One of the leading indicators in our methodology to forecast the direction of the broad market is the Russell 2000 chart. We typically analyze this chart to understand its pattern, as its pattern can often serve as a signal for broad market momentum. While we were concerned in May, with the Russell 2000 chart structure violation, which was ‘fixed’ up until two weeks ago, the setup in this leading indicator is now about to change.

We explained how and why we look at the Russell 2000 chart in this article, This Leading Indicator Loses Bullish Structure, Now Very Vulnerable, in which we said:

"Analyzing the Russell 2000 chart is of utmost importance for investors and chartists, as it serves as a valuable momentum indicator and a leading signal for the broader stock market. This index provides insights into whether momentum is accelerating (bullish) or decelerating (bearish), guiding investors on potential opportunities or risks. The significance of studying the Russell 2000 chart lies in its ability to signal turning points and trend reversals, offering valuable clues for market participants."

One week ago, we finally got early signs of a constructive setup when we wrote the article, This Leading Indicator Has A Summer Message For Stock Market Investors, in which we stated:

"In conclusion, the chart analysis of small cap stocks, as represented by the Russell 2000 index, suggests a promising summer ahead. The bullish long-term reversal pattern, along with the constructive setup and positive market sentiment, indicate potential opportunities for investors. However, it is important to navigate the market’s sector rotation carefully and identify the sectors that will move in sync with small cap stocks."

In the meantime, the Russell 2000 has continued its attempt to improve. What stands out is the relative strength that can be seen on Friday, July 7, when leading indexes closed lower while the Russell 2000 was up more than 1%. This is a data point that matters, especially when combined with the rounded chart structure that has been respected since the violation in May.

"The Bull/Bear Ratio (BBR) compiled by Investors Intelligence jumped to 3.00 during the July 4 week. It is the highest reading since the bull run from March 23, 2020 through January 3, 2022. The bull then got gored during the bear market through October 12, 2022.

"During the latest week, the bullish percentage rose to 54.9%, while the bearish percentage fell to 18.3%. We have found that from a contrarian perspective BBRs at 3.00 or higher are not as bearish as readings of 1.00 or lower are bullish. Nevertheless, high bullish sentiment can be a caution flag. After all the S&P 500 is up 24.6% since October 24th, 2022."

This is the chart that was provided along with the commentary seen above:

What does all this mean? According to us:

1. Rotation is the name of the game, and it appears likely that a market rotation will continue this summer.
2. Sentiment might be too bullish, and it’s not sustainable. However, what we do know is that the mega-cap 8 group has been leading a few indexes higher, notably the S&P 500 and the Nasdaq.
3. Given the chart setup in the Russell 2000, we would not be surprised to see a few specific sectors and stocks experience a hot summer.

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