S&P 500 Meets The Mother of All Trend Lines

This S&P 500 trend line has led the market in 2022. A breakout could mean the start of a new bull market. Another rejection? Look out below.

Justin Nugent

This article was last updated on 12/12/2022.

Here’s an unpopular opinion: You could excel as a stock or options trader without ever looking at a single headline. Without ever reading about a single earnings report. Without ever turning on CNBC. All you would ever have to do, whether you’re a longterm or a short term trader, is to simply watch the charts. 

It sounds fake. 

“How can a simple chart know what a stock is going to do next?” 

There are a few reasons why chart reading is so powerful. In part, it’s because technical analysis isn’t just pseudoscience — it’s founded on principles of supply, demand, and the psyche of stock traders. 

Perhaps more importantly, technical analysis is the main catalyst that algorithms use to make their trades. Because algorithms account for more than 60% of all trading volume, this can turn technical analysis into a bit of a self-fulfilling prophecy. 

That 60% doesn’t even account for the momentum traders, CMT’s, and analysts wielding large amounts of capital who also take their trading cues from technical analysis. So while technical analysis isn’t everything, it’s certainly worth paying attention to. 

That brings us to where we sit at present day.

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The S&P 500, The Nasdaq, and the Mother of All Trend Lines. 

If you’ve traded over the past year, you know that the S&P 500 has been headed lower. Specifically, the S&P 500 is in a confirmed downtrend — and it’s a big one. This is that downtrend: 

Source: TradingView, Market Rebellion

Notice the perfect downward sloping line that the four “lower highs” create. As you make that simple observation, realize that in this moment, you are performing technical analysis. But you aren’t alone. 

There’s an army of traders with itchy trigger fingers waiting for the next opportunity, the next occasion where the S&P 500 meets that trend line again, hoping for an opportunity to either sell a long position or open a short position. 

That downward trend line, as it stands, rests at $407.37 for the SPY ETF, meaning roughly $4073 for the S&P 500 Index. On top of that, the 200 day moving average is currently resting roughly 1% away from that trend line, at $403.52. To add more fuel to the fire, the Nasdaq has been following the very same trend line.

Source: TradingView, Market Rebellion

Importantly, while the S&P 500 is in a downtrend, betting against the quintessential stock market index when it meets the trend line won’t always work. One day, the S&P 500  will decisively break above that line. When that happens, those same technically-minded traders will see a big, green light — a breakout. 

Not just any breakout — a breakout from a long downtrend like this (the type that ends a multi-year bull run) would likely indicate the beginning of a new market environment. So how can we trade a trend line like this, if a breakout would likely generate a massive upside move?

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Trading the S&P 500 Downtrend (Making a Trading Plan)

Step one will always be to make a plan, and stick to it. We say this a lot, but it’s extremely important: discipline dictates action, and in trading, discipline means knowing what you are going to do before you do it. For this trade, your plan should include answers to questions like:

  • When will you enter the trade?
  • How long do you intend to be in the trade?
  • When will you exit the trade for a profit? (How will you know when you are right?)
  • When will you exit the trade for a loss? (How will you know when you are wrong?)

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In this case, a rudimentary trading plan might be that when the S&P 500 meets that downward trend line, you’ll enter a slightly ITM bearish put position in the SPY ETF. You’ll exit at 100% profit (if given the opportunity), and in the unfortunate event that you are wrong, you’ll set a hard guideline for yourself. 

If you’re making a relatively short-term trade (perhaps using an option that is two weeks or less from expiration), then perhaps your hard guideline might be the value of the option decreasing 50% in value. 

If you’re taking a slightly longer outlook (perhaps something like a swing trade between two weeks and two months), then maybe that “hard stop” guideline might be the S&P 500 breaking out above that long term downward trend.

This a simple example of how you might consider trading the S&P 500 as it bumps up against the mother of all trend lines. 

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