Overbought and Divergent

Written by Published in David Paul

The divergence between the price of the VectorVest Composite UK and the Market Timing Indicator (MTI) on the VectorVest program continues. The trends on the Composite are Up/Up which indicates that the short term trend or Primary Wave is Up while the underlying trend is Up. There is a green light in the price column of the color guard which shows that price is up both day over day and week over week. From a trend following perspective this is a very positive situation. The Ft100 especially was boosted by a rise in the price of oil to a 4 month high and pound weakness. The Ft100 rose above the 7000 level on Tuesday for the first time in more than a year. The Bank of England has continued with its bond purchases and in the week bought some 500 million pounds worth of corporate bonds. This is much in advance of the 130 million forecast.

However, there are black clouds in the sky. These clouds may not amount to anything but I have an umbrella packed in my gym bag.

The chart of the Composite is shown below and the divergence can be clearly observed over the past 6 weeks. Prices rising and making a higher top while momentum is falling and charting a falling top is a powerful leading indicator of a change in trend. If this divergence is confirmed by a Confirmed Down signal or a DEW signal, then those signals need to be taken very seriously. Both signals can be automatically displayed by selecting each from the drop down menu below the chart window on VectorVest. If you haven’t found this dropdown then please call support on 0800 0148974 in the UK and on 0800 981891 in SA. The red triangle in January and the green triangle in February are the confirmed calls in 2016. The UK market has been enjoying a confirmed call upwards since the third week of February 2016.

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Those versed in harmonic patterns should have noted the bearish “butterfly” pattern on the Composite that has set up over the past two months. This pattern is shown below and along with the divergence on the Composite in a much overbought area concerns me.

On the Composite, note the selloff in price between the high on the 15th August and the low on the 12th September. After this the market rallies in an AB=CD pattern to a 1.27 extension of the selloff. This is the butterfly pattern and when it works precedes a very strong and high momentum move. A 3 month chart of the Composite illustrates the pattern.david2

Over the next few days please observe and keep careful tabs on the Composite. A close below the trendline defining the rise from the Brexit low would be an important sign of trouble ahead. This trendline is drawn on both charts included here.

In the last few days the markets have been most kind to me with strong advances in JD Sports, Trifast and Hill and Smith. Although I am worried about the overall market there is still a strong possibility of a run upwards towards the top trendline defining the rising wedge on the longer term chart above. Technically I like the picture in Cranswick which looks highly probable to break up from an “ascending triangle” pattern.

I am sitting tight and will try and trade what I see and not what I think and feel. For the moment I will sit and watch carefully. It’s not a time for a long fishing trip.

I will leave the discussions around the collapse of the Pound in the Asian session on Friday 7th October to your weekend newspapers. The UK Prime Minister has been given a short and sharp forex trading lesson. Those attending my bi weekly webcasts should not be that surprised. In these webcasts my first target for Cable (pound/dollar pair) was 1.25 and it has been on every chart that I have presented over the past 6 months. If this level is broken then the next level is 1.12. This fall in Cable (imho) the last wave down in a 5 wave sequence which started prior to the financial crisis. This fall in the currency pair started on the 1st November 2007. From an Elliott Wave perspective the move down is becoming mature and although the time scale on the charts is measured in months the worst may soon be nearly over. Unfortunately 1.12 again the dollar is a real possibility first.

David Paul

7th October 2016.

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