S&P 500 Getting Stretched - Topping Process Likely Underway

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Includes: DIA, QQQ, SPY
by: Financial Sense

By FS Staff

Click to enlarge

2016 started out with a bang. As people flipped their calendars forward to a new year they were immediately greeted by a double-digit correction in the stock market. Fears of a global recession and a blowup in the junk bond market swept over investors as the price of oil continued to crash to new lows.

In lockstep fashion, the S&P 500 and the price of West Texas Intermediate (WTI) crude bottomed in mid-February (the final bottom in crude was $26/barrel) and the stock market has ripped higher by 13% since. Having now erased all its earlier losses, the S&P 500 is showing a 1% gain year-to-date.

After correctly predicting the turmoil that would result from events surrounding China and its currency in August, the widely-esteemed market strategist Felix Zulauf told Financial Sense listeners again in December that 2016 would likely see some very dramatic moves-both in stocks (down) and in the gold market (up)-with opportunities abounding for nimble traders but making for a hellish environment for long-term buy and hold investors. Needless to say, his outlook turned out correct.

Looking at the chart above, there is now good reason to believe the rip-roaring 13% rally from mid-February has come too far too fast and may be in the process of topping out.

Periodically the S&P 500 will get extremely stretched, moving too far above or too far below its 50-day moving average indicated by the horizontal red and green lines. When this happens, we typically see an important top or bottom in the market take place.

The S&P 500 is currently trading 6% above its 50-day moving average and may chop around at these levels or even push higher. That being said, it is nearing a point of exhaustion with many sentiment measures now in overbought territory, some even registering frothy levels of "extreme greed" on the part of investors. Upside gains may be limited with a topping process the most likely course of action.