First, we have a historical precedent that mimics the current market behavior in frightening details. In March 2000 Nasdaq topped after a spectacular bull run. It then fell almost 40% and made a choppy rally that quickly topped in a head and shoulders pattern. In late May price sliced through the previous lows and everybody thought the end of the world is coming. But instead, index sported a massive accumulation that fueled the rally for 6 weeks, gaining almost 40%.
Now, look at the current situation. After the first real drop from the top all major indices show very similar behavior. A rally from 20% drop topped in a short head and shoulders pattern, undercut previous lows and rallied viciously.
The second positive sign is that Friday was not a distribution day. Any down day on low volume, especially Friday when traders like to liquidate positions, is positive during rallies, even in bear markets.
And the third and most positive sign is that my watch list of top stocks that are completing their bases and are ready to breakout has extended to as many as 10 stocks, which hasn't happened for almost a year now. Trading is a game of probabilities. And the more stocks build their bases, the higher the chance that many breakout will succeed and drive the rally higher.
Now if we can trust historical precedence this uptrend should last for at least 4 weeks and not more than 8. During the first rally in bear market many stocks can still be successful trades and should be traded. Also, the first rally tends to break all technical levels to the upside to draw in as many people as possible and remove early shorters. When distribution is over, it tends to drop without warning, leaving very little room for entry to the short side. We'll get back to this when time is right.
If today's strength holds into close and volume increases from the previous Friday, I'm going to issue a buy signal on stock market.
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