Nasdaq May Retreat 11% after Reaching 3000: Charts

Tuesday, 22 Feb 2011 | 12:58 AM ET

It has taken 16 months, including a significant retracement, but the Nasdaq has added more than 100 percent since the 2009 lows. It’s an excellent performance if we ignore the pullback from 2550 to 2100 in the middle of 2010. The key question whether the index continue its runup, or if another significant pullback and consolidation are a higher probability.

The Nasdaq chart has two significant features. The first is the previous high in 2007 near 2850. This provides a psychological barrier. It has no historical chart based confirmation. In 1998, the market quickly rose through this level on its way to 5100, only to stage a spectacular crash in the year 2000, plunging towards 1100 without pause. This suggests the 2850-level will provide only limited resistance to the rising trend. Limited consolidation may develop around this area.

A sustained move above 2850 does not carry the index into blue-sky territory. The Nasdaq reached 5100 so there’s ample historical index activity available to help establish resistance levels for the rising trend. Historically, the first of these is near 3100. This was the limit of the first dip in May 2000. The market rallied from this level before falling again and dropping below this point. The limits of this dip near 3100 provide a long-term resistance level for the current rising trend.

The consolidation band dips that occurred in 2010 also provides the basis for another method of calculating upside targets. The more recent consolidation band stretched from support near 2100 to resistance near 2550. These are not exact levels, but they rapidly capture the consolidation behavior of the Nasdaq in 2010. The width of these levels is measured, and then projected upwards to provide an initial, upside target near 3000.

These two elements suggest the NASDAQ can develop consolidation in the area between 3000 and 3100. Consolidation is a sideways movement usually within a narrow trading band. A retreat pattern is more challenging because it can drop the market 10% or more. The 2010 drop from 2550 to 2100 was a 17 percent retracement that signaled the end of the previous 2009 uptrend. This is a substantial downtrend and a number of significant trend reversal signals were generated.

A similar retreat from 3000 towards the value of the upper edge of the long term Guppy Multiple Moving Averageprojected at around 2650 represents an 11 percent retreat. This remains within the context of the longer term uptrend, but it’s a substantial reduction in profits. Such an 11 percent retreat does not come with a guarantee that it is followed by a rebound. Investors and traders need to develop appropriate hedging strategies should they decide to ride out this type of retracement.

Traders will also be alert for the development of significant trend reversal patterns as the market approaches the 3000 to 3100 target level. The most powerful of these patterns is the head and shoulder trend reversal patterns. These are distant warning signals so for now the focus is on the movement above 2850 and the potential to head towards 3000 to 3100.

Daryl Guppy is a trader and author of Trend Trading, The 36 Strategies of the Chinese for Financial Traders –www.guppytraders.com. He is a regular guest on CNBCAsia Squawk Box. He is a speaker at trading conferences in China, Asia, Australia and Europe.

If you would like Daryl to chart a specific stock, commodity or currency, please write to us at ChartingAsia@cnbc.com. We welcome all questions, comments and requests.

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