GT Blog July 14, 2009

I was channel flipping and caught business TV call-in question on the Head & Shoulders top on the S&P500 and I wondered what in the hell was the caller talking about. To my great surprise the host technical analyst admitted to be concerned about the bearish implications – the chart below displays the pattern in question

The Scary Head & Shoulders Reversal pattern in the S&P500

My concern here is the improper use of technical analysis which often results in the profession being referred to as “Voodoo Science”

First of all the pattern above is too small at 8 weeks to be important – if you look closely the up trend was violated in early June just to the right of the head and so we have completed a small A-B-C correction – that means the small H&S pattern is late and too small to even act. Are you really going to blow out a portfolio because of a series of small little bumps?

To be meaningful the H&S pattern has to be big - at least 8-months – sometimes 8-years because a true H&S top can only be seen in weekly or monthly charts which most investors and technicians seldom use. The large H&S reversal will usually signal an end to a business enterprise – or signal an important change in the related industry which in the case of the FNM chart below an early signal of trouble ahead for the US housing industry How many investors and professionals saw this deadly pattern? Very few – and you know why?

Why because no one gives a crap about the long term forces at work – we only care about last week and the outlook for next week – we all want to make a fast buck just like those US financial engineers who got us into this mess


Fanny Mae – a real top