Russell 2000 Study Suggests Major Market Correction Is Near

By See It Market  OCT 18, 2013 3:40 PM

Technical analysis shows that the index may be a small handful of weeks away from beginning a major corrective phase that will play out over the next three to seven months.

 


Over the last couple of weeks, the outsized trouncing that small-cap benchmark Russell 2000 (INDEXRUSSELL:RUT) continues to deliver versus its large-cap peers year-to-date has been a consistent theme of discussion. Epitomizing its leadership in a mature and enduring bull market, the Russell 2000 is about to print its 48th consecutive weekly close above its 50-period Simple Moving Average (50SMA). 

To examine the implications of this seemingly rarefied scenario, I set up a simple study reviewing occurrences in the 2000s in which the Russell 2000 attained 40+ weeks closing above its 50SMA, lowering the bar modestly to sweep in a larger sample.  With the caveat kept in mind that as an already outlying scenario the rate of occurrence of these market readings is low, the results are shared below.
 
The study sought to answer two questions:
 
1. What were the vertical (performance) and horizontal (time) results for the Russell 2000 after registering 40 weekly closes above the 50SMA historically?

2. What projections – if any – are available based on those results?  
 
Over the past 10 years, RUT clocked 40+ weekly closes above its 50SMA (the “signal”) on five occasions: January 2004; May 2007; April 2010, May 2011; and August 2013, which is currently underway.  An astute eye will already catch that each of these dates preceded a legitimate market correction (i.e. -10%+ from price peak-to-trough).
 
Once this threshold is crossed, the following has occurred historically:
By comparison, here’s how the current occurrence stacks up:
In other words, its been almost eight weeks since RUT hit 40 consecutive closes above its 50-week simple moving average. Since that close (at 1038), RUT advanced another 5%, to 1090.  From that 1038 close, the distance to the 50-week simple moving average is currently 8% or 83 points.  As you can see, today’s period of “40+ weekly closes >50SMA” is roughly consistent the four preceding it.
 
Russell 2000 (RUT) – Weekly: “40+ Consecutive Weeks >50SMA” Study
 

Click to enlarge
 
What can we extrapolate about what comes next?
 
On Price
Thus far, this implies a market correction to approximately 955 in the back half of November.
 
Now some additional datapoints:
Adding the current distance to the signal of -3.8% to these figures, we are able to project some rough market correction targets:
On Timing
RUT‘s active signal is in week eight, suggesting a bottom would occur between 13.5 (median) and 31.5 weeks away.

Pulling this all together, Russell 2000‘s active signal at 48 consecutive weeks above its 50SMA projects a 25.37-32.4% market correction (a true bear market, where the bottom would occur in that band), culminating in a low between 730-806 between mid-January and early June 2014.
 
Those are wide and unwieldy ranges, true; but this far out in price and time the objective should not be to dial in exact vertical and horizontal targets – the number of variables that may intervene would make concrete values all but arbitrary.  At this distance, the general implications yielded by the study are more than adequate: Russell 2000 is a small handful of weeks away from beginning a major corrective phase that will play out over the next three to seven months.
 
Of particular interest in the context of Russell 2000‘s current position at channel resistance is the proximity of the 200-Week SMA (currently 798) and cyclical rising channel support to the latter target at 806.  This scenario vividly recalls 2011′s August-October drop, which just eclipsed a -20% peak-to-trough move, installing a major correction, yet maintaining the cyclical bull market’s primary uptrend.
 
Bonus: Because the S&P 500 (INDEXSP:.INX) is more widely followed and referenced, here’s the raw chart for the same study, going back to 2000.
 
S&P 500 – Weekly: Marking 40+ Consecutive Weeks >50SMA
 

Click to enlarge

This article by Andrew Kassen was originally published on See It Market.

No positions in stocks mentioned.