Stock market charts point to more trouble ahead: Small-cap stocks close to 'death cross'

  • When the stock market's direction is especially uncertain, stock charts can be road maps, and now some are sending warnings.
  • The S&P 500 closed below its 200-day moving average for a second day Tuesday, the sign of a possible trend change, while the small-cap Russell 2000 appears to be heading for a negative "death cross" formation.
  • Market bellwether Apple closed below its 200-day moving average Tuesday, and if it stays there, strategists say it could take another leg lower and signal more negative sentiment for tech and the broader market.

Even as stocks seemed steadier on Tuesday after Monday's big sell-off, some charts still look very dicey to technical analysts, who warn of more possible losses to come.

For instance, the S&P 500 index closed below its 200-day moving average, a key measure, on Tuesday for a second day, in a sign of a possible trend change. That moving average is no longer pointed upward and is descending, in another negative sign for analysts who follow the charts.

And the small-cap Russell 2000 index looks to be heading for a scary negative chart pattern, called a "death cross."

"Other times when we had a death cross in the last five years, it's been an oversold buying opportunity," said Scott Redler, partner with T3Live.com. "You can't ignore the possible death cross in small caps, because in the last few weeks bearish signs have been working out."

"[The Russell] is right now in the crosshairs. It kind of had a V-bottom two weeks ago. The V could turn into a W, or it could lead the market lower. It's something to watch," he said.

The Russell chart would show a death cross if the shorter-term 50-day moving average falls below the longer-range 200-day moving average. In this case, the shorter-term 50-day of 1,615.81 is close to crossing down through a descending 200-day level of 1,615.514.

The 50-day has not crossed down through the 200-day on the Russell 2000 since September 2015, when the small-cap index closed at 1,146. The Russell then fell to a low of 953.72 by Feb. 11, 2016, when the broader stock market bottomed, resulting in a loss of 16.8 percent.

Death cross?

As for the S&P, Bespoke studied its history of dips below the 200-day moving average going back to 1928 and said unlike when it fell below in October, the S&P's latest move is below a moving average that is sloping lower.

"A common characteristic of bull markets is that equities often find support at upward sloping 200-DMAs, while a common bear market trend is that equities run into resistance at their downward sloping 200-DMAs," according to Bespoke.

The 200-day moving average is just what it sounds like — a rolling average of closing prices for the last 200 sessions. A move below it is sometimes seen as a sign of a trend change. In the case of the S&P 500, the 200-day is 2,762, and the S&P continued to trade below it on Tuesday.

Bespoke said historically the S&P has been positive both one week later and one year after falling below a downward sloping 200-day moving average. But gains in the year later averaged a small 1.7 percent, compared with an average S&P 500 return for all years of closer to 8 percent.

But the S&P's performance was choppy after falling below the 200-day. Its performance was negative on average a month later, three months later and also six months later, according to Bespoke.

On Tuesday, the S&P hit a high of 2,754 but failed to move back up toward the moving average, which now could be a zone of resistance for the market. "Instead of buying dips, investors are selling rallies," Redler said.

Source: Bespoke

Tech has also been tested. Apple, for instance, fell below its 200-day moving average Tuesday morning and struggled to hold above the $193.37 level all day. But Apple failed and closed below it, losing 1 percent to $192.23.

"We'll see in the next day or two if the 200-day can be reclaimed or not. If not it'll be an indicator that demand isn't there, and it will give us clues of lower prices to come, later this week or early next week. The next big support is closer to $180," said Redler.

"If they're not buying Apple, which is growth and value, they're not going to be in a rush to buy anything higher," said Redler.

Apple's ability to regain the moving average is also seen as a test for other tech names and even the broader market, since it is so widely held. Other tech and momentum names, such as Amazon, Netflix and Alphabet, also broke or are challenging their 200-day moving averages.

"At the sector level, Technology's weakness remains consistent with market leadership breaking in the late stages of a broader correction. Despite Monday's weakness, and as noted here last week, many bellwether names are holding/testing key support levels defined by rising 200-dma's. We expect the recent lows to hold and support rebounds into year-end," writes Robert Sluymer, Fundstrat technical analyst.

How the market resolves these chart patterns could decide how stocks trade into the end of the year. The fourth quarter had widely been expected to be a positive period for stocks, with the midterm election now past and the market looking forward to a typically strong seasonal time for stocks.

"In the overall sell-off going back to October, we broke the bull market uptrend dating back to 2016, but beneath the surface, there was probably some pretty damaging breakdown at the stock level," said Ari Wald, technical analyst at Oppenheimer. "We think this is a change in trend. ... We think we're in the process of moving from up to sideways within this range bound formation."

Wald said the market is "base building." "Yesterday's weakness was part of that. We're of the view we could still see a move to the upper end of the range, ahead of what could be a more difficult 2019," said Wald. "Any sign of strength is going to make some bigger divergences. At that point, you could make the case we go from sideways to down. We think 2019 is setting up to be a reset year."