Technical Analysis Says This Stock Market Rally Has Legs

The S&P 500 is in the midst of a remarkable rally and continues to show signs of strength, leading some technical analysts to predict even more upside ahead.

To be sure, no one is calling for the end of the bear market. It's not even clear that the bottom of the current bear market is in. Bottoms are a process, as folks like to say, and we could surely be in for more pain.

But chartwatchers say conditions are ripe for further gains from here. Heck, some technical analysts say we could even see a repeat of the summer rally. Remember when the S&P 500 rose nearly 18% between mid-June and mid-August?

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Sadly, those gains didn't last, and there's no guarantee that another extended rally will mark the end of investors' woes either. But technical indicators do offer signs of hope.

What is Technical Analysis?

Technical analysis, unlike fundamental analysis, does not concern itself with the outside world. It doesn't care about things like revenues, margins, profits or interest rates. Rather, technical analysis focuses solely on what the charts say. The basic idea is that "price has memory." And so technicians, following price and volume, look primarily for signals, patterns and trends in the charts.

Critics might dismiss it as voodoo, but technical analysis does have its utility. Whether TA is truly on to something – or owes its sometimes success to being a sort of self-fulfilling prophecy – no one really knows. Nevertheless, technical analysis has indeed proven itself to have some level of predictive and explanatory power. To be fair, that's about as much as you can expect from any system attempting to both divine the future and explain mostly random movements in the past.

That's why it might be worth listening to technical analysts who see current conditions as being conducive to even more upside ahead.

What the Pros Are Saying

"We believe the recent buying panic combined with deep oversold conditions across most sectors (and timeframes), plus a key retracement level hit by the S&P 500, should contribute to further oversold rally efforts over the short-run," writes Dan Wantrobski, technical strategist and associate director of research at Janney Montgomery Scott.

And this could be just the beginning, the analyst adds.

"The data we are capturing currently suggests this oversold rally may have more legs – and could produce a counter-trend move that is similar in scope to the June rally earlier this year," Wantrobski says.

Analysts at BCA Research likewise see technical conditions as being favorable for the S&P 500 to power higher in the days, and perhaps weeks, ahead. 

"While economic conditions have not changed – and therefore do not warrant a shift in the cyclical outlook – technical conditions are pointing to a potential rebound," BCA Research says in a note to clients. 

However, it's important to know that the potential duration of any rally is a matter of debate at the research shop. 

"Our U.S. Equity strategists view the rebound as purely technical – and expect it to be short-lived. They maintain a bearish long-term view on U.S. stocks," says the BCA team. "Meanwhile, our Global Investment strategists are more optimistic that the near-term U.S. economic backdrop will also support a period of relief for stocks."

How Earnings Are Helping

Better-than-expected third-quarter earnings reports are no doubt playing some part in the market springing to life lately. As we've noted before, Wall Street estimates heading into what is forecast to be a brutal earnings season are so low that companies should be able to trip over them.

That's certainly been true in the financial sector, where the nation's largest lenders are clobbering Wall Street estimates by such wide margins that some analysts say it's time to buy bank stocks. 

And yet, as helpful as these glimpses of fundamental resilience might be, it seems clear that technical conditions are contributing mightily to the market's current burst of strength. 

How long will it last? Of course no one can know. As Janney's Wantrobski told clients: "Stay tuned as the markets continue to forge ahead in their bottoming cycle." 

But here's hoping. An eight-week rally similar to what we saw over the summer would sure help salvage some of the damage done to investors' portfolios in an otherwise awful year for equities.