“Stock-market investors are ‘staring down the barrel of seasonal weakness the next 3 months’”
- MarketWatch, July 28, 2021
“Investors should sell stocks and raise cash as bearish indicators pile up for the S&P 500, BofA says”
- Markets Insider, July 29, 2021
One equity benchmark that I have not provided analysis on for a long time is popular Dow Jones Industrial Average Index (DJI -- 34,935.47). As the market has powered higher during the past several months, the average has taken out multiple psychological barriers associated with round millennium levels. And with each pass above a round millennium level, the percentage advance needed to reach the next round 1,000-point level is less than the prior intervals.
However, as the chart below clearly shows, these round 1,000-point intervals on the DJI have acted as meaningful support and resistance in the short term. But a pattern has emerged around the 34,000-35,000 area that is similar to the behavior that the DJI displayed around two other psychological round number levels - 30,000 and 31,000 - from November 2020 into March 2021. Specifically, during this four-month period, the 30,000 level briefly acted as a resistance and hesitation area, before serving as a major support level in late-January following a decline from 31,000. Both 30,000 and 31,000 were finally cleared for good at the beginning of March.
Similarly, the 34,000 and 35,000 millennium levels have proven important support and resistance levels since mid-April, for the most part anyway. I qualified this as there was a meaningful break below 34,000 in mid-June, with the eventual trough at 33,290. The mid-June low could prove to be the "head" within a bullish inverse "head and shoulder" pattern, if a breakout above its neckline in the 35,000 area occurs.
I am highlighting the various patterns now because we are coming up on four months in which the average has danced around both 34,000 and 35,000, which matches the length of time it toyed around with 30,000 and 31,000 before leaving 31,000 in the dust for good in early March.
Moreover, a breakout above 35,000 would complete the bullish inverse "head and shoulder" pattern, with a targeted move to 36,710 within three months, or nearly a 5% rally in only three months. Such action would be at odds with the historical seasonal weakness we are entering. Specifically, this has garnered headlines amid the growing uncertainty with respect to the delta variant and how this might set back economic growth. Then again, a bull with a contrarian mindset might prefer that more people are aware of imminent seasonal weakness than the potential bullish implications of a breakout above 35,000.
If the Dow breaks out and sustains a move above 35,000 resistance, I would expect that at the very least the S&P 500 Index (SPX -- 4,395.26) will trade within the bullish channel that has been in place since mid-November (that I’ve displayed in this commentary weekly). Repeating what I said several weeks ago, as long as the SPX trades within this channel most of the time like it has this year, it is a win for the bulls, as the upper and lower boundaries of this channel increase with the passage of time. There has only been 13 closes below this channel of the 145 trading days this year, and only three closes below the channel since May 12.
In order for short-term traders to get rattled and the shorts to be bolder after months of covering activity, I think it will take at least a week’s worth of continuous trading below its channel, which ranges between 4,324 and 4,342 this week. A break of its 50-day moving average -- which has been supportive of all pullbacks since late March and currently situated at 4,284 -- might strike fear in the longs. However, I think it is worthwhile to focus on the SPX’s 80-day moving average too, which is currently sitting at the May high and the intraday low on July 19. The 80-day moving average marked the SPX’s early-March trough that followed the most extended pullback to date in 2021.
Short-term resistance this coming week begins at the top of its channel, or 4,458. But the bigger level is at week’s end, or 4,475. Not only does this mark the top of the channel at Friday’s close, but 4,475 is double last year’s closing low at 2,237.40.
The SPX comes into the week trading around the same level it was trading in mid-July, when it was at the top of its channel. Short-term equity option buyers, however, are not displaying near the optimism that was present prior to the index sharply declining from the top of the channel. While not at an extreme indication of pessimism either, note that 10-day average of the buy (to open), equity-only, put/call volume ratio on SPX components is at its highest level since late May, even as the SPX achieved all-time closing highs last week. Furthermore, active investment managers, per a survey last week, indicated this group was rattled by the latest pullback, as they aren’t close to a fully invested long position, as they’ve been multiple times this year.
As we move through earnings season, companies are again allowed to buy back shares, which they cannot do in the weeks prior to reporting earnings. On July 24, an article at Barron’s noted that J.P. Morgan Chase (JPM -- 151.78) divulged data showing that companies have already bought back more stock in 2021 than all of 2020. If this trend continues in the weeks ahead, those that abruptly headed for the sidelines during the brief pullback in July could be another supportive factor during this well-publicized, historically weak, seasonal period.
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