Here is a relevant except from my Weekly Strategy Session over this past weekend about the technical setup on the major index daily charts. Even though the summer doldrums seemed to be keeping us in a holding pattern, I note why an imminent directional move should be taken seriously.
Be Ready in a Pinch
I occasionally reference Bollinger Bands as useful technical indicators to aid your core market analysis and preparation. In addition to Bollinger Bands being useful technical indicators (but not anything close to magic or the Holy Grail) for measuring short-term relative tops and bottoms by the upper and lower Bands, they can also put us on watch for when a large directional move is imminent.
Periods of compressed price action in the market often lead to periods of explosion. And when we see the Bollinger Bands themselves “pinched” in on a given timeframe, it is an indication that resolution from that compression is likely imminent. This technical development is indicative of low implied volatility in the chart, as a general proposition.
On the updated daily chart of the S&P 500 Index, you can see the Bollinger Bands pinched in as of last week. This is likely a function of the indices trading in a relatively narrow range since late-July. The same pinched Bands can be seen on the daily chart of the Russell 2000 Index, as well.
Adding to the intrigue of this setup is that we are working through what can be seen as the “dog days of summer,” in August, with many large market players presumably on a beach somewhere. Perhaps the most obvious scenario would be for the indices to grind sideways into Labor Day, where it would be only then that we see the next big directional move.
But perhaps that scenario is too obvious to occur, and these Bollinger Bands may be telling a different story. To be sure, the Bands can become further constricted in the next week or two. However, the suggested strategy is for traders to be nimble enough to adjust for an imminent directional move.
Unfortunately, Bollinger Bands do not give much indication of which direction sees that big move. On the one hand, the overall trend in 2013 and indeed since March 2009 remains clearly higher. And we know that calling a major top remains a uniquely difficulty task, perhaps far more difficult than declaring a bottom to a corrective or bear market. Thus, a continued thrust higher on the major averages should not come as too much of a surprise.
However, as we have also been discussing for a while now, underlying momentum in the market continues to wane. And you can expect that even if the market pushes higher yet it is likely to be accomplished with declining participation under the hood of the car–I will update those divergences in the next subsection for you.
