S&P 500 And Dow 30: Down But Not Out

US stocks traded lower as the impasse over the Debt Ceiling and Governmental Budget continues with all attempts to reconcile the issues breaking down. The S&P 500 fell 0.71% yesterday while the Dow 30 was lower at 0.87%, with added pressure from the weaker than expected Empire Manufacturing numbers and rating agency Fitch's placement of the US's triple A rating on "negative watch".

However, this bearish stance did not last long, with a sharp rally seen in future prices during early Asian hours, the result of more bullish Asian traders with major stock indices marginally higher (or trading flat) helping to fan risk appetite. The reason for Asian traders feeling more bullish isn't immediately clear, with fundamentals remaining the same. The only mild bullish news coming out post US market close was the report that Senate leaders have resumed talks once again, which is to be expected considering that the debt ceiling dateline of 17th October is just 2 days away. Furthermore, we've seen this development happening too many times in the past 2 weeks, where ultimately nothing fruitful comes out. It is likely that the same scenario will play out again, and hence it is highly interesting to see that Asian traders are a tad over-optimistic, believing that this could be "the one" that resolves all issues ahead of the dateline.
S&P 500 Hourly Chart
Generally, such over-optimism is a recipe for sharp declines in the future as the downside risks are high. Markets have already priced in preemptively that the US will get their act together, hence if they do fail, the bearish repercussions will be tremendous. This is even before we consider the actual fundamental impact that a US default could bring. However, right now it seems that technical traders do not really care - today's low coincided with prices tagging the soft intraday ceiling of the 14th Oct, which is also the confluence with the bottom of the rising wedge. Prices are currently facing soft resistance around the 1,709 level, but Stochastic readings suggest that we could still see a continuation of bullish momentum, perhaps toward 1,715 as there is still some more space within the Overbought region.

That being said, it should not be surprising to see prices pulling lower as well, as the Stochastic curve is technically above 80.0, and a u-turn in the Stoch curve from here will effectively give us a bear cycle signal. This is further corroborated by price action which is showing a potential Evening Star pattern as we test current resistance.
Dow 30 Hourly Chart
The situation is the same for the Dow 30 whose ceiling of 15,250 is being tested right now. Given that Stochastic readings are actually around 50.0 levels, the bullish potential in the Dow 30 is actually higher despite being the more bearish twin versus the S&P 500 over the last couple of weeks. Hence, if the S&P 500 does break the 1,709 level, the likelihood of Dow 30 pushing towards 15,250 and potentially accelerating higher increases.

Nonetheless, given that the current rally may be irrational and extremely optimistic about the US debt ceiling outcome, traders may need to consider whether they would like to participate in this rally given that the downside risks are extremely high. We could potentially see a huge gap lower if the US ultimately defaults, and this may be something that even the tightest of stop losses will not be able to protect.

Disclosure: This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.

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