Opinion: S&P 500 charts are telling stock investors to downshift into a slower gear

There is an implicit “put” (a protection from losses) in the stock market: That the Federal Reserve will start buying stocks if things get worse. The Fed has already announced it will buy corporate and municipal bonds, in addition to Treasuries.

Beyond the Fed, what other potential good news is there?

There is news from Oxford scientists in the U.K. They will test a coronavirus vaccine on more than 6,000 people by the end of next month and plan to have several million doses available by September if successful. This fast schedule could lead to an explosive rally (on top of the current rally). Please see “A treatment for the coronavirus would be priceless — and worth about 5,000 points in the Dow Jones Industrial Average.”

Does this mean you should rush out and buy stocks? The answer is “no.” Let’s explore with the help of two charts.

Two charts

Please click here for an annotated chart of the Dow Jones Industrial Average ETF DIA, +0.51%, which tracks the Dow Jones Industrial Average DJIA, 0.50%.

Please click here for an annotated chart of the S&P 500 ETF SPY, +0.40%, which does the same for the S&P 500 SPX, 0.38%.

Note the following:

• The first chart is monthly, giving a longer-term perspective. This chart should always be the starting point of any stock market analysis.

• The second chart is daily, giving a short-term perspective of the stock market.

• Stock market investors should do analysis in multiple time frames. Please see “The biggest mistake stock market investors are making now — failing to look ahead.”

• RSI (relative strength index) represents internal momentum of the stock market.

• The first chart shows that RSI, represented by the green line, has moved out of the oversold zone and is now about to give a buy signal when it crosses the orange line, which represents a moving average of the RSI.

• The first chart shows that the stock market is at the bottom band of the resistance zone. Historically, markets tend to pull back after a slight penetration.

• The second chart shows RSI divergence. In plain English, this means that as the stock market has risen, RSI is lower than the prior high. This is a negative in the short term.

• The second chart shows that volume is dropping. This is a negative.

• The second chart shows that the stock market is attempting to break out of mini-resistance. Often breakouts from a similar pattern fail.

What does it all mean?

Money printing and borrowing is not sustainable in the long term and poses serious risks. The economy opening up is good news, but it is not likely to be a smooth road ahead unless there is a successful vaccine.

Investors ought to be nimble, watch the reaction to earnings of five large-cap tech leaders — Amazon AMZN, -1.72%, Apple AAPL, -0.58%, Microsoft MSFT, -1.39%, Alphabet GOOG, -2.10% GOOGL, -2.07% and Facebook FB, -1.50% — and resist getting caught up in a fixed bullish or bearish view.

That last point is important. Based on my over 30 years’ experience in the markets, I suggest that investors neither be bearish nor bullish, but evaluate the data as they come. Investors ought to follow the framework of so-called protection bands and strategically buy when stock and ETFs dip into buy zones. In addition, investors who are trading-oriented should consider taking advantage of short-term trading opportunities when the setups are right. Please see “Stock market investors are asking ‘should I buy or sell?’ Here’s how to decide” to learn more.

Answers to your questions

Answers to some of your questions are in my previous writings. You can access them here.

Disclosure: Subscribers to The Arora Report may have positions in the securities mentioned in this article or may take positions at any time. Nigam Arora is the founder of The Arora Report, which publishes four newsletters. He can be reached at Nigam@TheAroraReport.com. 

Originally Published on MarketWatch