S&P
500:
Examples of a Long-Term Analysis
June 14, 2005
We define a long-term trend
as a broad market trend that commonly persists over several quarters or even
several years. No matter what timeframe you trade – the short-, mid-, or
the long-term, our position is that you should always know about the market’s
prevailing long-term direction.
In our analysis we use
chart with a 2 year, 5 year, or even 10 year view to study long-term volume
surges. Such surges provide clues about the potential for long-term index
reversals. The appearance of such long-term volume surges that a large number of
shares is being transferred from one group of market participants to another.
It is at such inflection points that the market can become "overbought" or
"oversold".
A review of the events that
led to a previous long-term index reversal point will provide us with the
necessary perspective for an analysis of the current long-term market outlook.
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Chart #1: S&P 500
index 5-year chart. 2001-2005 |
 |
Chart 1 shows a number
of significant volume surges that appeared between 2001 and 2005. The buying
volume surges seen at points A and B are
mid-term surges to the downside. Ideally, they are best studied on a smaller
timeframe (i.e., a chart view spanning less than 2 years). We show these surges
here for comparative purposes - in order to contrast them to the much larger
buying volume surges at points C and D. Both in terms of
magnitude and duration, the surges that developed at points A and B
remain well below those seen at points C and D. It is not
surprising then to find that the S&P 500’s reaction to the surges at A
and B remained limited to a move of about 10 - 15%. In contrast, the
volume surges to the downside that occurred at points C and D have
both a higher magnitude and duration and they occurred over 4 months apart (at
the end of June 2002 and at end of November 2002). As a result, the cumulative
effect of these surges led to the establishment of a much stronger index
reversal and prompted a much more significant index move than the surges at
points A and B. In fact, the long-term uptrend they prompted is still ongoing
and now in its 3rd year. Thus far, the S&P 500 index has already gained more
than 20%.
Point E marks a
mid-term selling volume surge that peaked near the beginning of a long-term
uptrend. Typically, our volume methodology assigns less significance to
selling volume surges that appear at the beginning of long-term up-trends. Surge E disrupted the uptrend for only about 2 months. Compare this to
the selling volume surge at point F. It occurred much further along the
by then well-established uptrend and its impact on the uptrend was thus much
more pronounced. It halted the index’s advance for more than 7 months (i.e.,
from January - August 2004) and led to an index decline of over 6%.
We consider the two most
current volume surges – appearing at points G and H – as a single,
prolonged volume surge that began in October 2004 and ended in May 2005. We
believe this cumulative surge has the potential to affect the market over the
mid-term, and we think it could temporarily disrupt the long-term uptrend. The
majority of these surges occurred while the index was consolidating sideways and
during the S&P 500’s down-move in March and April 2005. An analysis on a smaller
time frame would show that most of the surges were selling (see
November-December 2004).
By comparing the volume
surges at points G and H with those at points C and D,
we find that the volume surges at C and D are much more pronounced
and that they display a higher magnitude. These surges are clearly buying in
nature (i.e., they are volume surges to the downside). In contrast, the surges
at points G and H are of a greater duration but of a lesser
magnitude. In addition, these surges are not 100% selling (they also have
buying components – April 2005).
Table #1:
Average daily trading volume for various major indexes broken down for various
timeframes between July 2002 and May 2005.
|
|
Average Trading Volume by index and timeframe |
|
|
July-Nov. 2002
(Support
Corridor) |
March 2003-Nov. 2004
(Uptrend) |
Nov. 2004 - May 2005
(Last 7 months) |
|
S&P 500
|
2,022 M (121%)* |
1,667 M (100%) |
1,850 M (111%) |
|
NASDAQ 100 |
1,493 M (130%) |
1,144 M (100%) |
1,295 M (113%) |
|
DJU |
6 M (150%) |
4 M (100%) |
5 M (125%) |
*
Percentage shown in comparison to the average daily trading volume in March 2003
- November 2004
Table 1 above illustrates
that during the corridor from November 2004 to May 2005 there was a rise in
average volume (mostly selling volume) and for the indexes listed it was 10 -
25% above the average volume during the uptrend from March 2003 through to
November 2004. But this average selling volume is much smaller then the
average buying volume during the support corridor from July through to
November 2004. That shows very good chances for a long-term uptrend
continuation, and also shows that the market, before such uptrend, could
experience a good correction.
An extensive correction may
be necessary to fully account for the selling volume surges encountered in
November and December 2004 as a well as the May 2005 selling volume. However,
a great deal depends on how the market will react on high volume activity during
the last 7 month. If markets continue to ignore the selling volume to the
upside and move higher on a higher volume discounting the surges at C and D, it
is likely that during the next few months it could move to the level where it
will become extremely oversold and ready for long-term down-trend (depending on
the magnitude of the volume that will be generated during this movement). We
think that this scenario is unlikely.
On the other hand the
market is already ready for a deep mid-term correction and if the market moves
down into mid-term correction by generating high buying volume, the
long-term uptrend could be prolonged for a longer period. This is a more likely
scenario.
| Disclaimer: The chart
example is intended for educational purposes only – it does not
constitute trading advice, nor does it make or imply any market trend
predictions. |
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