Posted by: joetradingplace | July 10, 2012

Are small cap stocks trying to tell us something

Author Serge Berger, http://thesteadytrader.com/

Follow: https://twitter.com/SteadyTrader

Most of my trading activities focus around trading the S&P 500 via various execution vehicles and in different time frames.  One of my indicators for clues as to the next move in the S&P 500 comes from closely following the Russell 2000. Two things I pay especially careful attention to are; 1) relative out or under-performance of the Russell 2000 versus the S&P 500 and 2) candlestick patterns.

While both indices are well into positive territory for the year (the S&P 500 is up 7.2% this year, Russell 2000 up 8.55%) the S&P 500 has underperformed both the Russell 2000 and the transportation stocks so far in July.  I use both the Russell 2000 and transportation stocks as leading indicators and the fact that they are currently somewhat outperforming the S&P 500 leads me to believe downside may be limited for the coming week or so.

Because small capitalization stocks are more volatile than large cap stocks the Russell 2000 most often displays clearer candlestick patterns than the S&P 500.  The current ‘topping’ pattern candlesticks are again clearer than those on the S&P 500 and indicate a pause in the up-move may be at hand.  This signals more of a ‘pause’ for the moment than a strong sell signal.  More importantly however, the Russell 2000 is still above its 100 day moving average (blue moving average line), which the index often respects as support at least for a few days and may also again do so now.

Overall, stocks remain in a tricky environment where headlines and rumors dictate the tape and that makes it challenging to pull money out of the markets.  If we however focus on a clear time-frame and pick our spots then profitable opportunities still exist.  In the case of the Russell 2000, its relative out performance in July leads me to pick the 790 – 800 area as potential near-term support.  Stops should be set just below there as a move well below 790 could accelerate a down-move.

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