TSP Talk: Head & Shoulders Everywhere

Good morning! It’s your weekly dose of TSP Talk.

Stocks were mostly lower on Friday, while bonds rallied after a weaker than expected Consumer Confidence report. The C fund dropped 0.4%, the S fund was relatively flat, the I fund lost 0.74% after some strength in the dollar, and the F-fund (bonds) was up a respectable 0.5%.

This bear market has produced a series of head and shoulders (H&S) patterns. The bull market peak in 2007 ended with an H&S, and if you recall back in 2008, we saw a break from a very large H&S pattern. It was an ominous chart and with the S&P sitting near 1200, we made a prediction that the initial downside target for S&P 500 might be the 1000 area. We were pretty close, although we all know that the downside action continued for several more months.

It turned out that after the S&P dropped below our initial target, that 1000 area (actually closer to 960) acted as resistance on the way back up. The rally in December found resistance there, and that is right about where it was just before this recent pullback.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

But something interesting is happening. A closer look in the chart below shows us that the initial target area near 960 is also looking like the neckline of another large inverse H&S (marked “B”). Inverse H&S patterns can be bullish, but they tend to be more bullish in a bull market. In a bear market, both an H&S and an inverse H&S can have a poor outcome, but at least there is some hope for a bullish case out there.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

I have been talking about the current H&S pattern, the one that started in May (marked “C” above) and looking at these longer-term charts, it (the current H&S) is just a small pattern within the right shoulder of the larger inverse H&S (“B”), so it is not of great significance to the long-term picture just yet. This small H&S (“C”) has broken and we recently called for an initial target of 800-810. 800 would actually be a good place for the inverse H&S (“B”) to finish the downside of a right shoulder (RS).

That was kind of confusing, but I hope you followed.

The last “Wall Street Sentiment Survey” (considered “smart money) posted on www.decisionpoint.com, saw something out of the ordinary. For the 2nd time in four weeks the bullish percentage, those polled who were bullish on stocks, was 0%. Back in June it did produce a quick pullback, and so did the one from July 2. A new poll was taken this past Friday but the results haven’t been posted yet.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

This could all change with the new survey results, but I am viewing this as the smart money getting more and more defensive; wanting to be quick to sell any rally. With the S&P having fallen about 50-points since that June 2 survey, I wouldn’t be surprised to see this smart money bullish percentage move up toward 25 or 30, but it would likely drop again if we get a bounce.

This all goes along with what we were saying last week. The charts look bad, but the market is oversold and market sentiment from the “dumb money” is getting quite bearish, which might be bullish for stocks in the short-term. I can see a possible “bounce” to 925-930 from here.

That said, it is a very dangerous market and defense might be your best option. If you do put your offense on the field, be careful. We still see 800 as a minimum downside target for the S&P 500 this summer.

That’s all for today. Thanks for reading. This market commentary is updated daily on www.tsptalk.com.

Tom Crowley
TSP Talk