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David L. Singer, Esq.

|davidlsinger@gmail.com| 516.830.1786

part

rom

rowd

Beware Another Failed Head & Shoulders

July’s Proposed H&S Top

The

S&P 500

made its momentum lows inOctober 2008 with the VIX hitting the 80’s. InMarch 2009, notable bears such as Bob Prechter,(

Elliott Wave Theorist

) Marc Faber (

Gloom Boom and Doom Report

), and Barry Ritholtz(

The Big Picture

) recommended buying stocks,sensing that a snap-back rally was due and thatsentiment needed to unwind from morbidly bearish levels. The original rally carried from theMarch 6, 2009, intraday low at 666 to 823 inonly 10 trading days – a 23% gain. That was anastonishingly strong initial move. The S&P then pulled back to 775, before making a new runhigher to 875.From late April until the first week in July, themarket consolidated the previous large move,tracing out a clear head and shoulders formation between the range of 875 on the downside,where the neckline was formed, and the head of the formation, at 950. As a rule, a head andshoulders pattern with its attendant ramificationsonly becomes actualized upon a breakdown of price below the neckline, or even morecautiously after a breakdown, retest, and failureat the neckline level, which morphs from supportto resistance. As the nascent pattern becamemore evident, it started to get attention amongsome technicians, who were expecting a further decline and anticipating the completion of the pattern, possibly resulting in a retest of theMarch lows. Between July 6 and July 13 pricehugged the neckline at 875, which was providingsupport. However, the price promptly reversedand moved strongly higher, eventually risingover 950 and holding there, thus negating thehead and shoulders pattern.Observers made some mistakes here: anticipatingthe pattern thereby trying imposing their will onthe market, failing to realize that the sentiment picture was not indicative of an end to the bounce, how abundant liquidity would causeequities to have a massive rally without asubstantial pullback and not taking into accountthe possibility of a head and shoulderscontinuation pattern. Interestingly, observers alsofailed to recognize that a left shoulder and headhad already formed on the daily and especiallythe weekly charts and that this smaller head andshoulders pattern was simultaneously formingthe slightly irregular right shoulder of a larger inverse head and shoulders bottom, and 950 onthe S&P was the neckline on that pattern.

Inverse Head & Shoulders Targets S&P 1230

When the “January” smaller head and shoulders pattern failed, i.e. broke out to the upside over 950, (remember a case can be made that the pattern didn’t fail, but was a continuation pattern) the larger inverse head and shoulders pattern was confirmed as price penetrated theneckline around 950. At that point in late July, itwas possible to make some measurementcalculations to get an idea of where price mightend up in the future. The rule with regard tomaking these calculations is as follows: subtractthe value of the head bottom from the necklinevalue, 950-670 = 280; then add that value back to the neckline value to get your projection; 280+ 950 = 1230. This projection for 1230 on theS&P was reinforced by three other technicalfactors: the 200 week SMA was slowly decliningaround that level and would likely act as amagnet attracting price toward it from the bottom, that area was home to the neckline of thegiant head and shoulders topping pattern fromwhich the S&P broke down before cascadinglower into the Fall of 2008, and from a sentiment point of view, reaching 1230 would ensure arequisite amount of bullishness to set the stagefor another large leg down, if you believe in suchthings.

Annotated Charts and Commentary on The Financial Markets By David L. Singer, Esq. | October 30, 2009 |

Volume 1 – Issue

David L. Singer, Esq.

|davidlsinger@gmail.com| 516.830.1786

Apart From The Crowd

David L. Singer, Esq.October 30, 2009

Page 2

The Road to Another Possible H&S

After breaking out, prices continued sharplyhigher, eclipsing the 1000 level and establishingit as support. The rally then began to losemomentum and prices consolidated and movedonly slightly higher. Noticeably, severalindicators, including MACD were showingnegative divergences to price, indicative of narrowing breadth and loss of momentum.However, prices stayed above the rising trendline support created by linking the March lowwith the July low and since September havemoved higher finding resistance at SP 1100.

Beware Another Failed Head and Shoulders

After prices failed to eclipse the 1100 level on asustained basis, many market pundits again began to call for a decline. This call, similar tothe July call, was reasonable, but premature.Waning momentum, price divergences and thesheer size of the rally off the March lows addedcredence to this outlook. Importantcommentators, such as Gartman, Faber, BillGross, among others, called for at least thetemporary end to the reflation trade and this legup in the equity markets. As is illustrated on thechart, the rally into early September and the highmade at 1101 in late October, appear to beforming a pattern that mirrors the pattern we sawfrom late April to July. That being said, if this pattern is similar or even identical to the previous one, then we are ready for another failed head and shoulder top or head andshoulders continuation, the result of whichwould mean a further trek toward the 1230 targetarea. The nascent patterns’ parameters are asfollows: Neckline at 1020, Head at 1100.

Either Way – A Useful Pattern

If the head and shoulders pattern forms and breaks down under the 1020 neckline, then pricewill measure back to 940, the area of theneckline of the inverse head and shoulders bottom that we spoke of earlier. That would bethe first major downside target. If the patternfails again, or is another continuation pattern,then we are looking at a breakout over 1100 andtoward 1200. If a breakout does happen, I don’tthink that means the market is OK or that bearsare finished. Even if we go higher, we mustcontinue to keep an eye of momentum, breadth,divergences, and sentiment, in order to gauge thelikelihood that this move continues.

How Can An 80% Move Higher Be Bearish?

On a trading basis it can’t. However, when thecollapse happened, downside momentum was sooverwhelming that prices reached levelsunusually far below the standard movingaverages that a sharp rally was inevitable.Essentially, even if you believed that priceswould have to reach extremely low levels, thisdeep oversold level had to be unwound. Also,from a psychological perspective, the next legdown could not take place until the salve of higher prices caused participants to believe thateverything was now OK. This was the case evenwithout the coordinated global liquidityunleashed by central banks and governments theworld over.As this rally unfolds and prices rise toward 1200,the bearish, not the bullish story unfolds. In myview, this is because of the waning momentum,divergences and narrowing breadth that appear as prices climb into more rarified air.Furthermore, from a psychological perspective,only a continued rise can defeat the bears, whohave been are continually rebuffed, andembolden the bulls, who will become convincedthat things are OK, which they are not.Despite my overall bearish view, the liquiditystory must be played and the 1230 target must berespected until it is disproved. I would donothing until we see whether this is another failed head and shoulders. If we go down andeclipse the neckline at 1020, then short themarket. If we breakout over the head at 1100, buy the market. Just beware of the weak internalsand divergences. As the tower of price gets taller its internal weakness will undermine itsstructural integrity until buyers dry up and sellers begin to take advantage of the massive rally. Asalways, only time will tell whether this is yetanother failed head and shoulders top, whether this leg up is over or whether the rally continues,albeit in a weaker more precarious state, toward price targets in the 1200’s on the S&P.