Record High Malaise

Unless you have been hiding in a Kush mountain range cave like Osama Bin Laden (if he’s still even around), then you have been hearing about U.S. and global equity markets reaching new record highs. If I’m not mistaken, I heard on CNBC this morning that the DJIA has hit a record high some 40+ times in 2007 whlie the Chinese Shanghai index has closed at a record high more than 70 days this year, including yesterday. So where do we go from these record highs.

While trying to answer this question for my own trading, I noticed a few revealing short-term chart patterns that occur shortly after hitting record highs. Here’s what I found. The chart below is a daily chart of the S&P 500 from March 2007 (after the Februrary lows were made) to today, October 10, 2007. Most noticeble is the large dip in the middle of July and August which was caused by the “Liquidity Crisis of 2007”. Although this is being called a liquidity crisis, it is hard to tell that there was much of a “crisis” as the market is back above record highs less than 2 months from the sell-off. I’m actually advocating large credit issues are still looming, yet the market is ignoring them for the time being.

Before I get too far off subject, let’s jump back into the chart. I have circled four noteworthy short-term tops. Let’s analyze each of them individually.

click on the chart to enlarge
spx-short-term-tops.gifThe first time the S&P broke the record closing high hit in March 2000 (1527.46) was on May 30th, 2007 when it closed at 1530.23. That record was broken on the next three consecutive days as it closed at 1539.18 on June 4th. The following week, the market tumbled -3.15% to close at 1490.72. This was considered to be a little profit taking from the record highs.

Two weeks later, the market tried to press higher, but was unable to reach above the closing high at 1539.18. The S&P reached 1533.70 before falling -2.66% to 1492.89. A similar justification was made for the drop; we couldn’t breach the highs, so let’s take our profits and try again another day.

Three weeks later, the market made a third attempt and finally broke through 1539.18, marking the fifth record setting day in 2007 with a 29 point gain on July 12th. The market proceeded to make a record close the next day at 1552.50 before an attempt at a consolidation. It was only five days later before the record was taken out with a slow push through to 1553.08 and a sixth record high in just over a month.

The third and final push through the old high (as marked by the circled “short term tops” in the graph above) was met with a media hoopla and an ensuing -9.63% drop (1553.08 to 1406.70) that was attributed to the liquidity crisis mentioned above.

Obviously, this small analysis states the obvious; however, if you take a look at how the market reacted to each of these “short-term tops” you will notice that the tops were not followed by a breakout to the upside. Instead, each new record was met with sellers forcing buyers to retreat (see the table below). Yes, the bulls eventually won the battle as they pressed into new territory in the long run, but the following sell-offs in each case should lead us to believe there could be a similar fate to yesterday’s record high of 1565.15.
The bulls are currently in control, but each time the record highs persist, sellers continue to move in and force them back. Whether this is a justification for the market to move lower after the latest record close will be based on how the markets react to incoming data. Lately, all news has been interpreted as good news, but this has been an odd smelling market. According to the past four record highs and the following attempts to push these records higher, we believe there will be some profit taking over the next week. If credit concerns start affecting the market, watch out S&P 1400.

Trading Partners, LLC

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