Many traders and investors speculated that a potential market bottom or at least a significant rally could be just around the corner as the S&P 500 rallied from oversold conditions below 3900 to nearly 4100 in just 4 days.
The rally was expected to be short-lived, as explained in the video at the bottom of the post, using multiple scenarios that focus on characteristics of price action to differentiate a bull trap from a market bottom. This was further supported by the bearish reversal of resistance at 4100 on May 18, 2022 for the S&P 500.
Capitulation needed for stock market fund
To call a stock market fund, capitulation from both institutions and retailers is needed. Before the capitulation of the market occurs, the leadership in the sector, the industry group and the shares are likely to disappear along with the market rotation as the smart money withdraws from the market.
Given that the current market price structure is eerily similar to the 2008 global financial crisis, as explained in my stock market crash déjà vu video, take a look at how the Consumer Staples XLP ETF fared before a market capitulation occurred in 2008, as shown below.
From January to September 2008, XLP outperformed the S&P 500 as XLP attempted to make a new high on September 19, 2008 (noted as 1), the S&P 500 formed a lower high and a lower low while testing support turned into resistance at 1260.
A few days before the failure of the breakout in XLP, an increase in selling was observed as shown in the volume panel (noted by a blue arrow), which served as a red flag of the attempted breakout. After a break below immediate support (noted as 2) on increasing volume, XLP struggled to recover and eventually led to a capitulation along with the S&P 500.
The magnitude of the decline after the swing low formed (noted as 2) was 25% in the S&P 500 with a wide steep price spread and climatic move lower. The volume increased sharply on the way down. Both price and volume characteristics pointed to a market capitulation. Subsequently, a significant rebound from the oversold condition marked the selling climax and the bottoming process was developing, which lasted 5 months.
As shown in the chart above, in 2022, XLP experienced a strong sell-off that suggested a rotation out of the consumer staples sector. This is significant as Traditionally, XLP is the defensive sector, which is usually the last to be eliminated by the smart money..
From the end of April 2022, XLP saw a surge in selling, as shown by volume, followed by a failure of the bar breaking below support at 78 (noted as 1). A continuation of overselling after the failure was seen, better known as bullish momentum after the spread, which is a classic event where the smart money unloads their long positions or even initiates short positions.
On May 18, 2022, XLP broke below support at 76 with the largest bearish bar (noted as 2) since the Covid-19 low on rising volume, urgent selling institutions suggested. As the sequence of development is similar to what happened in 2008, we could anticipate that a possible stock market capitulation could start soon, like in 2008. This type of analog comparison could be effective as I anticipated the sell-off started on the 9th of May 2022 before it happened. as explained in the video on the bear market leading indicator.
Anticipate a Bull Trap Using the Wyckoff Method
As mentioned above, watch the video below to learn how to recognize a bull trap and not get confused with a market bottom.
This should be used in conjunction with analog comparison as mentioned above to better interpret market messages. As the presence of demand was observed last Thursday and Friday, an attempt to recover is expected. If the rally fails to commit above 4100, the stock market capitulation is likely to start soon. Visit TradePrecise.com to learn more about the stock market by email for free.
This article was originally published on FX Empire