The S&P 500 is in a short-term trading range, but remains in a long-term bullish trend. Here’s how some investors are trading the range.
The jobs report released last week was okay, but not enough to supercharge expectations that the Fed would hike interest rates during its September 21 meeting. For the S&P 500, this might mean more of the same: sideways trading, within a well-defined range.
The longer-term trend in U.S. stocks, however, remains bullish, evidenced by the push to new all-time highs in August. But dialing down to a shorter timeframe, a sideways or neutral trend has emerged on the daily chart.
JJ Kinahan, chief market strategist at TD Ameritrade, points to a number of factors that have led to the S&P 500 trading in a fairly tight range in recent weeks. These include:
Technical analysis guru John Murphy, author of many books on charting, has written that markets trade sideways in a range at least 1/3 of the time. In the financial markets there are three trends:
This begs the question: Which strategies can active investors consider during a sideways trading range?
The first step involves identifying the top and the bottom of the current range, or in technical parlance resistance (the price ceiling) and support (the price floor). Next, draw horizontal trend lines on the daily, or intraday, price chart that you’re using to clearly identify these price points. Most recently, since mid-July, the S&P 500 has traded within a large range between roughly 2193 (resistance) on the upside and 2147 on the downside (support).
A very simple range trading strategy that some active investors employ is called playing the range. This involves attempting to buy near the bottom of the range, with a target at the top of the range, and selling near the top of the range, with a target near the bottom of the range for another entry point.
Kinahan explains how active stock investors could capitalize on this concept. For an investor who holds 800 shares of a stock, designate a portion of that position, maybe 200 to 300 shares, to this strategy, he says. "If the stock goes up to a certain level, sell it. Then, if it goes down to a certain level, buy it back," Kinahan says. Of course there are risks to this strategy. A stock could break out of its range at any time, causing an investor to potentially miss out if the move is higher or experience a loss if it's lower. Plus, a more active approach like this increases transaction costs.
Currently, while the S&P 500 index is stuck in a short-term trading range, many stocks are not, Kinahan notes. It’s essential that active investors do their homework, study charts to identify a well-defined trading range, and match indicators to the current trading environment.
Importantly, some technical indicators are better suited for trading range environments than others. A momentum oscillator, such as the Relative Strength Index (RSI), can be utilized to determine overbought and oversold areas. When employing the RSI as an overbought/oversold indicator, it’s suggested to use levels of 70 or more as overbought and 30 or less as oversold. Generally, if the RSI rises above 30, it’s considered bullish for the underlying stock. Conversely, if the RSI falls below 70, it’s a bearish signal. An example of the RSI applied to the S&P 500 can be seen in figure 1, along with the recent trading range.
FIGURE 1: S&P 500 TRADING RANGE.
The S&P 500 has been trading in a sideways range between resistance at 2193 and support at 2147. Data source: Standard & Poor’s. Image source: the thinkorswim® platform by TD Ameritrade. Not a recommendation. For illustrative purposes only. Past performance does not guarantee future results.
If the RSI rises above 30 while a market is turning up from the bottom of a well-defined trading range, this can trigger a potential buy signal. Conversely, if the RSI turns down from overbought levels, while a market is turning down from the top of a trading range, this can trigger a potential sell signal.
The S&P 500 index won't stay stuck in a range forever. Kinahan says as the U.S. presidential election near, stock market volatility could increase. Also, now that summer has officially ended and vacations are over, investors and institutional traders are turning back to the important business at hand. Active traders can consider using the sideways action now to play the range, while long-term investors can plan out their next portfolio steps.
for thinkMoney ®
Financial Communications Society 2016
for Ticker Tape
Content Marketing Awards 2016
Market volatility, volume, and system availability may delay account access and trade executions.
Past performance of a security or strategy does not guarantee future results or success.
Options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially rapid and substantial losses. Options trading subject to TD Ameritrade review and approval. Please read Characteristics and Risks of Standardized Options before investing in options.
Supporting documentation for any claims, comparisons, statistics, or other technical data will be supplied upon request.
The information is not intended to be investment advice or construed as a recommendation or endorsement of any particular investment or investment strategy, and is for illustrative purposes only. Be sure to understand all risks involved with each strategy, including commission costs, before attempting to place any trade. Clients must consider all relevant risk factors, including their own personal financial situations, before trading.
This is not an offer or solicitation in any jurisdiction where we are not authorized to do business or where such offer or solicitation would be contrary to the local laws and regulations of that jurisdiction, including, but not limited to persons residing in Australia, Canada, Hong Kong, Japan, Saudi Arabia, Singapore, UK, and the countries of the European Union.
TD Ameritrade, Inc., member FINRA/SIPC. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. © 2019 TD Ameritrade.