A lot of chatter out there about the Bear Flags in the major indexes. I look at these sort of patterns as a consolidation within a violent move that tends to resolve itself in the direction of the underlying trend. In this case, the collapse in stock prices at the end of July and into August has been consolidating in a Bear Flag looking pattern.
John Murphy defines Flags as, “brief pauses in a dynamic market move. In fact, one of the requirements for both the flag and the pennant is that they be preceded by a sharp and almost straight line move. They represent situations where a steep advance or decline has gotten ahead of itself, and where the market pauses briefly to ‘catch its breath’ before running off again in the same direction.”
Here are the charts:
$INDU $SPX $QQQ $IWM $NYA
Some of these “Flags” are cleaner than others but the patterns seem to be pretty consistent across the board. Most technicians will look for declining volume as the consolidation progresses. And although not shown in the charts above, the volume has done just that. The confirmation here is the break below the lower trend lines. If these are in fact bear flags, you want to take the “flag pole” that got us to this point and expect that same move after the breakdown. In other words, take the depth of the declines from the July highs to the August lows and subtract that number from the breakdown level (if it breaks down) to get your targets.
It would take break outs above the recent highs to hold in order to invalidate these bearish patterns. Confirmation of these patterns comes on a breakdown below the lower trendlines. As John Murphy puts it, “Flags (and pennants) are among the most reliable of continuation patterns and only rarely produce a trend reversal”.
We’ll know soon.