{"id":3996,"date":"2014-05-29T12:51:58","date_gmt":"2014-05-29T16:51:58","guid":{"rendered":"http:\/\/www.morpheustrading.com\/blog\/?p=3996"},"modified":"2022-04-06T15:05:47","modified_gmt":"2022-04-06T19:05:47","slug":"stock-market-topping-process","status":"publish","type":"post","link":"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/","title":{"rendered":"Why Stocks Could Be Forming A Top, Despite The S&#038;P 500 Breakout"},"content":{"rendered":"<p><img loading=\"lazy\" decoding=\"async\" class=\"alignright size-full wp-image-4013\" src=\"https:\/\/www.morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/market-topping-slow-process.jpg\" alt=\"Market topping process is slow\" width=\"240\" height=\"124\" title=\"\">Last week, I penned <a title=\"Read May 21 blog post\" href=\"https:\/\/www.morpheustrading.com\/blog\/short-selling-stock-picks-may-2014\/\" target=\"_blank\" rel=\"noopener\">a blog post<\/a> that suggested stocks were headed lower\u00a0due to seemingly\u00a0bearish volume patterns in the NASDAQ Composite.<\/p>\n<p>Since then, the major indices have been\u00a0moving steadily <em>higher <\/em>instead, with the S&amp;P 500 index gapping to a fresh all-time high on May 27.<\/p>\n<p>Not surprisingly, stocks moving up while I suggested the possibility of them moving down led to\u00a0an assortment of emails from readers who were\u00a0quick to point out how &#8220;wrong&#8221; my analysis was.<\/p>\n<p>But here&#8217;s the<strong>\u00a0amusing irony of the situation.<\/strong><\/p>\n<p>The act of suggesting\u00a0I am &#8220;wrong&#8221; because the stock market has not yet fallen apart is actually wrong because&#8230;<\/p>\n<div id=\"ez-toc-container\" class=\"ez-toc-v2_0_85 counter-hierarchy ez-toc-counter ez-toc-custom ez-toc-container-direction\">\n<div class=\"ez-toc-title-container\">\n<p class=\"ez-toc-title\" style=\"cursor:inherit\">TABLE OF CONTENTS<\/p>\n<span class=\"ez-toc-title-toggle\"><a href=\"#\" class=\"ez-toc-pull-right ez-toc-btn ez-toc-btn-xs ez-toc-btn-default ez-toc-toggle\" aria-label=\"Toggle Table of Content\"><span class=\"ez-toc-js-icon-con\"><span class=\"\"><span class=\"eztoc-hide\" style=\"display:none;\">Toggle<\/span><span class=\"ez-toc-icon-toggle-span\"><svg style=\"fill: #999;color:#999\" xmlns=\"http:\/\/www.w3.org\/2000\/svg\" class=\"list-377408\" width=\"20px\" height=\"20px\" viewBox=\"0 0 24 24\" fill=\"none\"><path d=\"M6 6H4v2h2V6zm14 0H8v2h12V6zM4 11h2v2H4v-2zm16 0H8v2h12v-2zM4 16h2v2H4v-2zm16 0H8v2h12v-2z\" fill=\"currentColor\"><\/path><\/svg><svg style=\"fill: #999;color:#999\" class=\"arrow-unsorted-368013\" xmlns=\"http:\/\/www.w3.org\/2000\/svg\" width=\"10px\" height=\"10px\" viewBox=\"0 0 24 24\" version=\"1.2\" baseProfile=\"tiny\"><path d=\"M18.2 9.3l-6.2-6.3-6.2 6.3c-.2.2-.3.4-.3.7s.1.5.3.7c.2.2.4.3.7.3h11c.3 0 .5-.1.7-.3.2-.2.3-.5.3-.7s-.1-.5-.3-.7zM5.8 14.7l6.2 6.3 6.2-6.3c.2-.2.3-.5.3-.7s-.1-.5-.3-.7c-.2-.2-.4-.3-.7-.3h-11c-.3 0-.5.1-.7.3-.2.2-.3.5-.3.7s.1.5.3.7z\"\/><\/svg><\/span><\/span><\/span><\/a><\/span><\/div>\n<nav><ul class='ez-toc-list ez-toc-list-level-1 ' ><li class='ez-toc-page-1 ez-toc-heading-level-2'><a class=\"ez-toc-link ez-toc-heading-1\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#Market_Topping_Is_A_Process_Not_An_Event\" >Market Topping Is A Process, Not An Event<\/a><\/li><li class='ez-toc-page-1 ez-toc-heading-level-2'><a class=\"ez-toc-link ez-toc-heading-2\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#4_Key_Warning_Signs_For_Savvy_Traders\" >4 Key Warning Signs For Savvy\u00a0Traders<\/a><ul class='ez-toc-list-level-3' ><li class='ez-toc-heading-level-3'><a class=\"ez-toc-link ez-toc-heading-3\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#_1_Strong_Long_Bond\" >\u00a01.) Strong Long Bond<\/a><\/li><li class='ez-toc-page-1 ez-toc-heading-level-3'><a class=\"ez-toc-link ez-toc-heading-4\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#2_NASDAQ_Head_Shoulders\" >2.) NASDAQ Head &amp; Shoulders<\/a><\/li><li class='ez-toc-page-1 ez-toc-heading-level-3'><a class=\"ez-toc-link ez-toc-heading-5\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#3_Bouncing_Up_Not_Breaking_Out\" >3.) Bouncing Up, Not Breaking Out<\/a><\/li><li class='ez-toc-page-1 ez-toc-heading-level-3'><a class=\"ez-toc-link ez-toc-heading-6\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#4_Wimpy_S_P_500_Breakout\" >4.) Wimpy S&amp;P 500 Breakout<\/a><\/li><\/ul><\/li><li class='ez-toc-page-1 ez-toc-heading-level-2'><a class=\"ez-toc-link ez-toc-heading-7\" href=\"https:\/\/morpheustrading.com\/blog\/stock-market-topping-process\/#No_Harm_No_Foul\" >No Harm, No Foul<\/a><\/li><\/ul><\/nav><\/div>\n<h2><span class=\"ez-toc-section\" id=\"Market_Topping_Is_A_Process_Not_An_Event\"><\/span>Market Topping Is A Process, Not An Event<span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>With the exception of monumental, one-day market crashes that happen once in a blue moon, bull markets that are topping undergo\u00a0a drawn-out process that usually takes at least several months before bearish momentum <em>finally<\/em> takes over and a new downtrend emerges.<\/p>\n<p>The longer the bull market has been in place, the more it tries to stand its ground by kicking and screaming.<\/p>\n<p>Considering that US stocks have been in a <em>5-year bull market<\/em>,\u00a0it would be <strong>unreasonable to expect such bullish momentum to change overnight.<\/strong><\/p>\n<p>Therefore, even though\u00a0price momentum has been favoring the bulls lately, I maintain my stance that it is <em>dangerous to be heavily invested<\/em> on the long side of the market right now.<\/p>\n<p>Furthermore, I continue to believe equities\u00a0(particularly NASDAQ stocks) are headed <strong>considerably\u00a0lower in the near to intermediate-term.<\/strong><\/p>\n<p>As always, this objective assessment is based on<em> what I see, NOT\u00a0what I think!<\/em><\/p>\n<p>And right now, I plainly see&#8230;<\/p>\n<h2><span class=\"ez-toc-section\" id=\"4_Key_Warning_Signs_For_Savvy_Traders\"><\/span>4 Key Warning Signs For Savvy\u00a0Traders<span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>If you are a skilled daytrader who is quickly in and out of the market every day, you&#8217;re probably not very concerned about major stock\u00a0market trends and can therefore ignore the rest of this article.<\/p>\n<p>But if you are a swing trader or position trader who thrives on trend following (like me), you should at least be aware of 4 reasons why I feel a <strong>high level of caution is presently required<\/strong> on the long side of the market.<\/p>\n<h3><span class=\"ez-toc-section\" id=\"_1_Strong_Long_Bond\"><\/span>\u00a01<strong>.) Strong Long Bond<\/strong><span class=\"ez-toc-section-end\"><\/span><\/h3>\n<p>In the\u00a0May 28 issue of my <a title=\"Subscribe to The Wagner Daily\" href=\"https:\/\/www.morpheustrading.com\/services\/swing-trade-alerts\" target=\"_blank\" rel=\"nofollow noopener\"><em>Wagner Daily<\/em> newsletter<\/a>, I said, &#8220;Are institutions running from the stock market and into bonds? After an ugly 1.5 year selloff, $TLT (iShares 20+ Year Treasury Bond ETF) has put in a bullish trend reversal, with the 10-week MA crossing above the 40-week MA back in March.&#8221;<\/p>\n<p>Take a look at the daily chart of $TLT below:<\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"alignnone wp-image-4002\" src=\"https:\/\/www.morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528TLT21.png\" alt=\"$TLT rallying towards new highs\" width=\"800\" height=\"647\" title=\"\" srcset=\"https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528TLT21-110x89.png 110w, https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528TLT21-300x242.png 300w\" sizes=\"auto, (max-width: 800px) 100vw, 800px\" \/><br \/>\nBecause government treasury bonds are usually considered to be a defensive &#8220;safe haven&#8221; to stash funds in weak equity markets, there is frequently an inverse correlation between stock and bond prices.<\/p>\n<p>Obviously, this inverse price correlation between stocks and bonds is <em>not <\/em>always present.<\/p>\n<p>However, it is indeed <strong>extremely rare is for stocks and bonds to simultaneously be trading at or near 52-week highs.<\/strong><\/p>\n<p>Other astute traders are also apparently intrigued by this situation, such as well-known Twitter trader @ivanhoff, who subsequently tweeted the following:<\/p>\n<blockquote class=\"twitter-tweet\" lang=\"en\"><p>When was the last time when both US Treasuries and the S &amp; P 500 were at 52-week highs? We&#8217;re almost there. <a href=\"https:\/\/twitter.com\/search?q=%24TLT&amp;src=ctag\" target=\"_blank\" rel=\"noopener\">$TLT<\/a> <a href=\"https:\/\/twitter.com\/search?q=%24SPY&amp;src=ctag\" target=\"_blank\" rel=\"noopener\">$SPY<\/a><\/p>\n<p>\u2014 ivanhoff (@ivanhoff) <a href=\"https:\/\/twitter.com\/ivanhoff\/statuses\/471657293138767872\" target=\"_blank\" rel=\"noopener\">May 28, 2014<\/a><\/p><\/blockquote>\n<p><script src=\"\/\/platform.twitter.com\/widgets.js\" async=\"\" charset=\"utf-8\"><\/script>Thankful for not keeping me in suspense for too long and saving me a bit of research time, @ivanhoff followed up with this tweet:<\/p>\n<blockquote class=\"twitter-tweet\" lang=\"en\"><p>\nThe last time US Treasuries and the <a href=\"https:\/\/twitter.com\/search?q=%24SPX&amp;src=ctag\" target=\"_blank\" rel=\"noopener\">$SPX<\/a> were making new 52wk highs together was in the mid 90s. <a href=\"https:\/\/t.co\/8WagMzoBRd\">https:\/\/t.co\/8WagMzoBRd<\/a> \u2014 ivanhoff (@ivanhoff) <a href=\"https:\/\/twitter.com\/ivanhoff\/statuses\/471693722909147136\" target=\"_blank\" rel=\"noopener\">May 28, 2014<\/a>\n<\/p><\/blockquote>\n<p><script src=\"\/\/platform.twitter.com\/widgets.js\" async=\"\" charset=\"utf-8\"><\/script><br \/>\nWhile this curious situation of simultaneous strength in stocks and bonds <em>could<\/em> continue indefinitely (always remember <em>anything<\/em> is possible in the stock market), I personally believe the substantial money flow into bonds is the result of banks, mutual funds, hedge funds, and other <strong>institutions decreasing their equity exposure<\/strong>, perhaps as a precursor to a serious sell-off in the coming weeks\/months.<\/p>\n<h3><span class=\"ez-toc-section\" id=\"2_NASDAQ_Head_Shoulders\"><\/span>2.) NASDAQ Head &amp; Shoulders<span class=\"ez-toc-section-end\"><\/span><\/h3>\n<p>In my April 28 blog post, I pointed out the bearish head and shoulders chart pattern that was forming in\u00a0$QQQ (NASDAQ 100 ETF).<\/p>\n<p>Fast forwarding to one month later, $QQQ has grinded\u00a0all the way back to\u00a0test the &#8220;head&#8221; of the chart pattern, thereby decreasing the odds of the bearish pattern following through to the downside (but now creating the <strong>possibility of a <a title=\"Definition of a double top pattern\" href=\"https:\/\/stockcharts.com\/school\/doku.php?id=chart_school:chart_analysis:chart_patterns:double_top_reversal\" target=\"_blank\" rel=\"noopener\">double top<\/a><\/strong> being formed).<\/p>\n<p>Further, it&#8217;s important to note\u00a0the broader-based NASDAQ Composite Index has been showing relative weakness to its large-cap brother,\u00a0the NASDAQ 100 Index.<\/p>\n<p>As such, the NASDAQ Composite\u00a0is only just now forming the &#8220;right shoulder&#8221; of a head and shoulders\u00a0topping pattern:<\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"alignnone wp-image-4010 size-full\" src=\"https:\/\/www.morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528COMPX2.png\" alt=\"NASDAQ head and shoulders\" width=\"797\" height=\"601\" title=\"\" srcset=\"https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528COMPX2-110x82.png 110w, https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528COMPX2-300x226.png 300w\" sizes=\"auto, (max-width: 797px) 100vw, 797px\" \/><\/p>\n<p>On May 27, the NASDAQ Composite jumped 1.2%, but that rally put the index right at key resistance of the top of the &#8220;left shoulder&#8221; shown on the topping pattern that is in play on the chart\u00a0above.<\/p>\n<p>For this\u00a0bearish pattern to remain intact, the <strong>price action should not run too far above the high of the left shoulder <\/strong>before reversing back down (<a title=\"3 nuances of the best head and shoulders patterns\" href=\"https:\/\/www.morpheustrading.com\/blog\/3-reasons-sell-short-qqq-nasdaq-etf\/#hs\" target=\"_blank\" rel=\"noopener\">click here<\/a> to learn\u00a0more nuances of the most reliable head and shoulders patterns).<\/p>\n<p>A move to the 4,300 level (above the high of the left shoulder) would be excessive and would probably\u00a0kill the pattern.<\/p>\n<p>However, even if the NASDAQ\u00a0is able to push through the high of the left shoulder and thereby invalidate the head and shoulders pattern, a <em>double top<\/em> type of pattern would then be in play (as with $QQQ at the moment).<\/p>\n<h3><span class=\"ez-toc-section\" id=\"3_Bouncing_Up_Not_Breaking_Out\"><\/span>3.) Bouncing Up, Not Breaking Out<span class=\"ez-toc-section-end\"><\/span><\/h3>\n<p>One major concern is there continues to be a <strong>lack of high quality growth stocks breaking out<\/strong> to new highs.<\/p>\n<p>Rather, many are simply just\u00a0now bouncing off support of their 50-day moving averages.<\/p>\n<p>One such example can be found on the daily chart of Michael Kors ($KORS) below:<\/p>\n<p><img decoding=\"async\" src=\"https:\/\/www.morpheustrading.com\/\/~rick\/\/charts\/2014\/140529KORS.png\" alt=\"$KORS bullish reversal action off the  50ma\" title=\"\"><\/p>\n<p>After reporting pre-market earnings on May 28, $KORS actually demonstrated bullish price action by reversing a steep opening loss and closing in positive territory.<\/p>\n<p>Nevertheless, the stock still must contend with an<strong>\u00a0abundance of overhead resistance<\/strong> because it is\u00a0merely bouncing off support of its (downward sloping) 50-day moving average and prior downtrend line. as opposed to breaking out to a new high.<\/p>\n<h3><span class=\"ez-toc-section\" id=\"4_Wimpy_S_P_500_Breakout\"><\/span>4.) Wimpy S&amp;P 500 Breakout<span class=\"ez-toc-section-end\"><\/span><\/h3>\n<p>Finally, I find it negative that the May\u00a027 breakout to a new record high in the S&amp;P 500 occurred on volume that was<em> approximately 30% lighter than average.<\/em><\/p>\n<p>On the chart of S&amp;P 500 SPDR ($SPY) below, you can see the light volume of the breakout by comparing the day&#8217;s volume with the green line at the bottom (50-day average volume):<\/p>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"alignnone wp-image-3998\" src=\"https:\/\/www.morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528SPY2.png\" alt=\"$SPY breakout to all-time high\" width=\"800\" height=\"645\" title=\"\" srcset=\"https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528SPY2-110x88.png 110w, https:\/\/morpheustrading.com\/blog\/wp-content\/uploads\/2014\/05\/140528SPY2-300x241.png 300w\" sizes=\"auto, (max-width: 800px) 100vw, 800px\" \/><\/p>\n<p>The <strong>best stock breakouts are accompanied by volume spikes <\/strong>in\u00a0which that day&#8217;s turnover swells to several hundred percent of its 50-day average volume level.<\/p>\n<p>Therefore, I view it as a warning sign that <em>volume could not even exceed the 50-day average level<\/em>, despite the price of the S&amp;P 500 jumping to an all-time high.<\/p>\n<p>When a stock or index is trading at a new high, a complete lack of overhead supply means it does not require much volume for the stock or index to continue moving higher.<\/p>\n<p>However, if the breakout occurred on measly volume, it only takes one bout of institutional selling for the breakout to fail because supply would easily overwhelm demand if breakout volume was light.<\/p>\n<h2><span class=\"ez-toc-section\" id=\"No_Harm_No_Foul\"><\/span>No Harm, No Foul<span class=\"ez-toc-section-end\"><\/span><\/h2>\n<p>If you have been following my blog and reading my moderately bearish analysis of the past several months, you may be under the impression I&#8217;ve been selling short everything under the sun\u00a0(and correspondingly suffering losses).<\/p>\n<p><strong>If that&#8217;s you, it&#8217;s okay. I forgive you. But you are actually wrong.<\/strong><\/p>\n<p>As explained in <a title=\"How To Handle A Choppy Stock Market With \u201cSOH Mode\u201d\" href=\"https:\/\/www.morpheustrading.com\/blog\/how-to-handle-choppy-stock-market\/\" target=\"_blank\" rel=\"noopener\">this May 12 blog post<\/a>, the model portfolio of my nightly stock and ETF picking newsletter\u00a0(which is\u00a0<strong><a title=\"Sign up for The Wagner Daily newsletter\" href=\"https:\/\/www.morpheustrading.com\/services\/swing-trade-alerts\" target=\"_blank\" rel=\"nofollow noopener\">less than $2 per day<\/a><\/strong> based on annual rate) has largely\u00a0been positioned in cash due to choppy market conditions (capital preservation mode).<\/p>\n<p>Since my\u00a0trading strategy requires the presence of price confirmation before acting on any chart patterns (bearish <em>OR<\/em> bullish), <em><strong>I\u00a0have not yet shifted into a bearish short selling mode<\/strong><\/em> because prices have yet to confirm my\u00a0bearish analysis.<\/p>\n<p>Although I am fully prepared to start making short selling profits\u00a0<em>IF\u00a0<\/em>the market convincingly breaks down, I am equally prepared to bang out gains on the long side of the stock market (just as <a title=\"The Wagner Daily newsletter signup\" href=\"https:\/\/www.morpheustrading.com\/services\/swing-trade-alerts\" target=\"_blank\" rel=\"nofollow noopener\">my\u00a0newsletter<\/a>\u00a0was\u00a0doing before the recent cautionary shift).<\/p>\n<p>If the current rally is for real, new buy setups will emerge to carry the market higher, and there will be plenty of time to participate in the profits.<\/p>\n<p>But regardless of which way the market heads from here, the\u00a0bottom line is\u00a0<strong>I still\u00a0have no subjective bias, and continue to operate under the mantra of &#8220;Trade what I see, not what I think.&#8221;<\/strong><\/p>\n<p>If you do the same, your\u00a0trading account will thank you every time.<\/p>\n<div class=\"cfmonitor\" style=\"padding-top: 30px;\"><center><script src=\"\/\/pagead2.googlesyndication.com\/pagead\/js\/adsbygoogle.js\" async=\"\"><\/script><!-- Footer of content - Large --> <ins class=\"adsbygoogle\" style=\"display: inline-block; width: 336px; height: 280px;\" data-ad-client=\"ca-pub-7565144363001883\" data-ad-slot=\"6017996961\"><\/ins><script>\/\/ <![CDATA[\n(adsbygoogle = window.adsbygoogle || []).push({});\n\/\/ ]]><\/script><\/center><\/div>\n","protected":false},"excerpt":{"rendered":"<p>Not surprisingly, stocks moving up while I suggested the possibility of them moving down led to an assortment of emails from readers who were quick to point out how &#8220;wrong&#8221; my analysis was. But here&#8217;s the amusing irony of the situation. The act of suggesting I am &#8220;wrong&#8221; because the stock market has not yet fallen apart is actually wrong because&#8230;<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":"","_links_to":"","_links_to_target":""},"categories":[3],"tags":[],"class_list":["post-3996","post","type-post","status-publish","format-standard","hentry","category-stock-trading-strategy"],"_links":{"self":[{"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/posts\/3996","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/comments?post=3996"}],"version-history":[{"count":1,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/posts\/3996\/revisions"}],"predecessor-version":[{"id":11542,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/posts\/3996\/revisions\/11542"}],"wp:attachment":[{"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/media?parent=3996"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/categories?post=3996"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/morpheustrading.com\/blog\/wp-json\/wp\/v2\/tags?post=3996"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}