Tiny Changes Can Lead To Significant Moves. Are we seeing one now?

Click Here For Wyckoff Wave Chart 02-24-12

We are in a traders market. The stock market, as represented by the Wyckoff Wave, has moved sideways for three weeks. The price spread has been relatively small and the volume not overly impressive.

The intermediate and long-term bulls don’t really have a dog in this hunt. They can simply watch the supply versus demand battle from the sidelines. If there is a reaction back towards the H – P support line, it presents an excellent opportunity to add to or discover new positions.

The short term day or swing traders don’t have that luxury. They need to find some clue as to the stock market’s next move and take their positions. This is not easy stuff and often these short term opportunities can be missed.

The lesson here is to discover a subtle change in character. A quiet tip that the market is ready to make its next move. While either direction works for the short-term trader, determining that direction and timing the trade is critical.

In this exceedingly frustrating market, have we seen a subtle change in character that will give us an important clue as to the stock market’s next definitive move?

It is quite possible this subtle change of character appeared this week. I probably should have waited a week to write about this topic. That way, if the market moved as expected I would appear to be reasonably smart. If it didn’t, I could ignore this topic altogether. However, since I’m not that smart, and I think this is an important point, I will press on.

I have attached two charts to this blog post. The first is a daily chart of the Wyckoff Wave that covers the past few months. The second is the same daily chart, but condensed to only present the market action from point U through last Friday. The first chart is primarily to help reference the second.

Let’s begin our study at point U. This is where the Wyckoff Wave up thrusted the important long-term resistance line drawn from the May 2011 highs. Instead of driving through the resistance on good demand, the Wave penetrated the resistance and then closed below it. This was done on decreased spread and increased volume. Supply came into the market and the days action was a classic upthrust. Conventional wisdom would then say that the Wyckoff Wave would react back towards the H – P support line or even to the old support/resistance line drawn through point K. That didn’t happen. The day following point U brought a lack of supply in the form of decreased spread and slightly decreased volume. Then some minor demand returned and the Wyckoff Wave rallied to test the upthrust. The test was completed at point W. However, because the highs at point W were higher than at point U, the test was of poor quality and needed to be repeated.

Once again supply did not come into the market and the Wyckoff Wave reacted slowly over the next eight days to a low at point X. Let’s review what has happened.

The Wyckoff Wave saw supply come in at the 31,400 mark (point U). It then reacted to point D at the 30,750 level. While the rally to point W was slightly higher, supply again appeared at the 31,400 level. The eight day reaction to point X saw demand again come in at the 30,800 level. We have now established a minor trading range with a resistance level at between 31,000 and 31,500. The support level is at 31,750. I had originally drawn in an apex formation, but, after further review, think the trading range description is more correct.

The test of the upthrust was of poor quality. The test of the lows at point V was of good quality. The reaction to point X held above point V.

At both points U and W, supply came into the market. Again, this was where the expected reaction could have taken place. However, Demand kept returning and preventing the reaction. However, every time the Wyckoff Wave attempted to rally, supply came in and stopped the small advance. While the weak test at point W and the strong at test point X were minor positive indications, it still seemed that the supply would rule the day and we would get a nice reaction back to a significant Last Point of Support.

As I reviewed the day’s action at point X, I felt that based on the intra-day failure to the upside, increased price spread and only slightly reduced volume that this was the beginning of the expected reaction. I was wrong. Once again, demand came in and the Wyckoff Wave rallied to point Y.

The day’s action at point Y was not particularly bullish. There was an intra-day failure to the upside, decreased price spread and only slightly decreased volume. While some supply was present, it was not as strong as at the previous size. In fact, the days action suggested a lack of demand rather than supply. However, the door was open for supply to come in.

It didn’t and here was the subtle signal. On the day following Y, the Wyckoff wave reacted on decreased spread and decreased volume. Instead of supply coming in to drive the Wyckoff Wave down toward the bottom of the trading range, supply dried up. Supply didn’t come in as expected at the 31,000 to 31,500 levels. Instead we saw a lack of supply.

The character of the market had changed. Supply should’ve come in, but it didn’t. This means something. It means even more when you go back and look at the action of the trading range after the upthrust at point U. While there were some bullish indications, they weren’t enough to draw firm conclusions. However, when looked at in light of this change of character, they become more significant.

The next day, marked by point Z, the Wyckoff Wave experienced an intra-day failure to the down side and closed, on decreased volume, near the top of a wider price spread. Once again we have a lack of supply right where supply should’ve come in.

It appears that demand was taking control of the market. However, nothing is easy. It would’ve been terrific if strong demand had come in on Friday, but it didn’t. The reduced price spread and volume suggested a lack of demand. However, Friday’s market action produced a new high for the Wyckoff Wave and, once again supply was not present.

In addition, we are able to draw a new short-term uptrend channel with support line X – C and a parallel supply line drawn through Y. If my scenario is correct, the market will test and possibly penetrate the supply line early next week.

Thursday, in my daily market letter to Wyckoff Pulse of the Market Charting Service subscribers, I advised taking short-term positions to the upside. This is a fairly aggressive recommendation as it is based on a change of character and not traditional Wyckoff ending action. However, over the years I have seen many strong market moves begin with these subtle character changes.

What if I am wrong? If so, several things could happen.

Perhaps the trading range is not finished and there will be more definitive ending action. If that happens there will be a reaction. Since market indications are more bullish than bearish, we could see a ending action in the form of a spring.

We can still certainly see a reaction back to the area of the support line or even the old support/resistance line mentioned above. There is certainly enough count on the 100 Point & Figure chart to justify that move.

Regardless, the new support line will be penetrated. That will be a signal for the short term bulls to close their positions and wait for a new opportunity. Such is the nature of the business. The risk is small. The gain can be significant.

Now we will see if the coming week makes me look reasonably smart or if I end up with egg on my face.