What This Ancient Charting Tool Tells Us About The Market Right Now

SPDR S&P 500 ETF (NYSE: SPY) was volatile last week, but managed to end the week almost unchanged.

The chart below shows SPY with my Income Trader Volatility (ITV) indicator. ITV is similar to VIX in that it rises as prices fall. At the close last week, ITV was still above its moving average (the thin blue line in the bottom portion of the chart).

This chart uses the same indicator I shared the last few weeks, but I changed the appearance. In response to your feedback, I’ve zoomed in on the market action a little make it easier to see the detail in the candlestick patterns.

Last week’s pattern shows indecision.

Breaking It Down…

A candlestick chart is created using the opening, high, low, and close prices. This is the same data required to draw a bar chart. The opening and closing prices are used to draw a vertical rectangle on the price chart. This rectangle is known as the “body.”

If the close was lower than the open, then the candlestick’s body is shaded in (colored solid black) in the chart above. An “up” bar is denoted by a clear body, or one colored white. Alternative color schemes are also used.

Candlesticks were first used in Japan in the 1700s. The logic behind the candlesticks and the names of patterns often reflects the culture of that era. We take it for granted now that we can look up details online or in books. In earlier times, history and details were shared in stories.

For candlesticks, some stories are elaborate. The reason down moves are filled in is a simple story. When a stock’s price falls during the day and closes lower than it opened, the move was considered “weighed down,” and the heavy color of the bar shows the weight of the trading. On up moves, the candle is floating higher and the lack of shading shows nothing is pulling the price down.

In addition to the body, a candlestick includes thin lines drawn from the edges of the body to the high and low prices of the day. These lines are known as wicks or shadows.

With the wicks, at a glance, a trader can see whether the day’s activity was marked by a high degree of volatility or not. The size of the body, combined with the length of the shadows, allows you to compare the day’s range with recent market action. Relatively large or small candles tend to stand out.

What This Means

Last week, the wicks were long, but the bodies were small. This shows that, at different times, bulls pushed prices significantly higher while bears pushed prices down by quite a bit. At the end of the week, the battle showed neither side was able to make much progress. The small size of the body shows bulls and bears were relatively equal in strength for the week.

Indicators help us determine which way prices will move as the battles between the bulls and bears continue.

At the bottom of the chart, ITV shows that bears still have a slight edge.

My Profit Amplifier Momentum (PAM) indicator confirms this. PAM is shown on the daily chart of SPY below.

PAM tracked last week’s price action relatively closely, reaching new lows along with prices on Thursday.

PAM is designed as a short-term indicator. It is possible last Thursday marked a short-term low in SPY. It will take a few days to confirm that. I’ll be watching for PAM to continue moving higher this week. If it does, and ITV reverses its trend, that will tell us the recent selloff was a brief dip in the uptrend.

That seems unlikely, but it is possible. We will know more within the next few days.

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