Break the Chain

Last week was a vivid reminder of why we should not sell stocks when the RSI is at or under a 30 reading. After what looked like a disaster on Friday, the market quickly rebounded by around 5.3%. Now the question is whether we can continue going higher. Let's see what the charts are saying.

The 200 day moving average (blue line) is still going higher, meaning that the long term trend is still up. Because of that, we should give this market the benefit of doubt. On the short term, however, the market has been trending down since late July. Notice how the 50 day moving average has been going down since then and has been offering a resistance to the market price advance. Another confirmation of a short term downtrend was that RSI was hovering around or below 50. It failed to break through that level on the last two attempts to restart an uptrend (I marked the occurrences with orange circles).

So the key question is whether this is a short term pullback or the start of another, more pronounced downtrend? On the one hand, you don't want to miss some of the best buying opportunities that emerge during short term pullbacks but on the other hand, you don't want to be too aggressive if the market goes lower. While there is no way to know for sure, there are some clues that the charts could offer.

First of all, the market needs to clear the 4350 level. That would break this downtrend pattern that was established back in July. RSI also needs to break through a 50 reading. If these conditions materialize, we could have a reasonable expectation of a stronger rally. On the other hand, if the markets fail to meet these conditions, we will need to brace for more downside.
Considering that we are entering a very strong market season (November to January), the fact that FED is likely done or about to be done with rate hikes and the fact that despite of all of the challenges, the economy remains quite resilient, I am cautiously optimistic that we are headed higher, not lower. Historically, pullbacks like these during uptrends proved to be great times to buy.