Tuesday, September 13, 2011
If stocks don't bounce soon, they could drop another 8% in a flash.
Ever since the rapid decline unfolded in early August, we've been looking for the S&P 500 to come back down and retest the lows – maybe even undercut the lows by a few percentage points – before ramping up and rallying into the end of the year. So the recent weakness in stock prices isn't a surprise.
We still need to see some more downside action if the S&P 500 is going to follow the same "post-crash" script it did in 1987. And by the look of things, we could be getting that action sooner rather than later. Take a look at this five-minute chart of the S&P 500...
This is a classic "head and shoulders" formation.
Head and shoulders patterns are bearish. When a chart breaks the neckline of the pattern, it usually falls hard and fast. The amount of the decline usually equals the distance from the peak of the head down to the neckline.
In this case, the "head" on the S&P 500 peaked at 1,230, and the neckline comes in at about 1,140. So, peak to trough, the pattern measures 90 points. In other words, the S&P 500 could be headed for a swift drop all the way down to 1,050.
Of course, there are plenty of examples of head and shoulders formations that don't play out. The chart could miraculously bounce off the neckline and all the worry would be for naught. That's still a possibility.
But given that it's September – a notoriously weak time of year for the stock market – and given that we're already looking for the S&P 500 to make a slightly lower low than we saw in August, I expect this pattern to run its typical course.
Be ready for a fast move lower for stocks. The odds favor the downside here. And be ready to start nibbling on a few positions once the S&P gets close to that 1,050 target.
That will be an ideal time to start buying in anticipation for a year-end rally.
Best regards and good trading,
"Stocks are falling. Job growth is non-existent. America, as we know it, is ending," Jeff wrote last week. "Yet, among all the economic indicators pointing downward, there is one small bright spot... " Read more here: One Bright Spot in the Economic Black Hole.
"As stocks decline and possibly retest their early-August lows," Jeff writes, "investors are going to flock toward the one asset that seems to just keep going higher... gold." Get Jeff's prediction on the yellow metal here: Gold's Next Move.
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