What Does a Stock Market Topping Pattern Look Like?

Michele Schneider

I love today’s featured photo.

If you see it right side up, it looks like a piece of deadwood coming out of the tree trunk.

Upside down (as shown), it looks like the head of a bird. 

Ok, maybe a somewhat prehistoric bird, but a bird nonetheless.

The point is it reminds me of the stock market this past week.

If the stock market were truly reflecting the times-civil unrest, potential for a second wave of the pandemic, an unemployment rate of more like 16% (considering the millions who were counted as employed receiving PPP money)-then it would look like a piece of dead wood.

faded black swan stock market image

Instead, the market is like what I did to this photo, moved it upside down to show you the illusion of a perfectly wood-sculpted bird. I even put my initials upside down to reinforce that point.

This got me thinking, with the NASDAQ Composite INDEXNASDAQ: .IXIC making new all-time highs along with the Semiconductors ETF (SMH), is this really an illusion or a photographer’s trick?

Last week I featured the Volatility Index INDEXCBOE: VIX. 

Friday it closed lower, but not that far from its 200-DMA.

Bonds (TLTs), which had a huge sell off, reversed, and closed on the intraday highs.

And Gold miners (GDX) tested its 50-DMA and closed well above it.

Bonds and miners in particular, have my attention for this week.

Hence, what does a market top look like?

1.         A huge rally to new highs with big volume, can be a blow off top. Semiconductors SMH is a prime example. SMH made a new high at 154.77 and closed near the intraday lows. Should it close Monday under 152.15, then that could yield a 10% correction. These blow offs followed by a reversal is one way to determine a top. 

2.         A blow off top with huge volume does not have to show up in a one-day pattern. Looking at QQQs, it closed on new all-time highs. Now, it could gap higher and hold, or it could fail. Or, it could open lower and have an inside day. Or, it could open lower, sell off and close under Friday’s low. In every scenario, we look for a topping pattern to emerge at some point soon.

3.         An exhaustion gap has many parameters. The one I am interested in is the one that could be setting up in Regional Banks KRE. That gapped up, failed to clear the 200-DMA then, closed near the intraday lows. I like KRE for the last couple of years as an early indicator of impending weakness in the market all around. KRE has to close under 44.22 Friday’s low.

4.         Other ways to find tops are island tops, plus double and triple tops. I do not see any in this market currently.

Going back to VXX, TLTs and GDX-they are all counter movers that had huge corrections and potentially reversed on Friday. 

One other instrument to note is Transportation IYT. Like KRE, that has often proved as a reliable early warning indicator.

On Friday, IYT cleared and then reversed to close below the 200-DMA. 

Monday I will be watching carefully to determine if the market maintains its bird-like illusion or turns right-side up and becomes dead wood.

Keith took a turn at stockchartsTV and did a 30-minute presentation. Here is the link: https://www.youtube.com/watch?v=1aIK_6nEA0A&list=RDCMUC-W7dUPnSvZ4oTe_8vhk-qQ&start_radio=1&t=473

S&P 500 (SPY) 323 big resistance and a move under 317 suspect

Russell 2000 (IWM) Needs to hold 147.30 to maintain this rally

Dow (DIA) 263 big support resistance at 280.

Nasdaq (QQQ) Uncharted territory-just like this whole year

KRE (Regional Banks) 48 resistance and needs to hold 43.00

SMH (Semiconductors) If there is a reversal, this can drop to 140 and still look good. 160 resistance

IYT (Transportation) 177 resistance. If fails Friday’s low, 162.50 next big support

IBB (Biotechnology) 130-136 current range

XRT (Retail) Another possible exhaustion gap reversal. 43.50 pivotal

Volatility Index (VXX) Cash closed right on the 200-DMA

Twitter: @marketminute

The author may have a position in the mentioned securities at the time of publication. Any opinions expressed herein are solely those of the author, and do not in any way represent the views or opinions of any other person or entity.