While the market correction of the last month may have felt chaotic and news-driven, it certainly hasn’t traded that way, at least for U.S. large-cap stocks.
Unlike the rapid sell-off following Liberation Day last year, the selling this March has been well contained, just persistent.
To wit, take a look at this six-month chart of the S&P 500 with a 200-day moving average, a 50-day moving average and “fast” Bollinger Bands built around a 10-day moving average.
As you can see, the S&P spent all of March trading in a tight downward channel, periodically testing the lower bound of the Band before rebounding and getting rejected by the downtrending 10-day moving average at the center.
For all the Iran-related headlines and worries, nothing was able to push the index out of that range for more than a few hours.
Until Tuesday.
Tuesday’s news of progress towards a resolution to the Iran War was the first close above that 10-day average since the end of February, and Wednesday’s action may give us the first confirmation point that the market is ready to get out of that channel and back on the right track.
Before we head too far afield, let’s briefly touch on Bollinger Bands.
[text_ad]
What Are Bollinger Bands?
Bollinger Bands are a technical analysis tool that measures market volatility and relative price levels. They consist of three lines: a middle band (usually a 20-day simple moving average) and two outer bands placed above and below it.
These outer bands are typically set two standard deviations away from the moving average, meaning they expand and contract based on how much the price deviates from its average. Because standard deviation reflects volatility, the bands widen during periods of high volatility and narrow during low volatility.
The outer bands aren’t support and resistance levels, per se, but they can be opportune entry points for reversals along the primary trend as they represent relative overbought and oversold conditions.
In other words, the center line defines the trend while the bands represent the range of expected trading prices around the central trend.
Just remember, in a market with a powerful trend, a stock or index can regularly trade at or above/below the outer bands on a persistent basis.
We mentioned above that the default for most Bollinger Bands is a 20-day simple moving average, but you can use any time period. In the chart above, we used a “fast” 10-day moving average, which makes the trendline more responsive to price movements and provides a better fit to the price action we’ve seen.
It also makes us more susceptible to getting whipsawed into and out of a position in short order if we trade off of it.
What Are the Bollinger Bands Telling Us Now?
Tuesday was potentially a massive character change in the market, and Wednesday’s action could confirm it.
Tuesday’s close above the falling 10-day line was the first sign of a possible breakout from the tight channel we were stuck in for all of March.
The close above the 10-day on Wednesday is a bullish confirmation that the market is ready to make a run at a recovery.
But…
There’s still a lot of overhead resistance to chew through, and there are still a lot of potential potholes ahead.
First, on the news front, President Trump has a press conference scheduled for Wednesday night (after this goes to print) concerning the Iran War. Any major announcement could invalidate whatever technical signals are out there (as a rule of thumb, news trumps technicals).
And, of course, any unexpected developments with the conflict could derail our technical recovery.
Then, on the technical front, there’s still the 200-day and 50-day moving averages to get through, with the upper bound of the Bollinger Bands tucked right between them as well.
How to Play It
The higher close on Wednesday was the first confirmation of a potential recovery, making Thursday a good day to enter a new position, depending on how the market responds to the aforementioned press conference.
After that, look for overhead resistance at the 200-day and then around 6,800, which was the bottom of the lateral range from the winter and roughly coincides with the 50-day moving average.
The most important takeaways on the bullish side of the coin are these:
- We want to see higher highs and higher lows (definition of an uptrend), and our next low should probably be at or above the 10-day.
- The S&P 500 is still within our Bollinger Bands, so we can’t rule out a reversal, which is doubly true given the possibility of market-moving headlines.
The bearish case is easier to make: The S&P 500 is still in a technical downtrend, and even a higher high (north of last Wednesday’s close around 6,590, which marked our previous “high” on the chart) doesn’t invalidate that. Until we get a clear uptrend, we can’t dismiss the possibility that this could be little more than a bear market rally.
But that’s always true when trying to spot a reversal, so don’t read too much into it.
At the end of the day, it’s a matter of taking informed risks that align with your investing system, and the evidence in front of us is more constructive than it’s been for at least the last month.
[author_ad]
