Charting Asia

S&P 500 Break Above 1,360 May Signal New Rally: Charts

So the US debt threat has been resolved. Believe that and there is a fair chance you still believe in Santa Clause and fairies at the bottom of the garden. The US debt problem has been deferred, not resolved. Its been deferred by an approved application for yet another national credit card.

Markets understand this, which is why the DOW and S&P all closed in the red after an initial 30-minute relief rally on Monday. In the short term there will be more relief rallies, but these will find it difficult to develop the sustained momentum necessary to create a new trend.

This is a do-nothing result and the behavior of the broad indexes continue to suggest indecision tinged with fear. The short-term pressure remains bearish with markets locked in a board sideways trading pattern. Is this broader thinking supported by chart analysis? This is best assessed with a weekly chart, which strips out the daily background noise.

The S&P 500 is a broader measure of market activity. There are three significant chart features.

The first feature is the trading band or range. This is a range bound market. The support level is near 1,260. This has defined the limits of downside activity for most of 2011. The upper range of this band is near 1,350, although there was a breakout to 1,360.

This trading range is 8 percent wide. It provides limited opportunities for trend trading. This gives good short-term rally trading opportunities. A break above 1,360 is required before a new uptrend is confirmed.

The second feature is the strength of the underlying longer-term trend. This is shown with the Guppy Multiple Moving Average indicator. The long-term group is well separated and this suggests good trend support. The market slowdown has meant a sideways drift but unlike the July 2010 period, this has not seen a compression in the long term GMMA. This gives a more bullish underpinning than suggested by the daily chart with its volatile movements.

The third feature is contradictory. On the weekly chart we see a broader long-term head and shoulder pattern. The peak of the right shoulder is near 1,350. A rise above this level invalidates this longer-term pattern.

On balance, the chart analysis suggests a bullish outlook in the sense that there are no strong patterns of trend reversal.  However, there are no strong chart patterns, which suggests a rapid resumption of an uptrend with a sustained move above 1,360.

The first consequence of this is that traders can expect continued volatility within the context of the broader trading band. There is more confidence in trading from the long side because the long term GMMA shows broad investor support for a rising trend. Compression in this group would confirm indecision and investor selling.

The consequences include a continued weakness in the US dollar. This is driven both by the deferral of any serious effort to handle the credit crisis, which in turn is reflected in the continuing threat by rating agencies to downgrade US debt. Narrowly avoiding a default is not the same as having an unquestioned ability to avoid a default. This posturing has undermined previously firm notions of sovereign credibility and those impacts will flow through forex markets and interest rate markets.

Often chart analysis will give a clear indication of market behavior. The current debt threat situation does not provide that clarity. For traders this confirms volatility-based opportunities. For investors it confirms the need for caution and careful stock selection. When chart analysis differs from other analysis conclusions, I have found it more reliable to rely on chart analysis – even if it is counter–intuitive.

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

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