Wang’s Happy Trading

Today’s worsening unemployment numbers have caused traders to begin doubting the assumptions underlying the entire recovery scenario. The sharp selloff accompanying this new doubt would appear to be a direct result of the change in fundamentals but there are technical indicators at work as well.

The chart shows that we have spent the past two months building a potential head-and-shoulders pattern.

Though the H&S pattern is fairly easy to recognize with its central peak, and two more or less equal adjacent peaks which do not exceed the central peak, it is often "spotted" in shorter term trading charts under doubtful circumstances. However, when spread over a wide chart as in the present case, it carries more weight. It is certain that the market is watching the pattern develop. Once the market is certain the pattern is verified, a volume spike will accompany the move lower. Any move of the market to the region of the "head" will defuse the H&S pattern and render it void.

The two lines I drew at about 88 are the "neck lines". In a classic H&S, they are the key threshold. Closure below the neck lines tends to confirm the pattern. We cannot say with certainty where the neck lines are - they lie between 88 and 90 - but with the SPY at 90.16 at the moment of this writing, it is clear we are only a breath away from confirmation of the classic formation. Decreasing volume on the right shoulder is symptomatic of the pattern as well.

Once the pattern is formed, the extent of the move is dependent on the support regions under the pattern. We can usually expect an amount the height of one of the shoulders to be traced out on the down side. However, it can be much more. In this case I drew a region between about 79 and 84 as the price target. If we are trying to trade the breakdown, the trade becomes more risky to hold once it is below about 84.

Be careful, and good luck.

by Skymist