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As we have stated many times, one of the primary
objectives of the Fed's quantitative easing (QE) policy is to attempt to
reinflate asset prices in order to improve global balance sheets and restore
some semblance of the wealth effect. Some key S&P 500 levels can
help us monitor the health of the current bull market and the effectiveness
of the Fed's QE experiment.
Traders, investors, and trading algorithms have good
memories, especially when it comes to potentially important levels in the
financial markets. Based on recent market action, it appears as if their
memories have zeroed in on the 190-week, 210-week, and 275-week moving
averages. Using weekly charts going back to 2004, we will show one way to
monitor the current battle between the bulls and the bears. Based on the
actions of buyers and sellers in recent years, a weekly close below 1,175
would increase the downside risks in the intermediate-term. From a bullish
perspective, a weekly close above 1,219 would be a welcome sign. A weekly
close above 1,200 also represents a step in the right direction for the
bulls.
The chart below shows the moving averages that are
currently important to traders, money managers, and investors. The green
arrows indicate areas where buyers stepped in near these moving averages
(MAs). The red arrows show areas where the MAs sparked some selling pressure.
This analysis was completed prior to the S&P 500's big rally on December
1st. The 25 point gain supports the significance of the moving averages
studied here since the market held near a key level. All charts are as of the
close on November 30, 2010.
The following charts will break the chart above into
smaller segments allowing us to take a closer look at the past behavior of
market participants. The chart below is in the context of an ongoing bull
market. Notice how the MAs only slowed the market's primary uptrend;
eventually the primary trend won out as the MAs were cleared.
During the bear market of 2007-2009, the 190, 210, and
275-day moving averages acted as a temporary barrier before the primary
downtrend was able to break out to the downside in September of 2008.
If we fast forward to the present day, we see these moving
averages have been important in both April 2010 (red arrow) and over the last
eight weeks.
This band of resistance from the three MAs (green, red,
and blue lines above) represents a significant test for both the current bull
market and the Fed's quantitative easing (QE) policy. A significant market
failure at the band formed by the 190, 210, and 275-week moving averages may
indicate global deflationary forces are stronger than the Fed's printing
press. A typical bull market would pause near these barriers, but eventually
the primary uptrend would carry stocks to higher highs. Since the present day
is far from typical, we need to monitor the situation with an open mind.
Our guess is any significant market weakness will be met
with stepped up money-printing rhetoric from the Fed and other central
bankers. As we mentioned in 2010-2011 Investment Contingency Plans, the Fed represents a
wild card for money managers and investors if asset prices weaken
significantly again. Prior to making asset allocation decisions for 2011, it
is important to understand the Fed's QE process and policy objectives. Past
commentary related to the Fed, quantitative easing, asset inflation, the wealth
effect, and balance sheets can be found on this QE
resources page.
Moving back to the present day S&P 500, if 1,175 can
hold, a subtle, but important shift may be taking place paving the way for
the next leg up in asset prices. All bets are off if the market fails to hold
1,175 or near the 190-week moving average.
Chris Ciovacco
Ciovacco Capital
Chris Ciovacco is the Chief Investment Officer for Ciovacco Capital
Management, LLC. More on the web at www.ciovaccocapital.com
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