The slow consolidation continues

Hi there, and welcome back to CRI's S&P 500 blog.

As has been the case for the past three weeks. We are slowly consolidating the 10 week bull rally that preceded the US mid-term congressional elections and the official launch of 'QE2. 

Both traders and investors were given a clear signal to 'get-in' when prices broke above 112.58 back in mid September. The market indeed rallied to take out the spring highs (which in itself is a monthly double bottom buy signal) a move of more than 7 percent from the breakout. Unfortunately, the move higher was almost straight up, suggesting there needed to be a few weeks of consolidation before we can expect another move higher in earnest. That consolidation is happening now. 

Technically

we are a bit over-extended but not badly. We have several moving averages just below us to provide support so I wouldn't be surprised if the above mentioned support areas (refer to chart) are indeed strong enough to hold prices up.

Fundamentally

we are OK here too. Both a friendly yield curve and solid corporate profits shall help things going forward. 

The problem

1. Corporate scandal, As long as we keep reading about one scandal after another both fines and lack of focus shall hinder corporate profits in specific sectors. Specifically the financial sector this go round.

2. No-one likes war. So if the bullets are flying for real in Korea one ought to expect both a substantial rally in the US Dollar and a soft stock market. This is known as a systemic risk and no matter how hard one tries, one cannot control it. If it happens we just have to deal with it. Interestingly though, this may be the reason the market corrects (as we have been expecting) and once the event has passed the market may go through a dramatic period of catch-up as the fundamentals (earnings & interest rates) have remained relatively friendly through this whole time period.

Summary

If one missed the original buy signal (112.58) then one may have an opportunity to enter at or near that level again as prices have been (and are expected to continue to be) consolidating for a few weeks. For those that did the trade, stops still remain just below the double bottom (103 area). The low of this consolidation shall represent our new stop if and when it comes.  In the short term, it shall be hard for the market to breakdown in earnest as there currently exists significant support from 111 to 117. So I wouldn't be surprised it our stop is moved into this area but we will just have to wait and see if and where it comes. Having said that, if war does breakout on the Korean peninsula one would be best advised to cover any long positions and ride the uncertainty out in cash. While it isn't a specific recommendation, it is common sense in the trading world...

When someone asked me what would cause the market to correct after the recent 10 week bull run I had to reply, 'one can't write better fiction than reality'

That's all for this week,

Brian Beamish FCSI

The Canadian Rational Investor

the_rational_investor@yahoo.com

the-rational-investor.com