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Market Breadth Corrections and SPX Corrections

In the past year S&P 500 Index has been highly correlated to the SPX advancing issues minus SPX declining issues or market breadth indicator (A-D). As SPX price has rallied to new all-time highs it has been confirmed by expanding market breadth (A-D). Although the 10-year structural bull is maturing this bullish condition reaffirms a sustainable rally. So, how high is high for SPX? The recent 2-year broadening and/or head and shoulders bottom breakout above 3,062 (11/1/19) still suggests +594 points or a SPX minimum target to 3,656. There is also the possibility this 10-year bull run will transition toward a market melt-up phase. Under this scenario SPX overshoots its technical projection to a widely bullish 4,000-plus target before the start of a major correction (15%-20% plus) or worse, the beginning of the next bear decline.


Nonetheless, in the past year when SPX has rallied sharply in a relatively short time frame to overbought levels the daily market breadth indicator (Advance-Decline line) would begin to contract. This temporary breadth contraction has led to subsequent SPX price corrections. In fact, the five market breadth corrections this year have led to five SPX market corrections of the magnitude of -2.66% to -7.63%, enduring from one week to four weeks. The recent market breadth peaked on 1/17/20 leading to the recent 3.09% correction. Is the SPX correction over or will the correction extend further to replicate the five prior SPX corrections?


The recent escalation of the Coronavirus coupled with an overbought market condition is depicted on the charts by another negative outside day on 1/24/20 as well as a large daily gap down on 1/27/20. The recent 1/22/20 to 1/27/20 pullback has resulted in SPX declining -103.26 points or -3.09% fulfilling the lower end of a normal 3-5% correction. Although SPX has generated a one-day (1/28/20) bounce of +1.01%, rebounding from the bottom of its Oct 2019 uptrend channel (3,244) we believe the following 3 scenarios are still possible over the next few days or weeks:


(1) A major low has been achieved at 3,234.50 (1/27/20). SPX enters a sideways trading between 3,225 and 3,338 over the next few days. This trading range leads to a subsequent breakout above 3,333.18-3,337,77 reaffirming the resumption of the primary uptrend as SPX rallies sharply to our technical projection of 3,656 during the first half of the year. The probability of this scenario occurring is 25-30%.

(2) SPX rallies over the next few days but does not breakout to new all-time highs. Rather another downturn occurs on the backdrop of news of the Coronavirus spreading, earnings disappointments over the next week or so, continued macroeconomic uncertainties, US political election/Presidential impeachment fears or geopolitical concerns. SPX violates the 1/27/20 low (3,234.5) and this triggers a sharp decline to key medium support at 3,150-3,200. This correction resets the marketplace alleviating an overbought condition and sets the stage for the resumption of bull run. The probability of this scenario is 40-50%.


(3) SPX quickly violates 3,234.5 and breaks medium-term support at 3,150-3,200 as investors/traders turn defensive. Money hides in the safety of defensive S&P 500 sectors(i.e., Utilities, Real Estate, Consumer Staples, and select Communication Services), 10-year US Treasury bonds, Gold, U.S. Dollar and other safe-haven assets. SPX correction accelerates but the selling begins to abate near major intermediate-term support around 2,950-3,000 or slightly lower. Probability of this scenario is 25-30%.



Source: Courtesy of StockCharts.com

Source: Courtesy of StockCharts.com

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