Will the Selling Persist in the S&P 500?

Since mid-July 2017, US equities represented by the S&P 500 (SPX) have been essentially flat.

However, last week selling pressure re-entered the market. In the process traders sold prices down to the lower boundary line in an ascending wedge pattern as well as pushed SPX to close below its 50-day Simple Moving Average (50SMA).

Looking at the monthly SPX pivot points we can see that the price decline nearly touched its first level of support, S1. Pivot points are a method for projecting highs and lows over a future time period based on a previous specified range of price action.

In this case, the monthly pivot calculates a first level of support around 2424 and just above the 100-day Simple Moving Average (100SMA). Coincidentally, these levels correspond with support that formed during the June to July 2017 time period.

Currently, SPX is being sold off of previous support now turned near-term resistance. Accordingly, if SPX is going to experience any further price decline traders should look for buyers to step in around 2415-2424 which corresponds with the 100SMA and monthly pivot, respectively.

Despite this weakness, SPX never reached an oversold reading on the daily Relative Strength Index (RSI). Typically, during an uptrend stocks will continue to register overbought readings and infrequently post an oversold level on any time frame. In other words, throughout an uptrend the buying demand remains strong and drives the market higher while selling pressure remains muted and short-lived.

Nonetheless, it is interesting to note how this phase of the uptrend has not registered an overbought reading on daily RSI since March 2017 while also not displaying any oversold signals. Meanwhile, price action is driving this behavior in its ascending wedge pattern where the buyers are creating a less powerful push higher in prices but also stepping in to buy dips in the same manner.

As a result, this price pattern is creating a coiling action in SPX. Without any new money coming into the market to push prices higher, SPX could become vulnerable to any perceived negative headline or event risk as well as seasonal weakness.

Moreover, price is developing negative divergence against its Moving Average Convergence Divergence (MACD) indicator and RSI on both the daily and weekly time frames. Negative divergence is often a sign of internal price weakness.

Long-term Perspective

However, from a long-term investor’s perspective any price pull backs that do not have adverse effects on the existing uptrend should be considered volatility to ignore.

For example, while the long-term moving averages continue to slope upwards investors are best-served to align their portfolios with the dominant trend in place.  Any drawdown in price can be viewed as a buying opportunity for strategic asset allocators as long as there is no indication of a trend change or reversal.

In this example, as long as the moving averages that define the trend do not begin to flatten out or turn down, then investors should keep an overweight equity position in their portfolios for the foreseeable future.

Key Points

Since price can trade in a volatile manner during the short-term, determining the path of least resistance in the markets can be achieved by slowing down the price and observing the big picture.

Typically, investors will be able to create better returns for their portfolios if they focus on smoothed-price indicators that define a trend, like a moving average.

Whenever near-term volatility and selling emerge in a market, traders should take a step back to weigh the evidence from a longer-term perspective as well.

John DiRico is a trading and investment professional focused on technical analysis as well as alternative investment strategies. Additionally, he is the founder of the blog “A Discounted View” where he offers his observations on markets based on industry experience and topics covered in the Chartered Market Technician (CMT) curriculum. Please feel free to connect.