Following up on a post on spotting market patterns repeating, I’ve plotted the S&P500 along with a Relative Strength Indicator (RSI) sub-plot above.
Note the short trend lines overlaid on the index and RSI plots in gray and red respectively. From basic technical analysis, here’s how I read this: as the S&P500 index continued on to new highs (the three bounces in the index plot that the rising gray trend line touches), its relative strength declined as seen in corresponding lower highs in the RSI sub-plot. This inverse relationship is called a divergence in market terminology as experienced investors and traders will know.
A somewhat similar situation can also be seen occurring from late August ’14 through mid September; as the index rose, its strength (conviction in the move upward) remained flat and declined toward the end of this period. What followed in the earlier period was uncertainty, volatility, a downward trend, and a plunge beyond early October.
There is a saying in financial markets, that history does not necessarily repeat (‘past performance is no guarantee of future results‘), and there is therefore no guarantee that the New Year will bring about market uncertainty seen in fall ’14. Besides, other indicators such as accumulation/distribution analysis are inconclusive. Nevertheless, the vaunted Santa Rally has been missing in action at the end of 2014, and volatility has indeed picked up the past few days.
Full Disclosure: I continue to stay long volatility (VIX).