAK BEFORE BACKING OFF ... The weekly bars in Chart 10 show the CBOE Volatility (VIX) Index spiking all the way to the high reached in 2011 at 48. It has since pulled back below 35, but remains above last October's peak at 31. Those types of spikes in the VIX to previous peaks often mark short-term market bottoms. But that's only if it doesn't start rising again.
