Scenarios

As I stated previously, I think we have seen the start of a bear market. Therefore, the rise from the beginning of July is a bear market rally. One thing I like to do is look at what the market did in some similar contexts in the past. I do not expect the market to act exactly the same now but it gives me an unbiased view of what can happen. In this post I will look at two rallies from the previous bear market.

I am using SPY charts because the intraday behavior is more evident.

Here is nowadays:

March-May 08:

The red box highlights the period most similar to what the market has been doing from the beginning of August 2010. There is an initial rally on the 1^st of April, a period of distribution and then a correction with a big gap down and continuation on April the 11^th (August the 11^th nowadays). I circled in green the day where we are now. This analogy portends a rally to higher highs from these levels.

July-September 08:

Again there is an initial rally, a consolidation, a correction and a day after the big move down that would be yesterday’s correspondent (circled in green). A move up follows but no higher highs.

So, which one will it be this time? Is the market going to make higher highs?

Here’s an update on one of the indicators I introduced before. Note that it has reached the overbought level for bear markets (green circle) and it has fallen sharply. In the previous bear market after this kind of a fall the rally never made it to higher highs.

On the either hand the bearish sentiment in the media is extremely high. Also, the 5 day EMA of the put/call ratio (chart below) hasn’t reached overbought levels (green line). This suggests to me that a bigger rally is in the cards that would probably take us to higher highs.

Since I tend to trust sentiment indicators the most, I will go with the scenario of a move to 1150 for now but I will keep my eyes open for any additional evidence that would negate it.