The Stock Market Appears To Be Reaching Unsustainable Highs

The Nasdaq Composite continues to lead stock market strength. It set a new all-time intraday high of 10,086.90 on June 10. Now it’s extremely overbought with a 12-week stochastic reading above 90.00, which defines an inflating parabolic bubble.

The S&P 500 has become overbought, but it suffered an “island reversal” between June 5 and June 11. This is a sell signal!

The Dow Jones Industrial Average also had an island reversal and it ended last week below its 200-day simple moving average at 26,312. The Dow Transportation Average failed to hold its 200-day simple moving average at 9,801 on June 10. The Russell 2000 also failed to hold its 200-day simple moving average at 1,480.96 on June 10.

Describing the Weekly Charts

The weekly chart for the Dow Jones Industrial Average is positive with the average above its five-week modified moving average at 25,173. It’s also above its 200-week simple moving average or reversion to the mean at 24,018. Its 12x3x3 weekly slow stochastic reading rose to 78.46 last week, up from 75.77 on June 12. The Dow is above its monthly pivot at 25,157 with its quarterly pivot at 26,091. The Dow is below its annual and semiannual risky levels at 29,964 and 30,361, respectively.

The weekly chart for the S&P 500 is positive but overbought with the index above its five-week modified moving average at 2,999.5. This index is above its 200-week simple moving average or reversion to the mean at 2,690.2. Its 12x3x3 weekly slow stochastic reading rose to 82.68 last week, up from 80.26 on June 12. Its above its quarterly, monthly and semiannual pivots at 2,979.6, 3,062.1 and 3,303.4, respectively, and below annual risky level at 3,466.5. 

The weekly chart for the Nasdaq is positive but overbought with the index above its five-week modified moving average at 9,335.35. The Nasdaq is well above its 200-week simple moving average or reversion to the mean at 7,230.47. Its 12x3x3 weekly slow stochastic reading rose to 89.94 last week, up from 88.31 on June 12. Its quarterly value level is 8,559 with semiannual, monthly and annual pivots at 9,074, 9,605 and 9,352, respectively. This week’s risky level is 10,221.

The weekly chart for the Dow Jones Transportation Average is positive with the average above its five-week modified moving average at 8,838.57. The average is below its 200-week simple moving average or reversion to the mean at 9,896.93. Its 12x3x3 weekly slow stochastic reading rose to 70.48 last week, up from 67.25 on June 12. Transports set its all-time intraday high of 11,623.58 back on September 14, 2018. Its quarterly value level is 8,806 with a monthly pivot at 9,269, and semiannual, and annual risky levels at 12,155 and 12,755, respectively. 

The weekly chart for the Russell 2000 is positive with the average above its five-week modified moving average at 1,369.86. It is below its 200-week simple moving average or reversion to the mean rose to 1,483.41. Its 12x3x3 weekly slow stochastic reading rose to 74.03 last week, up from 69.92 on June 12. The small-cap index set its all-time intraday high o1,742.09 back on August 31, 2018. Its quarterly and monthly pivots are 1,424.48 and 1,409.46, respectively, with semiannual and annual risky levels at 1,831.9 and 1,910.58, respectively. 

How to use my value levels and risky levels:

The closes on Deember 31, 2019 were inputs to my proprietary analytics. Semiannual and annual levels remain on the charts. Each uses the last nine closes in these time horizons.

The second quarter 2020 level was established based upon the March 31 close. The monthly level for June was established based upon the May 29 close. New weekly levels are calculated after the end of each week. New quarterly levels occur at the end of each quarter. Semiannual levels are updated at mid-year. Annual levels are in play all year long.

My theory is that nine years of volatility between closes are enough to assume that all possible bullish or bearish events for the stock are factored in. To capture share price volatility investors should buy on weakness to a value level and reduce holdings on strength to a risky level. A pivot is a value level or risky level that was violated within its time horizon. Pivots act as magnets that have a high probability of being tested again before its time horizon expires.

How to use 12x3x3 Weekly Slow Stochastic Readings:

My choice of using 12x3x3 weekly slow stochastic readings was based upon back-testing many methods of reading share-price momentum with the objective of finding the combination that resulted in the fewest false signals. I did this following the stock market crash of 1987, so I have been happy with the results for more than 30 years.

The stochastic reading covers the last 12 weeks of highs, lows and closes for the stock. There is a raw calculation of the differences between the highest high and lowest low versus the closes. These levels are modified to a fast reading and a slow reading and I found that the slow reading worked the best.

The stochastic reading scales between 00.00 and 100.00 with readings above 80.00 considered overbought and readings below 20.00 considered oversold. A reading above 90.00 is considered an “inflating parabolic bubble” formation that is typically followed by a decline of 10% to 20% over the next three to five months. A reading below 10.00 is considered as being “too cheap to ignore” which typically is followed by gains of 10% to 20% over the next three to five months.

Disclosure: The author has no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours.

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