November 2009 Technical Outlook for Stocks

“Profit Confidential” Column, by special guest columnist
Anthony Jasanksy, P.Eng.

Last Thursday’s news that the U.S. economy grew at an annual rate of 3.5% in the third quarter, ending a string of four quarterly declines, gave the market a temporary pop. Whether it was just a knee-jerk reaction or some trading manipulation by Wall Street, it was short-lived and not enough to prevent the price indices from suffering stiff losses for the week.

What makes the losses more unsettling is that they occurred during a week when bullish news of revived growth in GDP was making headlines. I may also add that, in terms of the broad market, measured in terms of the important weekly changes in NYSE Advance/Decline Lines, the losses were even more extreme. Its chart shows that it was the worst week since March 2009.

I will refrain from adding my bit to the debate on whether the quarterly increase in GDP was the real McCoy or only the result of the massive fiscal stimulus. Just focusing on the market itself, I view the drop as a continuation of the correction of an extremely over-extended market. The rally from the March 2009 lows was an extreme reaction to a comparably extreme downside action, namely the October 2007-March 2009 meltdown that preceded it.

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In my last column, I had used the Head-and-Shoulder bottoming formation of the S&P500 as a technical tool to estimate the upside potential of the rally from the March 2009 lows. I had also noted that a normal and, in the jargon of Wall Street, a “healthy” pullback of the advance of the last seven months should not go deeper than 950-960 on the S&P 500. That is only seven to eight percent below Friday’s close.

In the near term, last week’s sell-off brought short-term indicators to oversold levels that, over the last seven months, coincided with the low points of temporary market dips. In the coming days and weeks, the failure of the market to start another short-term rally towards new 2009 stock market highs would signal that last week’s weakness was not just another dip, but a continuation of the correction of the big rally we have experienced from the March 2009 lows.