What to watch for on Wednesday

As everyone knows by now, today’s elections and Wednesday’s Fed announcement are probably going to be pivotal in dictating the stock market’s next big move. For the most part, the market hasn’t moved much over the last week or two. So, what will the market do after Tuesday and Wednesday?

Well, it would appear that the market has rallied higher and higher based on the expectation of Tuesday’s election results and/or Wednesday’s Fed decision. This sounds a whole lot like the “buy on the rumor, sell on the news” set-up. But, does that mean the market is definitely going to sell-off this week? Right, if I knew the answer to that question then I wouldn’t need to analyze the charts! However, my belief is that the market is setting up for, if nothing else, a pullback of some kind. Let’s remember, the stock market has rallied around 15% over the last couple of months without any real pullback of any kind. So, if the market has rallied in expectation of this week’s events, then what would propel the market higher once the events are over?

And that’s my concern for the stock market: The market already expects Republicans to take control of at least the House. The market also already expects the Fed to announce its QE2 measures for the economy. So, if those reasons are supposedly why the stock market has rallied so well lately, then why would we continue higher once what the market expects actually happens? Once again, it sure does sound like the “buy on the rumor, sell on the news” scenario I mentioned above. Unfortunately, the market is never that cut and dry. Ultimately though, couldn’t the market itself tell us what it plans to do?

Please review the following charts:

On the first chart of the Dow, you will notice the channel that the Dow appears to be traveling within. The topside resistance does seem to be important to the Dow. However, the next (2) charts of the Dow and Nasdaq probably paint a clear enough picture of where we are. Notice that where we’ve been stalling over the last several weeks on the Dow, and recently on the Nasdaq, isn’t really a surprise. Both indices have approached their respective April highs and are now sitting tight. Ultimately, if the markets break above these levels, wouldn’t you expect the next move in the markets to be higher?

Lastly, although I have not included the S&P in this analysis, keep that index in mind if the Dow and Nasdaq do in fact break higher this week. The S&P still sits 2-3% below its April highs. The Dow/Nasdaq aren’t going anywhere without the S&P.

The Tale of the Tape: The markets have rallied strongly in supposed expectation of this week’s events. They now sit under formidable resistance. This would not be the most ideal time to enter new long positions. However, if the markets manage a clean break higher on STRONG volume, I would expect another leg up in this bull market. That being said, if for example the Dow cannot hold 11,000, I would expect at least a pullback in the market. Waiting for a better entry would be in order under that scenario.

Waiting for the most opportune times that I have outlined above could provide you with higher probability entry points. No matter what your strategy or when you decide to enter, always remember to use protective stops and you’ll be around for the next trade.

Good luck!

Christian Tharp, CMT