2 reasons why the market may be forming a top
While personal matters forced me to take a sabbatical from my
writing for a few weeks, my trading never stopped. The market’s uptrend didn’t
stop, either. The Dow and NASDAQ have made new rally highs the last two days and
the S&P 500 isn’t far from it. The bulls have managed to push the market higher
and higher, yet there are cracks in the rally. The NASDAQ has been the strongest
major index as of late, so I’ll pick on that one.
I don’t like the breadth numbers at all. At the October 16th high there were 247
new highs and 31 new lows on the NASDAQ – a net differential of 216. When the
market next made a new high and peaked on October 26th, the net new high number
fell from 216 to 188. Today’s high is accompanied by 143 new highs and 45 new
lows — a net differential of 98. This is not a good pattern. Net new highs
should increase as the market makes higher and higher peaks — not decrease. This
indicates that the rally is becoming narrower.
Now let’s look at a chart of the NASDAQ Composite. The two indicators I’ve
featured below, MACD and RSI both are useful for measuring the momentum of a
move. As you can see below, although the NASDAQ is hitting new highs, MACD is
trending lower and has yet to even cross higher on either of the last 2 peaks
(Oct. 26th and today). RSI has also declined at each peak.
Momentum divergences such as we can see above are a sign of a weakening rally.
With both breath and momentum showing weakness, traders need to be cognizant of
the fact that the market may be carving out a top. Tops are a process and
sometimes take a significant amount of time to fully form. Therefore, there is
no need to dump all your stocks in a panic just yet. Make sure you are vigilant
about managing your positions, though. Protect profits and don’t get
overextended or take on too much risk.
Best of luck with your trading,
Rob Hanna
For those who may be looking to expand their
knowledge beyond just market timing, my
Hanna ETF Money Flow System utilizes the VIX in generating trading
signals for spread trades.
Rob Hanna is the principal of a money
management firm located in Massachusetts. He has spent the last several years
developing and refining methods for trading in stocks across multiple time
frames. He selects stocks using both fundamental and technical criteria, and
then trades them using technical analysis techniques.