On August 17, I warned my readers of a pullback in the S&P 500.

Investors were enjoying the strong rally that began in July and continued through the first two weeks of August. But my analysis showed me this rally was soon coming to an end…

And that’s exactly what happened.

After an exciting rally, the S&P 500 index made a dramatic turn…

For context, it took the market an impressive 60 days to climb almost 19% to rally off its June lows.

But it’s taken the market only 16 days to give back around 60% of those gains.

And unlike with most bull-market pullbacks, there aren’t any signs of this selloff slowing down and stabilizing.

This puts the market at a pivotal juncture.

If we’re going to find support to sustain this end-of-summer rally, we must do so very soon.

However, I do agree with my colleague Jeff Clark, that a short-term bounce is likely.

On the chart below, I’ll show you the key trendline the market is currently trading at…

There are two important features on this one-hour price chart:

  1. The red trendline connecting the bottoms from June 17 and July 14 currently comes in around 3905 on the SPX.

    If the market takes out this trendline by breaking below it, then I’ll adopt a more bearish stance in my short-term trading.

    On the other hand, if this trendline holds the market as support, then Jeff’s upside target of 4150-4200 will likely be reached.

  2. The Relative Strength Index (RSI) recently bounced from extremely oversold conditions.

    Typically, the market reverses course when the RSI reaches extreme conditions.

    A reading of 70 or higher is considered overbought, while a reading of 30 or lower is considered oversold.

    Yesterday, the SPX reached a reading of 16.50 an hour after the market opened. The market began to bounce soon after.

This RSI analysis will determine whether the current bounce has real legs underneath it or not.

If a market bounces without reaching oversold conditions, then it means there’s less room for the RSI to head higher before it reaches overbought conditions instead.

In this case, the RSI is coming from an oversold reading. That means there should be some fuel for a short-term bullish recovery.

But remember, we’re looking at a one-hour price chart of the SPX. While the hourly chart is oversold on the RSI, the daily chart is not.

As of writing, the daily chart’s RSI is giving me a reading of 38, while an oversold reading is 30 or below. This means we must adjust our expectations for any kind of rally accordingly.

While the market could bounce quickly, it won’t take much for the hourly chart to reach overbought conditions.

And if that happens as we reach Jeff’s 4150-4200 target, then I won’t be surprised if the market rolls over and gives back all those gains… especially since September is historically the worst month for stocks.

So, we must be highly cautious in this kind of trading environment. Whipsaw action will likely take the market up and down.

Of course, it’s entirely possible to make money in a difficult market…

But the key is to always practice sound risk management and to quickly cut any losing trades short.

Happy trading,

Imre Gams
Analyst, Market Minute

Reader Mailbag

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