More Memory in Play

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After my update on the long-term view of the OIH last week in this post, I also wanted to follow-up on a post that I wrote in April about the IWM (actively traded ETF for the Russell 2000 small cap dominated Index). In that post, I noted that the IWM was running in a steep angle of ascent on the monthly chart directly into its 2007 highs. I posited that the small caps would, at the very least, take a back seat to the larger cap stocks as we got closer to summer. Just as with the OIH, price has memory, particularly when we are talking about a chart running in a virtual straight line right up to multi-year resistance.

Presently, as you can see on an updated monthly chart of the IWM, the small caps have pulled in along with the broad market in a rather sharp manner since May 2nd. While bullish sentiment has understandably abated (see this post), and as many daily charts have broken down, this monthly chart nonetheless reveals an entirely constructive pullback from the first test of multi-year highs. Note that the IWM could fall down towards the $70-$75 zone from here and all it would amount to is a test of a simple support trendline dating back to the March 2009 lows.

In other words, this type of price action is to be expected and is not indicative of any type of multi-year inflection point. Again, as this chart reveals, the latest bull market that began in March 2009 has seen one major, sustained, multi-quarter correction, that being in 2010. Contrast that with the previous bull market from 2002-2007. Note how many multi-month pullbacks (bullish) we saw there before we eventually saw the major inflection point in 2007 (bearish). Again, the highest probability scenario remains that this latest correction is yet another intermediate-term pause in a bull market.

While a meaningful leg higher above the 1370 highs on the S&P 500 is not likely to be imminent, to infer that we are in a bear market because of that fact amounts to a false dichotomy. In order for me to turn long-term bearish on this chart and the market, I would need to see the IWM breach the rising support trendline, likely consolidate around or below it, and then head lower.

As you can see, the bears have their work cut out for them.

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