Insights from the chart masters

Four legends of technical analysis share their market outlooks, and best ideas for 2016.

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Clearly, no single chart or pattern can predict the future, and investing involves much more than that which can be depicted on a graph. Nonetheless, data visualization can be a powerful tool, along with fundamental analysis, in your investing and trading toolkit.

On April 6, at the 2016 Market Technicians Association's Symposium in New York City, Fidelity’s John Gagliardi, CMT, moderated a panel of four legendary experts in technical analysis on what they see ahead—and one of their best investing ideas for 2016. Here are the highlights.

John Murphy, CMT

Stock market outlook: positive
Best idea for 2016: industrials

John Murphy is chief technical analyst for Stockcharts.com and author of several books, including the best-selling Technical Analysis of the Financial Markets.

Murphy: I'm always looking for which sectors appear to be moving up and down. I follow sectors particularly to know where to be and where not to be in the market. For example, consider the energy sector. Energy stocks had formed a major peak in 2014. Now, energy stocks are testing key price resistance levels; they are once again trying to test their 200-day moving average, so the energy sector is at a very critical spot right now.

Another sector’s chart jumped out at me recently—industrial stocks. This group also includes transportation stocks. You can see on just a simple chart the industrials breaking down last June. You'll notice that, in January 2016, the sector retested the August low, and then it moved back above the 200-day moving average. Most importantly, you can see that it moved above the high that was formed in the fourth quarter of last year. This was the first of the economically sensitive sectors that actually broke out to the upside, and I take that as a good sign for this sector. It’s also a good sign for the stock market when industrial stocks are in the leadership mode.

Ralph Acampora, CMT

Stock market outlook: minor correction possible, bullish long term
Best idea for 2016: large caps

Ralph Acampora is director of technical analysis for Altaira Ltd. He cofounded the Market Technicians Association (MTA) and helped create the Chartered Market Technician (CMT) designation.

Acampora: I rely primarily on the oldest theory in technical analysis, which is Dow theory. This theory helps analyze larger moves in the broad market. It has worked very well for me for 50 years. The optimum word in Dow theory is “confirmation,” which means both the industrials and the transportation average must confirm each other's direction. For instance, in December 2014, the transportation index stopped going up while the industrials kept moving higher for the next four or five months. That's called “negative nonconfirmation” (i.e., the industrials signaled potential market strength, but the transports did not confirm that positive move).

Now, if you look at the S&P 500® Index for 2015, the year ended down 0.7% on a price-only basis. It didn’t sound like much, but under the surface there was a lot going on. I call it a stealth bear market. In fact, from the peak of 2015 to the low that we just had in January and February of this year, the Russell 2000® Index was down 25%. That suggests caution to me. However, the transportation index made its low in January, but industrials made its low in February. So, you have, for the first time in quite a while, positive non-confirmation (i.e., the indexes did not make simultaneous lows, suggesting that the negative move made first by the transports and then by the industrials did not confirm each other).

Based on Dow theory, this says to me that maybe the stealth bear market is over. I think the long-term uptrend we’re in right now, as strong as it has been, could be due for another correction over the short term. However, I think it will be a shallow one, and that we could see new all-time highs in the S&P and Dow by the end of the year.

If markets are indeed going higher, I think large-cap stocks is an area of opportunity. I don't think we see another leg down on large- cap stocks. This is because we washed out the small- and mid-cap stocks in the early part of the year, and now I think we're rebuilding.

Charles D. Kirkpatrick II, CMT

Stock market outlook: bearish short term, bullish long term
Best idea for 2016: gold

Charles D. Kirkpatrick II is president of Kirkpatrick & Company, Inc., a former board member of the Market Technicians Association, and co-author of Technical Analysis: The Complete Source for Financial Market Technicians, 3rd edition.

Kirkpatrick: I'm a believer in the long-term rise in stock prices, but I also believe that the best way to participate is by using relative strength. By relative strength, I mean buying the strongest stocks at a particular point in time, relative to other parts of the market, and avoiding the weakest stocks.

I use three different models to filter the market: the ratio of the long-term interest rate to stock prices, the DMI and the ADX indicator (momentum indicators that use current high and current low prices), and a dual-filtered moving average crossover system.

Even though I think stock prices will rise over the long term, in the short term I'm not favorably disposed toward the stock market. However, in some other studies I've done, gold showed up as an interesting idea.

In the case of gold, you see that you have more or less a horizontal trend line. Gold broke up above it, and then, at the same time, the ADX DMI model that I use with different parameters for each case also gave a buy signal in early 2016. So, that was a time to buy gold. Then, it went up to where the classic triangle pattern comes together in what's called the cradle, where the two lines come together.

When you break up out of a triangle, you want to continue for at least the length of the original move. But in the case of gold, that didn’t happen. It turned around, and it went back down through that cradle area. At the same time, I received a wait-and-see signal from my model.

The bottom line is that gold, in my view, is still acting longer term on that buy signal. So, if you already own gold, I would suggest a “hold-and-see” position.

Paul F. Desmond, CMT

Stock market outlook: very bearish
Best idea for 2016: cash

Paul F. Desmond is President of Lowry Research Corporation, a former president of the Market Technicians Association, and a frequent guest on CNBC and Bloomberg TV.

Desmond: My best idea for 2016 is cash. I base this on looking at 95 years of data and patterns, and the heart and soul of technical analysis, which is supply and demand.

One look at a long-term chart of the S&P 500® Index shows it in a basic, strong uptrend pattern. However, when you look at the internals of the market, you see something else going on. In 1990, the New York Stock Exchange (NYSE) started allowing issues to be sold on the exchange that were not common stocks--including things like closed-end bond funds. Obviously, those investments trade like bond funds, not like common stocks, so if you mix some bond funds in with common stocks, you get a pattern from the NYSE index where you can't always tell exactly what you're looking at.

In our analysis, we take out all the bond funds, along with exchange-traded funds, foreign stocks, and ADRs. We do this so we’re looking at operating companies only (OCOs). What we're seeing in this chart is a substantial contraction in the number of stocks that are either at new highs or within 2% of their highs. It simply says there are fewer and fewer stocks that are going up in portfolios.

What is that telling you? What we see here is a transitional pattern that through 90-plus years of history functioned in the same way, in our view. These types of markets—when there is a contraction in the number of stocks participating in the bull market—have shown a historical tendency to transition to bear markets.

Investing implications

As always, when making any investment decision, every investor should consider his or her own investing objectives, risk constraints, liquidity needs, and tax implications. Within that context, charts and data visualization can help you generate and test investment ideas.

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Views expressed are as of the date indicated and may change based on market and other conditions. Unless otherwise noted, the opinions provided are those of the speaker or author, as applicable, and not necessarily those of Fidelity Investments. Stock markets are volatile and can decline significantly in response to adverse issuer, political, regulatory, market, or economic developments.
Past performance is no guarantee of future results.
Technical analysis focuses on market action—specifically, volume and price. Technical analysis is only one approach to analyzing stocks. When considering which stocks to buy or sell, you should use the approach that you're most comfortable with. As with all your investments, you must make your own determination whether an investment in any particular security or securities is right for you based on your investment objectives, risk tolerance, and financial situation. Past performance is no guarantee of future results.
Stock markets are volatile and can decline significantly in response to adverse issuer, political, regulatory, market, or economic developments.
The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions.

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