Technical Analysis 101: Toying With TA Tools, What Do I See In The S&P500 Charts Now?
I woke up this morning and S&P futures were trading down 1.5%, it didn’t take long for me to find out why: Trump tested positive with COVID. This undoubtedly adds another layer of uncertainty to the already volatile market. I believe a quick review of the charts would be helpful to get a better handle of where we are right now (as of October 2, 2020, after market close), at least from the technical analysis perspective. Let’s see what charts are telling us.
Long-Term View: Is The Huge Megaphone Pattern Indicating A Top?
The megaphone pattern suggests increasingly heightened disagreement among buyers and sellers. Megaphone patterns are commonly seen in short-term charts, but are relatively rare during normal market conditions over the long-term, since most markets tend to trend in one direction or another over time. For exactly the same reason, megaphone patterns (or broadening formations in general) are bearish for most long-term investors given the rising volatility without a clear move in a single direction. We have been in a bull market since 2009, is this the turning point after 12 years of uptrend?
This is a long-term chart on S&P 500, going back to 2001. We can see the huge Megaphone pattern forming since 2018.
Zoom In 2020: What Charts Are Telling Me?
We are experiencing increased volatility in 2020. Now, let’s exam the year-to-date charts, and see where we are from a technical analysis perspective.
We had a selloff in March, a speedy recovery and rallied to a new high in early September, and pulled back. The big question is, is this a correction? Or is this THE top of the market? The megaphone pattern on the long term chart is at very least a warning signal. On the monthly chart, September just created an outside month, with both higher highs and lower lows vs. August, I think the odds skyrocket that this was THE top.
Simple Moving Average (SMA): Bearish
While the 50-day SMA is still above 200-day, the trend of that 50-day SMA is flattening with the pullback in September. In addition, S&P 500 closed below the 50-day SMA today (October 2, 2020) in part driven by Trump’s COVID news, after closed above 50-day SMA on Wednesday and Thursday.
Exponential Moving Average (EMA): Slightly Less Bearish
The exponential moving average (EMA) and the simple moving average (SMA) are similar in many ways and are both commonly used by technical traders to smooth out price fluctuations. The primary difference is that EMAs place a higher weighting on recent data than on older data, therefore more reactive and relevant to the lastest price changes than SMAs are. Generally speaking, EMAs can provide timely information as they are more sensitive to recent moves.
While the S&P 500 closed below the 26-day EMA today (October 2, 2020), it remains above the 50-day EMA, for now…
ADX (Average Directional Index): S&P Is In Consolidating Phase
ADX (Average Directional Index): S&P Is In Consolidating Phase
The ADX (black line) crossed above 25 on 08/12/2020, indicating the market is increasingly trending. It peaked on 09/02/2020, the same day that S&P peaked, before it started to decline and crossed below 20 yesterday (10/01/2020) indicating that the S&P 500 is in a consolidating phase.
Please see the typical interpretation of ADX in the orange box on the chart.
Bollinger Band: Neither Overbought Nor Oversold
I’m using the typical Bollinger band here (yellow lines in the chart below), with the upper and lower bands being 2 standard deviations +/- from a 20-day simple moving average in the middle. The width between the upper and lower bands (4 standard deviations) represents a measure of volatility, which widens when the markets become more volatile, and contracts when volatility decreases.
While the S&P 500 was overbought when it peaked in early September, it is close to the 20-day simple moving average now. The Bollinger band echos what we saw in the ADX chart, the market is consolidating, and not in overbought/oversold territory right now.
MACD (Moving Average Convergence Divergence): No Clear Signal
Notably, MACD triggered a sell signal on 09/04/2020, shortly after the S&P peak, and again crossed above the signal line (green line) this Wednesday (09/30/3030), which is technically a buy signal. However, the MACD remains in the negative territory, as the 12-period EMA is still below the 26-period EMA. The distance between the MACD and the signal line has been relatively narrow, and both are close to the zero baseline, suggesting the momentum is low without clear bullish or bearish indication.
Given that “false positive” divergence often occurs when the price of an asset moves sideways, as what ADX indicates, I’m inclined to think that the crossover above the signal line on 09/30 is not a reliable signal.
RSI (Relative Strength Indicator): Neither Overbought Nor Oversold
RSI (Relative Strength Indicator): Neither Overbought Nor Oversold
The relative strength indicator (RSI) one of the most commonly used momentum indicators to signal whether a market is in overbought (RSI > 70) or oversold (RSI < 30) conditions.
The RSI is sitting at around 50 as of the close today (10/02/2020), indicating that the market is neither overbought nor oversold.
Conclusion
The picture is still murky, as the charts I laid out were all telling me that the market has been consolidating without a clear indication of direction. It might continue to move sideways for a little while until we remove some of the major overhangs and have better visibility into the economic condition. I will be watching the market do this exercise again next week. Be patient, be careful.
My Technical Analysis 101 Series:
Technical Analysis 101: Overview
In this series, I plan to apply several indicators and syncretize them in real-world real-time charts, as the market develops. While each indicator alone is unlikely to provide a strong or decisive signal, Syncretizing them could provide a better picture and increase the conviction level.
