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Are Stocks Set Up For A 2011-Like Plunge?

From Chris Ciovacco: The S&P 500 has been treading water for six weeks, which means bullish momentum has been getting weaker and weaker. Given what we know as of January 23, what are the odds the S&P 500 plunges this week in a manner similar to the 2011 plunge shown below?

Yellow Flags Typically In Place

Markets can do anything at any time; an expression that applies to all markets, including the present day market. Having said that, waterfall plunges typically do not come without some type of observable deterioration already in place. The 15% plunge in 2011 occurred between the close on July 28 and the intraday low made on August 9.

How Did Stocks Look Before The 15% Plunge?

Prior to the 15% drop, the S&P 500 had been moving sideways for six months (orange line below), which speaks to indecisiveness and waning momentum. The market had also made two discernible lower highs (1 and 2 below) relative to the high made in early May 2011.

Compare and contrast the 2011 chart above to the 2017 chart below. Instead of a six-month period of indecisiveness, 2017 has seen six weeks of consolidation, meaning the loss of momentum was much greater before the market plunged in 2011. Instead of making two discernible lower highs, the 2017 market made a new high 17 calendar days ago (point A below). In 2011, the last new high was made 87 days before the 15% drop.

How Much Damage Was In Place Before The 2011 Plunge?

In the next set of comparisons, we will remove price from the equation and focus on trends. Moving averages help us monitor the never-ending tug of war between bullish conviction and bearish conviction. Remember, the plunge in 2011 occurred between the close on July 28 and the intraday low on August 9.

The chart below shows various daily moving averages for the S&P 500 on July 28, 2011; the moving averages range from the 40-day (dark blue) to the 150-day (lime green). Notice how the 40-day moving average peaked two months before the waterfall decline (point A). The fastest moving average had also moved from the top of the cluster to the bottom of the cluster, which spoke to the magnitude of the deterioration in bullish conviction relative to bearish conviction. Also notice how tight the cluster of moving averages were on July 28, and how the slopes had moved from positive to neutral or negative.

The 2017 chart below allows us to compare and contrast the exact same moving averages as of January 23. Instead of making a new high months earlier, the dark blue 40-day moving average is still making new highs. Unlike the tepid slopes in 2011, the slopes of all the moving averages in 2017 look much healthier from a bullish conviction relative to bearish conviction perspective. In 2011, the 40-day had migrated to the bottom of the moving average cluster; today, the 40-day remains firmly on the top.

Additional Historical Comparisons To January 2017

This week’s stock market video uses similar “facts in hand” charts to make comparisons to 1982, 1987, 1994, 2000, 2003, 2007 and 2009. The video helps us better understand the long-term bullish case relative to the long-term bearish case.

After you click play, use the button in the lower-right corner of the video player to view in full-screen mode. Hit Esc to exit full-screen mode.Video


How Can The Charts Help Us?

Charts cannot predict the future. Charts help us monitor the probability of good things happening relative to the probability of bad things happening. The probability of bad things happening was higher on July 28, 2011 than it is today. Regardless, the probability of bad things happening is never zero, something that remains true in 2017.

The charts above do not tell us much about the next few hours or next few days. However, given the information we have in hand today, which reflects relatively strong bullish conviction vs. bearish conviction on numerous timeframes, any pullback in stocks has a better than average chance of eventually being followed by new highs.

This analysis is based on the look of the charts as of January 23. If the charts deteriorate in the coming days and weeks, a new assessment would include a bump higher on the “probability of bad things happening” side of the bull-bear ledger. Only time will tell.

The SPDR S&P 500 ETF Trust (NYSE:SPY) was trading at $226.07 per share on Monday afternoon, down $0.67 (-0.30%). Year-to-date, SPY has gained 1.14%, versus a % rise in the benchmark S&P 500 index during the same period.

SPY currently has an ETF Daily News SMART Grade of A (Strong Buy), and is ranked #1 of 108 ETFs in the Large Cap Blend ETFs category.

This article is brought to you courtesy of Ciovacco Capital.

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