The S&P Is Due for a Breakout

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tdp2664 InvestorPlace Does the resilience against lower prices and the strong rally from the October lows mean that a bear market has been averted? Will the recent sideways trading (there’s a reason to the market’s madness — more about this in a moment) lead to a breakout or breakdown? Understanding the Rally The rally from the Oct. 4 low at S&P 1,075 was no surprise because it came as a surprise. In other words, investors were expecting lower prices and had already sold all their positions. Investors should have expected the unexpected from the market. When the selling activity is exhausted, it’s easy for buyers to come in and lift prices. The Sept. 23 ETF Profit Strategy Newsletter stated that: “Investment advisors polled by II and retail investors polled by AAII are already more bearish now than they were at the June lows. The working assumption is that investors’ bearishness signals a looming bottom. Any drop below 1,088 may mark the end of the 2011 bear market leg.” A quick intraday dip below 1,088 was the springboard that sent the S&P higher like a hot kernel of corn in the popcorn popper. The S&P popped right into the 1,275 to 1,300 target range. A Whole Lot of Nothing The S&P’s most recent high was at 1,293 on Oct. 27. Since then, stocks have more or less done nothing. At first glance, the choppy up and down movement recently seems arbitrary with no rhyme or reason. However, the market always has a purpose and a battle plan. The Oct. 14 ETF Profit Strategy Newsletter described the market’s agenda as follows: “Ironically the S&P had to break into bear market territory (a 20% decline) before staging the biggest rally in months. It will take more gains and more time to bait and switch more investors back into stocks. This process may take several months of grinding trading activity with an up side bias.” Yes, the purpose of this rally/range-bound trading is to suck as many investors back into the market as possible. Nothing stirs up the “darn, I’m missing the next rally” feeling like rising prices. Just as extreme pessimism tends to mark a bottom, extreme optimism tends to mark a top. So, watch out for those sentiment extremes. The Triangle A look at the chart below shows that the S&P is tracing out a pretty clean triangle. Click to Enlarge The red line is resistance, the green line is support. A break above the red line would foreshadow a breakout with higher prices, while a break below the green line would foreshadow a breakdown. My educated guess is that the S&P will break to the upside — the VIX to the downside. Here are a few of reasons why: Seasonality: November and December carry a bullish seasonal bias. Presidential election-year cycle: The pre-election year (2011) is the strongest performer of the four-year cycle. Mini QE2 rally. The current rally seems like a miniature version of the 2007-2011 rally. A bit higher and the S&P will have retraced the same Fibonacci percentage as it did in May 2011. Earlier this year, this important Fibonacci resistance coincided with a massive 10-year-plus trend line and a multi-decade head and shoulders formation. That’s why the Apr. 2 ETF Profit Strategy update warned that: “In terms of resistance levels, the 1,369 to 1,382 range is a strong candidate for a reversal of potentially historic proportions.” The current Fibonacci resistance doesn’t coincide with any other trend lines, but the downside potential is as high as it was earlier this year. The next big opportunity will be to go short once Fibonacci resistance is reached or support is broken. This article is brought to you by ETFguide.com. ETFguide is the information leader on exchange-traded funds because of its vendor-neutral approach and its progressive reporting style. Unique features include an ETF bookstore, a monthly e-mail newsletter, and subscription based ETF portfolios. The ETF Profit Strategy Newsletter keeps close track of the S&P 500 and identifies various technical conditions along with support/resistance levels that tend to trigger big moves and profitable trades. Updates and easy-to follow buy/sell recommendations are issued at least twice a week.