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The S&P Level Where Traders Might Take Profits

VIX is still hovering above a trendline that's been key support on pullbacks

Senior Vice President of Research
Jan 7, 2019 at 8:39 AM
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"While bulls hope a bottom is in and a 'V-rally' is on the horizon, there are multiple resistance levels overhead that could be viewed as potential 'hesitation' points if last week's rally continues... The first significant resistance area is at 2,507 -- the SPX's close the day of the Dec. 19 Federal Open Market Committee (FOMC) rate hike. The second resistance level is at 2,546 -- the close one day prior to the hike... suffice it to say that an area of strong potential resistance is between the 2,500 century mark and the 2,550 half-century mark."
-- Monday Morning Outlook, December 31, 2018

Last Monday, after the S&P 500 Index (SPX - 2,531.94) and SPDR S&P 500 ETF Trust (SPY - 252.39) dodged weekly closes beneath their historically important 160-week moving averages and put up impressive post-Christmas rallies, I concluded that the price action was encouraging but the bulls were not out of the woods.

Specifically, I pointed out that multiple technical resistance levels were overhead after a near 20% SPX decline that began in September. The first resistance level was around 2,507, the SPX's close the day of the Federal Open Market Committee (FOMC) rate hike on Dec. 19 -- and which we now know roughly coincided with 2018's end-of-year close, lending even more significance to this level.

Since then, 2019 has gotten off to a rough start, with the SPX selling off from its FOMC-day and 2018 closing levels on Wednesday morning, only to reverse and close roughly flat on the day. But a weaker-than-forecast ISM manufacturing index reading, along with a weak forecast by Apple (AAPL), sent stocks sharply lower on Thursday, as investors fretted about slower growth related to, among other things, icy trade relations with China.

In fact, slowing growth has clearly been on the mind of investors, as the SPX lost more than 9% in the month of December, coincident with a sharp rise in the number of investors who expect the Fed to remain on hold or lower interest rates in 2019 -- even as the Fed communicated on Dec. 19 that it expects to hike rates two times this year.

A chart of CME Group data that appeared in The Wall Street Journal on Jan. 4 gives you a flavor for how much investors soured on growth prospects for 2019 in the month of December. The proportion of investors expecting the Fed not to raise rates further in 2019 jumped significantly last month, from around 30% to near 100%, even as the FOMC was projecting two more rate hikes for this year as of mid-December. The poor ISM reading stoked fears that the Fed is gearing up to make a huge mistake in 2019.

"With the muted inflation readings that we've seen, we will be patient as we watch to see how the economy evolves... We will be prepared to adjust policy quickly and flexibly and to use all of our tools to support the economy should that be appropriate to keep the expansion on track... there is no pre-set path for policy... If we came to the view that the balance sheet normalization or any other aspect of normalization was part of the problem, we wouldn't hesitate to make a change."
-- Fed Chairman Jerome Powell, January 4, 2019

Friday was a different day with new information for investors to consume -- and bulls can be thankful for this. First, stocks rallied strongly as nonfarm payrolls increased by 312,000, soaring above expectations that ranged from an increase of 175,000-190,000. Earnings growth also surpassed expectations, and data-dependent, "in the moment" traders bid stocks higher, adding to bullish momentum fueled by news that China had cut its reserve requirement ratio, as slowing China growth has weighed on growth prospects here.

As if the China and payrolls news was not enough to feed a buying frenzy, Fed Chairman Jerome Powell, speaking in Atlanta, further soothed investors, who perceived his comments as more "dovish" than in mid-December. Said another way, whereas investors perceived that there was not an outstanding "Powell put" in December, Friday's remarks gave investors an impression that there is indeed a Powell put, a perception that is needed during times of uncertainty and heightened volatility.

Friday's rally was enough to push the SPX above its 2018 close of 2,506.85, which roughly coincides with its closing level from Dec. 19, when the FOMC last hiked rates. However, the rally was not enough to push the SPX above 2,546, its close on the eve of the rate hike, which is situated around the round 2,550 half-century mark.

Moreover, the early 2018 lows around 2,580 that, when breached in December, saw the proverbial bottom fall out, represent yet another resistance level that must be taken out before a "V" bottom can be taken seriously or considered sustainable. Plus, those early 2018 lows are situated a round 10% above the December closing low -- which is another reason 2,580 takes on importance from a short-term perspective, as a profit-taking mentality is likely to surface among short-term traders.

spx daily since feb 2018

"The SPX's half-century 2,350 level marked last week's low and is therefore a potential -- if not critical -- support level for bulls if a pullback is on the immediate horizon."
-- Monday Morning Outlook, December 31, 2018

From a longer-term perspective, the SPX 2,350 level remains important if the advance proves short-lived. But if you are looking for another area of potential support in the short term, the round 2,500 level on the SPX is just under 2018's year-end close and the Dec. 19 close, and thus offers a potential level of support.

I am finding the action in the Cboe Volatility Index (VIX - 21.38) interesting in these last two weeks. The Christmas Eve closing high was 36.07, just 1 point below the 52-week closing high of 37.32 in February. The VIX has imploded since Christmas Eve by about 40%. Bulls would like to see the VIX get below 18.30, which is double the 2018 closing low and roughly half last month's intraday high.

Also, 18.36 is the site of the VIX's 100-day moving average, which was supportive on a pullback in March and acted as resistance from May-September. The crossover in October was indicative of higher volatility ahead, and a VIX pullback in early December saw the lows at this moving average once again.

vix daily since jan 2018

The VIX decline is welcoming for bulls, but the jury is out as to whether this is a volatility pullback within an uptrend, or just a temporary pullback in volatility as the SPX rallies into potential resistance. Continue to maintain exposure to both sides of the market if you are a shorter-term trader, as the technical and sentiment signposts are not clear-cut amid the volatility.

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