Australia 200 – reaches a key resistance but has “false break” potential

The Australia 200 index arrived at a well established resistance line today.

A break through the top of this would look bullish but there is an interesting Fibonacci cluster zone just above this resistance. These situations can often provide Fibonacci traders with sell set ups taking advantage of what turn out to be false breaks for more traditional break out traders. I’ve outlined some thoughts on this situation below.

Price Earnings Value

I’ve begun by looking at the 200 index in terms of its PE value ( value of the index divided by the earnings of all the companies in it). This can be a really useful way of comparing valuations over time.

The chart below shows forward PE’s over the past 4 years. This measure is based on a survey of analysts’ expectations for next year”s earnings. 4 years gives us a look at PE valuations since the GFC.  As the chart shows we have now returned to about average after spending more than a year below average as fears of a European collapse and Greek exit re- emerged in May 2011.

This return to average valuations coincides with the technical resistance. A clear break above the resistance may suggest new levels of confidence as investors are prepared to further reduce risk premiums built into share valuations following recent central bank initiatives.

S&P ASX 200 Index – Forward PE. Source: Bloomberg

Chart Pattern

The weekly chart of the Australia 200 CFD below shows the market testing the top of a large rectangle formation. This has been in place since October last year.

There have so far been 2 tests of both the support and resistance. It’s quite common to have a total of 5 tests of a pattern like this (a, b, c, d and e). Under that scenario the market would fail around the resistance here before declining and breaking through the bottom of the rectangle.

This can situation can provide traders with an opportunity to short  with a relatively close stop if the resistance holds looking for a return to the rectangle support or below.

It’s not unusual to have a small spike through the resistance line on the 5th and final test of this type of pattern. This is where our Fibonacci cluster zone comes into play.

Fibonacci Cluster Zone

I’ve shown the first part of the Fib cluster on the weekly chart. This is the 61.8% retracement of the swing down from 4994.

Australia 200 Weekly – Source: CMC Tracker

The other parts of the cluster are shown on the daily chart below. Here I’ve divided the last swing up from the rectangle support into a 5 swing advance.

The Fib numbers on this chart project that the final 4 to 5 swing will be 161.8% of the move from 3 back to 4 and 61.8% of the whole move up to “3”.

Taken together with the retracement on the weekly chart this gives us a cluster zone between about 4507 and 4526. This sits just above the resistance and fits neatly with a “false break” scenario.

One approach to strategy in this situation is to sell and go short if price makes a trend peak at or close to the Fib cluster zone. If it doesn’t and price just keeps climbing without a trend peak at the cluster, there is no set up  

Cheers

Ric

About Ric Spooner

Over 30 years market experience - professional trader, broker, director
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3 Responses to Australia 200 – reaches a key resistance but has “false break” potential

  1. Thanks Ric. 4520 also was a support in late 11/2010 which may add further strength to the cluster zone.

  2. Gerard O'Born says:

    Hi Ric. I am fairly new to all of this but I get the impression that reports/announcements from political/banking entities will undo the best looking technical set up most of the time. Is it better to base your strategy of trading on timing of these reports/announcement releases. It seems difficult to find the right balance. Your thoughts?

    • Ric Spooner says:

      Hi Gerard.
      You’ve raised a really interesting issue.

      It’s true that news events and/or changes in sentiment are what drives price change in markets, not chart patterns.

      This doesn’t make technical analysis useless though – far from it in my view. At the end of the day success in trading is about positioning yourself at levels where on average over time your profits will exceed your losses. Basically this means positioning strategies at points where over time you can make more profit from news events/sentiment drivers that go your way than you lose when the news goes against you.

      Technical analysis can be an effective way of doing this. It does this by indicating that the probabilities favour a larger move in one direction than another based on past market behaviour.

      It’s not the only way of doing this though. My view is that strategies based soley on fundamental analyis or on a combination of fundamental and technical analysis can also be effective. The key is to adopt a “probability approach” to trading in combination with appropriate risk management and a consistent approach.

      I wrote a longer blog piece outlining some of my views on the practical relationsip between news events and technical analyis back on 30 November 2011. The blog is titled ” Is Fibonacci an IMF Board Member”. You can access it via the blog archives

      Cheers
      Ric

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