SP500 and wedge pattern + USD Index

The - 'Falling Wedge' pattern during an uptrend-  has been one of the most reliable trading patterns over the years. A couple of years ago (during one of my more anoraky moments) I decided to look back and see if I could characterise these patterns to see if they possessed certain attributes which could help assess the likelihood of future price action. At the time I was more involved in Fixed Income, and that was the market I used to assess these wedge patterns. My research led to two conclusions: Firstly, that there are basically four different types of falling wedges patterns prevalent within an uptrend. and secondly, that I really should get out more.

With the recent price action on the SP500, I have decided to apply these patterns to a ' look-back' over the past 20 years of SP500 price action. The criteria for the wedge patterns can be seen on the following insert.
(Click on insert to Enlarge)

The following chart is the SP500 weekly Log-Scale 1990 - 2010. I have applied my look-back and labeled each pattern, as per the above categories.  As can be seen on the chart below, most the wedge patterns conformed well to the expected behaviour as per the above insert.  In light of the above, I have labeled the recent Falling Wedge which had developed over H1 2010 as a 'Type 2' wedge pattern. These typically start out looking like Head + Shoulder pattern, then morph into a falling wedge pattern. Once these patterns break over the right shoulder of the 'Failed' Head + Shoulder pattern, they typically move sharply higher. - I say typically, because there are exceptions, however on this chart, two prior 'Type 2' Wedge patterns can be seen to have acted in this fashion. The top of the Right Shoulder of the 'Failed' Head + Shoulder pattern occurs at 1131.  - One final note for those with a more Bearish Bias, and fundamentally I do still possess a Bearish Bias. Type 2 wedges tend to occur late in the trend, this can be seen in both previous Type 2 wedges on this chart.

(Click on chart to enlarge).

(This following paragraph is an addition to the original post.)
Just to add a layer of confusion (The market does not like to make it too easy). Though I have labeled the recent wedge as a 'Type 2', it is not out the question that it is a 'Type 3' or even part of a larger non-wedge pattern.  - This possibility has to be given consideration. - In particular the arguments for an alternative labeling are, Type 3s tend to be larger,(This has been a large wedge), Type 3s tend to be more complex, and most significantly Type 3s tend to breakout to the upside before failing. Currently I consider this a Type 2, but the possibility of this being a Type 3 (which would potentially be much more bearish,) remains a possibility.-- One final point, the suggested price behaviour in the wake of a patterns is a tendency not a rule. This is important to remember, since even the best set-up is no guarantee that the market will move in the suggested direction.


In relation to the recent large 'Falling Wedge', the chart below shows this large Falling Wedge currently in conflict with a smaller 'potentially bearish' 'Rising Wedge' pattern. Though if the S+P can break through the top of this smaller rising wedge pattern, it could morph into a more regular uptrend channel. - On the chart I have highlighted a Blue horizontal line at the significant 1131 area, which I mentioned above as being the top of the right shoulder of the 'Failed' Head + Shoulder pattern.  However, this level is also significant since it marks the level where either a series of lower highs (Bearish) from late April and higher lows (Bullish) from early July meet. Only one of these series can continue and a break above or failure at 1131 line will decide which series dominates. 

One final note. The USD index dropped sharply through a series of levels which I had identified on my Friday's posting as offering the potential to reverse sharp losses in this index. Often how a market performs at certain levels can give a strong clue as to where the underlying power lays. This failure to even pause for breath does not bode well for the USD. I will watch how this develops, but my feeling now is that we will see  further USD selling short-term, with eventual corrections now likely to be dips to be bought.