If you look at the chart of the S&P and the pattern looks familiar it's because we saw a similar pattern in 2010. Let me refresh your memory from 2010: the market was cruising along until April when it began to sputter a bit. In May it did a lot more than sputter as we saw a Flash Crash. We spent the ensuing three months with many ups and downs, tracing out a bottoming pattern.
In late August then Fed Chair Ben Bernanke announced at Jackson Hole that the Fed would embark on QE2. The market was oversold and folks were pretty bearish heading into that QE2 announcement so we rallied quite strongly off that news, right to resistance. In mid September we were at the resistance we'd seen for the prior several months and while we milled around a bit we did eventually breakout and grind higher.
Here is the chart of the S&P from that period in 2010.
Here is the current chart of the S&P. I hope you can see the similarities in the two charts.
As you know when it comes to the indexes I prefer to rely on the indicators to see what they say so I went back and looked at that late August 2010 low as well as what the indicators looked like in mid September 2010. There were some interesting similarities.
Let's start with the Overbought/Oversold Oscillator (I am using computerized charts for this to keep it consistent for time frames). The period of time I will be referencing (mostly) will be that red box on the chart of the S&P from 2010, the point in time when we reached the breakout. Notice we broke out but mostly milled around (chopped) for about two weeks. On the Oscillator you can see we were overbought, similar to today (Point A on the chart).
The McClellan Summation Index was also in a similar spot. In mid September 2010 it was hovering and flattening out just below the August high. Today it is just below the June high.
The cumulative advance/decline line was leading then as it has been now. Notice it broke out to a higher high in 2010 (as it has now) well before the S&P did. It stuttered in mid to late September 2010 and it is stuttering now. The main difference is that it made a lower high this past week whereas in 2010 it did not.
When it comes to stocks making new highs, 2010 saw fewer new highs in mid September, again similar to today. There were a few differences though. Today's new highs are much more glaring in that the September 2010 new highs were within spitting distance of the August highs and they did not fall off at the breakout the way the current ones did last week. The other main difference is that in 2010 the number was hovering at around 250 stocks making new highs; we have not seen 250 new highs this time since January. Friday's reading wasn't even 100 new highs. So the pattern is similar but the actual numbers are not.
The 30 day moving average of the advance/decline line was oversold in mid September 2010; that is not the case currently; it is overbought.
Another indicator that was quite different then vs. now is the ratio of the small caps to the large caps. In 2010 the small caps had been underperforming in the months prior and were just starting to rise relative to the S&P. Currently the Russell has been the outperformer but that stopped in mid June.
Finally, in terms of sentiment, the ten day moving average of the put/call ratio was in a similar spot as it was then: both were rolling over and heading down.
Of course the main difference is that in 2010 QE2 was just starting and now the Fed is tightening. It has been my contention that this overbought reading would bring us chop or maybe some downside next week but with sentiment not terribly bullish that is the most likely scenario (as opposed to looking for significant downside). The 2010 scenario is interesting because the market did literally just chop in a tight range for two weeks after the breakout. If that happens again, we'll monitor the indicators to see if they line up in similar fashion.