How many stock market bulls got blind-sided by the 188-point drop in the S&P 500 Index?
Based on how bullish the media was going into May, probably quite a lot:
CNBC: Sell in May and go away? Maybe not this year (May 1)
WSJ: Sell in May … never mind! (May 1)
Seeking Alpha: Don’t be swayed by ‘sell in May and go away!’ (May 5)
Read: What the Dow’s breaking its 200-day moving average really means for your stocks
In the big-picture context, recent losses are minimal, but those who came fashionably late to the bull party are probably wondering: Is it time to cut losses?
Based on a simple indicator, the S&P 500 SPX, -1.32% is likely to rally back to minimally 2,851 points. Why? There is an open chart gap at 2,851.11. What is a chart gap?
A gap is empty space between two price bars. Gaps, especially those created by falling prices, are like magnets for price. In fact, over the past decade, every single gap lower has been closed eventually.
The dashed purple lines below highlight some of the more recent glaring S&P 500 chart gaps.
Although this article focuses on S&P 500 gaps, the same concept applies to other indexes like the Dow Jones Industrial Average DJIA, -1.41% Nasdaq COMP, -1.51% Russell 2000 RUT, -1.35% and the corresponding ETFs.
Two major gaps created by the last two big corrections were a good indication that stocks would come back.
As the chart above shows, the S&P 500 left a gap in the initial stages of a 11.8% drop Jan. 29, 2018, at 2,851.48. That gap was closed Aug. 6.
The S&P 500 also left a gap in the initial stages of a 20.2% decline Oct. 3, 2018, at 2,921.36.
This gap was one of many reasons why I expected the S&P 500 to snap back and rally following the December meltdown.
But as the S&P 500 got closer to the gap, I warned in the April 14 Profit Radar Report (and this MarketWatch piece) that: “The 2,921.36 chart gap is not a reversal level, but once filled, the S&P accomplished that mission, and has one less reason to go higher.”
The 2,921.36 gap was filled on April 23, 2019, and the S&P 500 started falling May 1.
On its way lower, on May 22, the S&P 500 created another open gap at 2,851.11. It’s highly likely the S&P 500 will bounce to minimally close this gap eventually.
“Eventually” is the key word here. There are two lower gaps at 2,744.13 and 2,718.05 that may want to get filled before the S&P 500 gets a chance to close the 2,851.11 gap.
Investors willing to ride out temporary losses will probably get a chance to sell the S&P 500 later at 2,851 or higher.
How does the current pullback fit into the larger picture? A longer-term S&P 500 forecast is available here: “S&P 500: The Ideal Path.”
Simon Maierhofer is the founder of iSPYETF and publisher of the Profit Radar Report.