The head and shoulder pattern on the Dow achieved its exact target projections. This was followed by a period of L-shaped consolidation activity. The weekly close above 11,600 was clear evidence the L-shaped consolidation breakout was confirmed. The initial upside target for the breakout was near 12,300. This was calculated by using the projected value of the head and shoulder neckline.
A move above this level gave an upside target near 12,600, which was calculated by taking the width of the L-shape consolidation band and projecting it upwards. The lingering influence of the head and shoulder pattern neckline proved more powerful.
The retreat from 12,300 was rapid and it has tested support near 11,600. In the longer term this is a sustainable breakout with a target near 12,600. Getting to that target level will be more difficult because of the resistance from the neckline projection. Using the slope of the neckline suggests the 12,600 target is achievable in January 2012.
The relationship with the Guppy Multiple Moving Averages (GMMA)indicator suggests this is a genuine and sustainable trend change. There are several factors in this analysis. First, the pattern of test and retest of the long term GMMA. This is shown as points 1 and 2 on the graph. The breakout above the upper edge of the long term GMMA is followed by successful test and rebound – point 3. This is quite typical of sustainable trend breakout behavior.
The second factor is the rapid compression in the long term GMMA and the turn upwards. This shows investors have reached agreement on price and value. That is illustrated by the compression behavior. The key test in coming weeks is the ability of the long term GMMA to absorb selling pressure. A widening of this group confirms investors have entered the market as buyers.
The Relative Strength Index(RSI) divergence also confirmed the strong potential for a sustainable trend change. The trend line joining the two major lows on the RSI moves in the opposite direction to the trend line joining the two corresponding major lows in the Dow index . This divergence signal is a leading indicator of a trend reversal.
Generally it is not so useful for timing, and it gives little information about the strength and sustainability of the new trend. However, when combined with the change in GMMA relationships it provides a valuable leading signal of trend breakout.
It’s too early to plot a valid trend line to define the new rising trend. Another set of retreat and rebound points is required for good trend line placement although this may develop in the next 5 to 10 days.
The L-shaped consolidation pattern targets remain the long term target level near 12,600. The danger is that these may represent temporary highs rather than a trend continuation pattern so investors will be alert for developing consolidation and weakness near the 12,600 level. This may include a bearish RSI divergence pattern.
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 CNBC's Asia 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.
CNBC assumes no responsibility for any losses, damages or liability whatsoever suffered or incurred by any person, resulting from or attributable to the use of the information published on this site. User is using this information at his/her sole risk.