Via JPMorgan’s Jason Hunter,
S&P 500 Index closes in on the 2014-2015 range lows and critical support for our 2016 outlook
Broadly speaking, our 2016 Outlook for the S&P 500 Index favored a continuation of a broad and volatile range into the first half of the year, below 2,100 and above 1,820-1,870 longer-term range support. While the unexpected early-January weakness has not violated the Oct 2014 and Aug 2015 lows and other support parameters near that area, the nature of the current decline raises some concern for what has been a constructive longer-term view.
First, what started out as a very choppy and corrective looking pullback from the 2,116 Nov 2 high has taken on a much more impulsive wave structure (Chart 1).
That may still prove to be part of a large and convoluted corrective Elliott wave formation that encompasses all of the price action following the 2,135 May 2015 peak (Chart 2).
But the structure that has developed in Jan complicates our job of discerning the completion of a more benign medium-term C-wave within the expected range parameters versus the early stages of a much more aggressive bearish 5-wave structure.
Second, despite an oversold condition, the market has not yet been able to stage any sort of short term stabilization (Chart 3).
In many cases, those measures are only pressing deeper into oversold territory and strengthening the case for a short to medium-term rebound. However, the price damage and growing distance between an interim low and key resistance near 1,990 creates obstacles from a pattern perspective (referring to our first concern). Anecdotally, “sticky” oversold conditions are more consistent with a bear market environment, where bull market corrections tend to react faster. While it is difficult to quantify a specific rule to differentiate the two with precision, a continuation of the recent dynamic as the market approaches key support parameters is high on the list of things we do not want to see the S&P 500 do in the 1,800-handles.
Third, today’s drop takes the index right to the 1,887 trendline that connects the Oct 2014, Aug 2015, and Sep 2015 lows (Chart 2 and Chart 3). That trendline can be viewed as a neckline broad distribution pattern, favoring a transition to a multi-month correction/bear market. While the same multitude of indicators that led us to forecast a 10-15% pullback from the 2,135 peak in late-2014 provide evidence to bolster that pattern interpretation, it has been our view that this corrective phase for the index would come in the form of a broad and choppy range, and not an impulsive bear market. That said, sustained closes below that trendline would not be welcome, even if the index sees initial support at other support parameters including the 1,862 Nov-Dec range break objective and 1848 May-Nov equal swings target/Elliott wave C=A (Chart 2). Furthermore, an S&P 500 pattern breakdown would join the Russell 2000 Index (Chart 4) that has already moved through equivalent support…
…and Energy and Material sector Indexes that already show bear market patterns (Chart 5).
Now for what we would like to see the market do near 1800-handle support in order to renew confidence that the broad range view is the right call for the first half. There are already tentative signs of trend deceleration and a completing Elliott count on the intraday chart (Chart 1). More two-directional volatility similar to the price action over the past two days, and limited price damage into the mid-1800s would generate bullish momentum divergences and a potential base pattern. Subsequent rebounds are likely to find initial resistance near 1,950/1,960 hourly pivots. In our view, the 1,990-1,993 Nov-Dec range lows are critical, as a move above would derail the more bearish Elliott wave count interpretations referenced in the first bullet. Alternately, breaks below 1,820 would open the door for a drop to next notable support at the 1,730 Nov 2011 38.2% retrace. Longer-term support rests at the 1,553/1,576 2000 and 2007 bull cycle highs. While that is clearly far from our favored outlook, many chart watchers would point to it as a probable longer-term target as it sits near the ideal downside target for the 2014-2015 pattern break.
Treasury swings were relatively muted compared to risky markets, but that changed with yesterday’s bullish outside day reversals.
The 10-year note has since richened through the 2.085% Oct 61.8% retrace/late-Oct pattern break (Chart 6).
That leaves the 2.00-2.02% Jan/Jun 2015 trendlines as the next potential resistance target, and more importantly, adds weight to the bullishly shifting monthly momentum measure. In our view, unless there is a quick reversal in risk markets similar to episodes from last year, that shifts the probabilities in favor of a continuation of the Aug-Dec range, rather than what had been our favored outlook for an eventual first half break toward 2.435-2.51% targets. It is also worth noting that a close near 2.00% would likely press metrics like the T-note dollar-weighted Put/Call ratio into overbought territory last reached in October.
