Technical Analysis | Reversion to the Mean Bounce
Thursday night we sent out an investor market caution alert. The main reason was that the markets are nearing a very important technical breakdown level and investors could get severely hurt if some equity selling is not done now. More panic selling could be ahead.
In the past, MR has used the 200 SMA and the 250 SMA as key technical sell levels for investors when breached. This is especially true if the news cycle is negative and the fundamental drivers of the markets and economy are weak. The markets have been heading down at an alarmingly fast rate straight towards their 200 and 250 SMAs.
MR prefers to use the S&P 500 for analysis and right now its 250 SMA is at 1,283 and its 200 SMA is at 1,278. Any breakdown below the 1,275 level would be extremely bearish and we would recommend selling all equities and sitting in cash. The following list provides additional strong support levels for the S&P 500 in the 1,275 to 1,290 area:
1) The 50% fibonacci retracement level near 1,290 (Chart #1)
2) An October pivot high from 2011 at 1,285 (Chart #1)
3) A 1,277 close for the first day of 2012 (Chart #1)
4) The 1,283 price target from a Head and Shoulders Pattern breakdown (Chart #2)
5) The 1,278 price target from a Symmetrical Triangle breakdown (Chart #3)
Whenever we are doing detailed technical analysis, we look for multiple methods, patterns, and indicators to help confirm our forecast. In this case, there are numerous strong support levels in the 1,275 to 1,290 range. So if all of them do not hold, then more strong selling is sure to follow.
Technical Analysis Chart #1:
Technical Analysis Chart #2:
Technical Analysis Chart #3:
Short Term Bounce Back Argument (Reversion to the Mean):
On the other hand, based on short term technical analysis indicators and statistics, suitable for swing traders, the market is ready for a strong bounce up very soon. A snap back up rally stands a very high probability chance of happening this week because of what is called the “reversion to the mean”.
Whenever markets get stretched too far and too fast in one direction (statistically far from their mean), they usually will snap back towards the mean. In this case, MR believes in the near term that the markets will snap back up closer to a short term mean (20 SMA) after such a sharp and fast fall. And as many of our charts show below (Chart #4, #5, and #6), the markets have been stretched extremely far based on history which gives it even more energy to rebound.
Technical Analysis Chart #4:
Technical Analysis Chart #5:
Technical Analysis Chart #6:
The strength and duration of the bounce is important. If it is only short and has little volume or price movement, then it will be termed a “dead cat” bounce and lower levels are coming.
Power Stock Picks
As indicated above, the markets are very oversold and a strong overdue bounce is probably coming this week. Some momentum from a short squeeze could also push the markets up farther than many think. Therefore, we are picking a few beaten down market ETFs to play long for a quick bounce up. These are only swing trades until proven safe to hold longer.
Silver and gold bounced up some last week per our forecast. But gold and silver brokedown through their inverse head and shoulders patterns. That means that investors will have to be patient in the precious metals now because lower prices and more choppy action are likely.
MR believes gold prices below $1550/oz and silver prices below $28/oz offer long term investors a good buying opportunity. Scaling in slowly on more weakness is reasonable with hold periods of 12 months or longer.
Natural gas continues to push higher above its 50 SMA. Oil (USO) and unleaded gasoline (UGA) probably have a bit more downside but are nearing good buy levels again.
The caution alert for retirement accounts and investors is still present. Selling some equities to protect gains in case of more heavy selling is prudent at this time, especially if you can take advantage to sell into higher prices during this bounce.
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Good luck in your trading and investing,
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