headed lower for a while

I am starting to see evidence that the drop of 10% or more in the major stock market averages has begun. Both the Dow and the S&P established new historical highs this month, highs which were just above the 2007 top which in the S&P (top chart) was at 1576. Markets have a habit of changing direction, at least temporarily, once they reach or break an old top or bottom. Since the rally from the June and November 2012 low points looks very overextended to me I have to take any evidence of weakness at this juncture very seriously. 

Take a look at the lower chart, a daily bar chart of the Spider ETF (SPY) based on the S&P 500 index. I like to keep an eye on the Spiders because they give more reliable volume indications than does total market volume or even total volume on the cash S&P itself. You can see that this week's drop has been accompanied by noticeably higher volume (red oval). Coming as it does on the first drop after a new historical high when other signs of upcoming weakness are visible this volume increase on sharply declining prices is a very bearish indication.

So far the market is being supported at its mid-March low points (red line) and by its 50 day moving average (wavy green line). A rally back to 1575 or so at this juncture would not surprise me, but such a rally would define a potential head and shoulders top, the sort of top often found at the top of a Lindsay domed house. A subsequent break below the red line support level would then be very bearish indeed, as would a break below that support without a rally to 1575 first.

If the market is headed lower as I think it is there are two obvious support levels visible. The first is near 1470, the level of the September 2012 top. The Second is near 1425, the level of the March 2012 top. However, I should point out that the projection offered by Lindsay's three peaks and a domed house formation points to a break below the November low near 1345.

In any case I think the market is currently in a very vulnerable condition. Even if the S&P were to turn here and make yet another historical high I don't think the underlying situation will have changed. Good buying opportunities at substantially lower prices are likely to emerge during the coming months.