NEW YORK (TheStreet) -- The U.S. stock market continues to grind higher but with several warning signs to investors who know how to spot them.
Most bull market tops in the S&P 500 (shown below) take eight-to-12 months to form before starting to fall in value. So far the market has been distribution selling, meaning the large traders (institutions, hedge funds) are selling their positions to the average investor, who could be left holding the bag when things go south.
The chart below shows the 200 day moving average, which is a great indicator of major trends in the market. Green means bull market, red indicates bear market.
See the red ATR (average true range) indicator at the bottom. This tells us if the average daily movement for the index is high or low. When this red area rises we know there is a large amount of money flowing in and out of the equities market. The patterns we are seeing takes large amounts of capital. This is why the sellers are most likely hedge funds and institutions re-balancing their portfolios for an upcoming trend change.
If we step back and take a look at the bigger picture using the monthly chart of the S&P 500, we can foresee what is likely to happen in the next 12-to-36 months. The U.S. stock market is losing momentum, which can be seen by the relative strength indicator at the top of the chart.
The support trend line gives us a feel on how soon a breakdown in price may happen. It appears to be just months away.
Taking things one large step further back, over roughly 70 years you can see some patterns emerge from the past. The question is not whether there will there be a bear market, but how far will it correct?
The chart below indicates a very bullish outlook of a minor correction of 30% in the next 36 months. If we break below the 30% level, we could have a 50%-to-60% correction which could trigger a chain reaction of issues, including the U.S. bond bubble bursting.
In short, a correction is coming. So, how should you play it?
There are three ways to play a bear market. The first is to do nothing, which is what most people do as they watch their life savings slowly evaporate right in front of them, month after month.
Second, is to liquidate a large portion of equities and sit safely in cash while others lose money.
The third and last is to position yourself to profit from a falling market. Stocks fall four-to-seven times faster than they rise, which means you can potentially make seven years' worth of profits in just one-to-two years if done correctly.
More on playing a bear market here.
This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.