Good Odds for More Gains

The price pattern established by the S&P 500 over the last 11 trade days has the hallmarks of a double bottom

By Paul Cherney

What a difference a day makes.

Right now, I can't tell you that this rise is anything more than a short-covering rally. They typically last one to four trade days. But, I can tell you the kind of price pattern I will be looking for to increase the odds that the equity markets could be ready for an advance that lasts more than just a typical short-covering rally.

Once this initial lift runs out of momentum and starts to rollover, I will measure the difference between Wednesday's lows and whatever high we reach over the next couple of trade days. When the short-term profit-taking appears and we see some price weakness, ideally I would want to see buyers step to the plate and turn prices higher before the retracement recaptures 60% of the gains established in this initial run-up. If that happens, then a trend higher could easily find follow-through as prices exceed the highs established by this initial jump.

The chances for an extended series of gains are very good. The price pattern established by the S&P 500 over the 11 trade days has the hallmarks of a double bottom. The Nasdaq quite often will move to a new closing low before mounting a reversal and that pattern is also in place.

The Nasdaq is testing major resistance in the 1770-1980 area. Here are focuses of resistance within this band: 1794-1855, then 1907-1974. Immediate support is now 1752-1706 with a focus 1747-1723.

Major S&P 500 resistance is 1136-1190, within this band there is immediate (intraday) resistance in the 1155-1169 area then a focus of resistance 1171-1184. Immediate support for the S&P 500 is 1139-1128.

For readers who happened to have seen the Investor's Business Daily article on S&P 500 trailing P/E's Page B1, in Thursday's edition. Even if this lift right now is not the beginning of a base or a new bull leg, I think the S&P 500 downside is limited to 1069-960. Secondly: of all the easing cycles initiated by the Fed since 1960, there was only one initial Discount Rate cut that didn't produce a higher S&P 500 250 trade days later, that was the easing ycle which started in 1968. But -- and boy, is this important -- in 1968 there was only one Discount Rate cut, and by December of that year the Fed had raised rates, and then they raised rates again in April of 1969. So I think the 1968 number ought to be tossed.

In January of 2002, if the S&P 500 managed to close at the level it closed at on the day of the Fed's first Discount rate cut this year (in other words, just a zero gain), it would mean an S&P 500 close of 1347. A close of 1347 from Thursday's 1151.44 close would represent a 17% gain. If the S&P 500 celebrated the one year anniversary of the Fed's Jan 3, 2001 Discount rate cut with a 10% loss, that would mean that in January of 2002 the S&P 500 would close at 1212. That would still represent a 5.3% gain from Thursday's close.

I think the August-September timeframe offers the best chance for a more consistent trend higher to develop, but right now, I don't think the market has tremendous downside risk, but I do think it is going to have to base for a while.

Cherney is Market Analyst for Standard & Poor's

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