Flash report: Key reversal day was seen Monday

January 24, 202221 Comments

Have you read my book Sideways? Or have you signed up for my new Technical Analysis course? If you have done either of those things, you will know that one of the reliable neartermed reversal signals you can see on a chart is a “hammer” candlestick. A hammer occurs when the market falls sharply from the open, then reverses and actually ends up closing near to, or HIGHER than its open. This, despite the massive downside witnessed in the early part of the day.

A hammer with a higher close (green hammer on the left – also can be white) is a particularly bullish formation. It indicates that the crowd has capitulated, and then the smart money has stepped in near the end of the day to buy cheap stocks off of weak hands. Moreover, they pushed it higher than the open, a sign of a complete reversal in the washout. And that, my friends, is what we witnessed Monday.

Below is a daily candlestick chart.  Yesterdays capitulation was a washout and hammer reversal. This reversal put the market right back above support from October. In other words, the market did NOT violate its last significant low from October 2021, despite its crack of the 200 day moving average (not shown on chart) which now sits around 4410. This candlestick reversal and move above the October low indicates a high probability of a pending upside move in the near-term. Its a beautiful thing to behold.

Equally important to the candlestick washout were the sentiment signals. I won’t print all of the charts as its a tedious job – but of note are the VIX – which gave a  VERY reliable buy signal as it moved intra-day above 34. Here’s the chart. Note what happens to the market when the VIX moves above 32. Again, this is something I cover in my new course.

 

Other sentiment indicators that hit my “buy levels” on Monday (see my book Smart Money/Dumb Money) include:

  • CBOE Put/Call ratio
  • AAII Bears index
  • NYSE New High/Low index (of note–it almost went as deep as the day of the COVID crash low)
  • Sentimentraders Smart $ Dumb Money spread

Below is a compilation of all of Sentimentrader.com’s sentiment indicators rolled into one single “pessimism” rating. This basically tracks the opinions and activities of retail investors, small traders, small options traders, even your grandmothers opinion –  on the market. It rolls them into one rating for how optimistic or pessimistic investors are. As you will note, it is rare to see all of these indicators (represented by the completion in this chart) signal excess pessimism. In fact, the last time we saw a break over the upper pessimism line on this compilation was the bottom of the COVID crash in March 2020. Although we are not witnessing such an extreme here –  its clear that investors are pessimistic. The indicator could go a bit deeper, but for all intents and purpose – it is in the buy zone. And that, my friends, is a contrarian buy signal.

Conclusion

I anticipate the market has good potential to rise from here. A reversal and hold over October’s support, a candlestick “hammer”, and deeply pessimistic sentiment indicators suggest that the fruit is ripe for the picking now.

Sure, it would be prudent (as I instruct in my new course) to leg in over a matter of days to confirm the rally. It would be nice to see a move ahead of the 200 day SMA as a second confirmation of a bottom. And its prudent to wait 3 days before getting too excited (which means Thursday). But, for those with a little higher risk tolerance, its not a bad bet to step in with some of your cash a bit early. See if Tuesday remains positive – and dip your toe into the water if it looks to be holding. If you see it sell off during the first few hours, stay out until the market acts positively. But – I have enough evidence in front of me to indicate the odds are good from here. No…You shouldn’t buy all at once, as the market could play tricks. But the evidence is strong enough that an initial deployment of cash into quality stocks makes sense at this point, assuming Tuesday opens and stays positive.

Happy trading!

21 Comments

  • have all three books and signed up for course the other day but have not looked at it yet. i am basically a dividend investor and
    using dividends for daily expenses and i guess a buy and hold investor. will your course be of value for buy and hold strategy?
    i wanted to learn more about technical investing but it would be great if it would work in my situation also.
    thanks and looking forward to starting course

    Reply
    • it is geared towards growth investors but the principles of following chart patterns to buy hold and sell if necessary apply to all stocks–dividend payers etc

      Reply
  • If true and market holds and goes higher it looks like a big right shoulder of a head shoulders pattern could form could forming

    Reply
  • Makes sense from a short term trading perspective, but the potential is there for it to be a sell-on-strength situation (in other words a counter-trend rally) because most indices are in an intermediate downtrend now. Taking $SPY as an example, I would think it would have to clear that 450 level which was previously support, and stay above it for a few days before calling an end to the intermediate downtrend??

    Reply
    • Yes, this could be a short but powerful rally
      I am actually curious as to whether we are heading into a true bear market. Elliott wave suggests we may be…I discuss the crowd behavior of each wave in my course – we may have just went through wave 5 type speculation, so this may be wave A of the 3-wave bear move. Wave B would be a counter trend move into the spring.
      But, that’s just me talking. Ultimately–watch the chart for support, highs and lows and watch the 200 day SMA!

      Reply
      • Keith – I’m taking your course and loving it so far. I wish I had a tool like this when I first started out! Yes – I’m glad you mentioned the EW stuff because last night when I was going through your course I was thinking to myself – did we just go through wave 5?? The FED meeting was quite hawkish and with Fed beginning to raise rates in March – it seems the mkts have a high probability of more downside? I recall from your course how your long term chart of fiscal/monetary policy shows interest rate hikes cause mkts to slump. I will be watching the next few days to see if SPY can reclaim the 200DMA!

        Reply
        • Dan–amazing coincidence–I just wrote a blog on looking at the market from an EWT perspective. I will publish it this weekend–hope you get the automatic emailed blogs (subscribe to the blog)–sounds like you will enjoy this one.

          Reply
  • In a time like this I’m tempted to go out and ask average people what they are doing with their stocks right now and then do the opposite of what they’re doing

    Reply
  • Hi Keith,
    Thanks for posting more frequently this week. Have you began buying today and if so, what sectors?

    Thank you for your time.

    Joy

    Reply
    • We will be buying today and on. Differenct sectors- financials, even some tech!

      Reply
  • The Russell 2000 is the most worrisome chart. It has to go up through some major resistance. I doubt it will and could result in a 20% correction not the current 10% correction probably taking the S&p with it. We shall what happens.

    Reply
  • When you look at the 30 day chart of the S&P 500 it is steady down, no hint of consolidation.
    Even though it has held above 4300, I am reluctant to buy in until I see at least 2 or 3 up days.
    Have you any new thoughts.
    Thanks Keith

    Reply
    • I have strong capitulation signs coming from sentiment and breadth momentum indicators- and support at 4300.
      Negatives are lack of rebound as you point out, along with failure to break over the 200 day SMA.
      So its touch and go- but the sentiment work and the adherence over 4300 keeps me invested
      FYI we spend 7% of our 10% cash –entirely on financials- which benefit from rising rates

      Reply
  • Hi Keith,
    Could you do an update regarding this week’s market and your thoughts on what we should watch out for next week?

    Thank you again.

    Joy

    Reply
  • Keith Another sector that looks to be oversold is health care. IHI, XLV and even more XBI. All appear to still be looking for a bottom but seem to have plenty of room above when they turn. Thoughts?

    Reply
    • Of those three, XLV is the only one which has not broken down technically yet.

      Reply

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