Today is December Options Expiration. This is a quadruple witching day when market index futures, market index options, stock options and stock futures all expire.
At the close yesterday, a whopping 91% of the Russell 3000 stocks are in some form of bearish decline! 56% of the Russell 3000 are trending fully bearish. If today’s prices hold until the end of the year–then we will have just witnessed the worst one-month decline since the last secular bear market ended in 2009.
So, with those gloomy (for market bulls) stats in hand, I thought it might be interesting to illustrate a point that could be very helpful for those trying to wrap their heads around what is happening–and to have a clear vision of how to deal with what comes ahead…
click image to enlarge
I have an important question for you…
Would you BUY the stock shown in the chart above? Now, don’t just hurry along to the next paragraphs and miss this great opportunity. Look very carefully at the chart above–especially at the range envelope boundaries. What do you see as you compare the price bars with those boundaries? Ask yourself a question–if you could go back in time with nothing but this chart as a guide, would you be able to skillfully manage entries and exits? If so, how would you do it?
What do YOU see here?
click image to enlarge
Here’s a different format of the same chart above–but this time I have exchanged the candlestick bars with a gray line representing the closing price. Do you see anything that pops out at you yet?
Ok, so one more look at the same chart–but this time I have replaced the gray line with tiny points that represent the closing price–so that the range envelope channels are prominently featured.
Think about how I always define a bull and bear market…
- A bull market is a series of higher highs and higher lows.
- A bear market is a series of lower highs and lower lows.
Now do you see it?
Here’s a hint… look at the exact spots where the range envelopes reversed directions. What HAD to happen to make those range envelopes stop trending one way and then reverse in the other direction?
Ah, you say to yourself. Now I see it! In order for the trend to change direction, price HAD to cross from one side of the channel and then break out through the other side.
That my friends, is the absolute beauty of the range envelope strategy for analysis. Look how well it works in the images above!
Bull = higher highs and higher lows, Bear = lower highs and lower lows.
Now, back to my original question (and to answer please refer back to the very first chart representation above that shows the candlestick bars)…
Would YOU buy the stock shown in the chart above?
click image to enlarge
So, here’s my take, with notes that correspond to the blue numbers on the chart above…
- The market was clearly in a bullish uptrend. This is where the second higher low stopped pushing the lower range envelope lower and began to head towards the other side of the range. Once price stopped pushing the lower range envelope down the range envelope flat-lined and when it later broke out above the previously descending upper range envelope it quit descending and started to go higher (higher highs).
- The market peaked and began to rapidly pull away from the top channel which, like at point one, caused the top rail to stop rising and instead flat line. That was the end of ‘higher highs’.
- A monthly counter-trend sell confirmation came when price broke below the previous month’s low. This counter-trend move next targeted the lower rail.
- The lower rail was pierced here, which stopped the higher lows and began the process of building new lower lows while simultaneously dragging the higher channel rail lower. Voila! Lower highs and lower lows was the start of a trending bear market.
- A major counter-trend bullish rally rose to just touch the top rail–and then reversed to rejoin the trending bearish downtrend.
- The traditional bullish trendline was broken here, but long after the initial trend changes described above. Once that trendline broke–everyone else headed for the exits and the rout was on.
- The next major counter-trend rally in the bear market again perfectly touched the top rail and then reversed to rejoin the bearish trend.
- The market bottomed (actually a double bottom complete with a stop sweep/reversal) and then started to move away from the bottom rail targeting the top rail. The bottom rail has begun to flatline.
- The counter-trend rally was confirmed on a cross of the previous monthly high at the green line. Note that this was a mirror image of what happened at the previous top.
The last VERY IMPORTANT event was a cross ABOVE the range envelope top rail. So long as price continues to hang out on this side of the range envelope high, we have the start of a trending bull market. The range envelope will now start a new ‘V’ and barring a cross back under the range envelope high, this is the start of a new bull market.
For this new bullish launch to be short-circuited we would need to see a range envelope counter-trend sell starting with a break below the range envelope high–and then followed by a break below the last month’s low for confirmation. Got that?
Now that you have been focusing hard on analyzing the chart above and should have reached you own conclusion, let’s look at the same question from a completely NEW (actually old) perspective…
It’s been a while since I have sprung this logic trick on you guys, so let me explain why I am doing this…
Almost all of us have a pre-conceived bias when it comes to judging the markets. Most people have been conditioned to see the market from a bullish bias, and with good reason. We have been in a massive secular bull market since 2009 and up until the recent top–being consistently bullish has worked! Something happened recently that froze many investors in their tracks and it is illustrated perfectly in the chart above.
click image to enlarge
That chart that you have been focusing on above is ACTUALLY the same S&P 500 Futures Options monthly bar chart that I display constantly here.
…Except I have flipped the chart vertically to invert the prices and colors!
If you concluded that the first set of reversed chart images above was a ‘buy’, then now, to stay consistent, you MUST reverse that assumption when applying the same logic to the actual chart above.
So, as Paul Harvey used to say… Now you know the rest of the story!
Just reverse my analysis points of the inverted chart and that’s where I am at.
Stops and Targets has nailed every step of this reversal starting with the top spotter, then the subtle counter-trend sells in each timeframe, and then the hard sell signals when the trends changed on a cross under the range envelopes.
I tell you, I absolutely love Stops and Targets.
Always keep a close eye on those range envelope signals. It is bear country so long as we are below the range envelope lows–but the first sign of a counter-trend rally will be a close above the range envelope low, and that would be followed by a close above the short-term stop/reverse line to trigger the first short-covering buy to cover signal for bears. See how that works?