Nasdaq, S&P 500, and Dow Each Formed An Ugly Chart Pattern Known As A “Bearish Engulfing Candlestick”
A positive start to the day led to a disappointing finish for the bulls, as stocks surrendered early gains to close modestly lower yesterday. The Nasdaq Composite ($COMPQ) was trading 0.8% higher at its intraday peak, but reversed to finish 0.3% lower. The S&P 500 ($SPX) and Dow Jones Industrial Average ($DJI) followed similar patterns and settled lower by 0.4% and 0.5% respectively. Despite yesterday’s ugly overall price action, one bullish aspect of the session was that both small and mid-cap stocks exhibited relative strength to the broad market. The only one of the major indices to finish in positive territory, the S&P MidCap 400 Index ($MID) edged 0.2% higher. The small-cap Russell 2000 Index ($RUT) slipped just 0.1%. Breaking the recent pattern of solid price action into the final hour of trading, each of the main stock market indexes closed near its low of the day. GET A FREE TREND ANALYSIS FOR ANY STOCK HERE!
Total volume in the NYSE was 16% greater than the previous day’s level, while turnover in the Nasdaq increased 7%. Declining volume only fractionally exceeded advancing volume in both exchanges. However, in the first half of the trading session, the adv/dec volume ratios were firmly skewed to the bullish side. The higher volume decline across the board caused both the NYSE and Nasdaq Composite ($COMPQ) to register a bearish distribution day that was indicative of selling amongst banks, mutual funds, hedge funds, and other institutional traders.
In yesterday’s commentary, we said that, “The S&P 500, Dow Jones Industrial Average, and Nasdaq 100 indices have reached pivotal ‘make it or break it’ levels that may lead to a tug-of-war between bulls and bears and a bit of volatility in the coming days.” Indeed, a tug-of-war and increased volatility was exactly the theme of yesterday’s trading session. Given that the major indices were testing major pivotal resistance of their multi-year highs yesterday, we were not surprised to see a pullback. That’s why we also said yesterday that, “a moderate pullback or ‘shakeout’ in the interim (of stocks moving higher) would not be surprising.” Nevertheless, it was not good that the Nasdaq (INDEXNASDAQ:.IXIC), S&P 500 Index (INDEXSP:.INX), and Dow (INDEXDJX:.DJI) each formed an ugly chart pattern known as a “bearish engulfing candlestick” on their daily charts yesterday. This occurs when the price of an index, ETF, or stock opens above the previous day’s high, but sells off to close below the prior day’s low. On the daily chart of PowerShares QQQ Trust (NASDAQ:QQQ) below, we have highlighted the pattern:
In addition to forming the bearish candlestick shown above, notice that $QQQ also “overcut” horizontal price resistance of its multi-year high. This is the opposite of an “”undercut,” which occurs when an ETF dips below an obvious level of price support, then quickly reverses back up. The “overcut” has the effect of triggering stops of traders who were anticipating buying the breakout to new highs.
Although yesterday’s distribution day and bearish engulfing pattern in the broad market may have been disappointing for the bulls, keep the correction in perspective. The market was overdue for at least a near-term pullback, and it is normal for an uptrending market to experience an occasional bout of heavier volume selling in even the steadiest of bull markets. Typically, a healthy market can sustain at least three distribution days within a one-month period before being overcome by the selling pressure. Further, it’s also positive that small and mid-cap growth stocks showed relative strength yesterday. As such, yesterday’s negative price action alone is no cause for alarm, but there is also no reason to take on additional exposure on the long side of the market until stocks prove they are able to bounce back and maintain resiliency. GET A FREE TREND ANALYSIS FOR ANY STOCK HERE!