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Friday, October 21, 2011

Is Today's Market Going to Sucker You into the Wrong Side of the Trade?

What if, today or Monday, the S&P 500 (SPX) suddenly broke out of the trading range it's been in since August? 

Weak bears would likely cover their shorts immediately, and bulls would almost certainly add to their positions.

But what if the break-out was a fake-out? 

A false break to the upside here would certainly shift a lot of people to the wrong side of the trade, and as every trader knows, the market loves to do that.  Take a look at what happened on October 4th, when the market broke down out of the range, and then whipsawed right back into it:

 
Whipsaws almost always lead to strong moves in the opposite direction, because the technical breakout (or breakdown) causes traders to go long into a downtrend, or, conversely, to short into an uptrend.  In the case of October 4th, the higher the market moved after the whipsaw, the more bears were forced to cover... so the higher the market moved.  Rinse and repeat. 

Could a whipsaw happen in the opposite direction now?  Obviously, if it was really easy to predict, nobody would get caught on the wrong side of the trade.  I can tell you it is very possible right here... and I can also tell you that my readers weren't caught by surprise the last time it happened.  I had actually been warning about the possibility for weeks.

Yesterday, I suggested, hypothetically, that the market might form an ending diagonal here.  At the time, there was little in the charts to suggest the possibility.  After Thursday's action, there is:


There is, as yet, still no clear indication that this is happening; however, the potential is certainly there.  (I presented a detailed argument supporting this count in yesterday's article.)  A move above 1233 would be the first warning to be alert for the ending diagonal; trade above 1237 would be the second, and would activate an upside target of 1247, which is my current target under this count -- though it could end anywhere within the yellow target box shown on the chart.

The more conventional counts are shown below.  These are the counts being favored by most Elliotticians, which in my mind is actually an argument against them.  Under contrarian guidelines, the more people who are predicting a move, the less likely it becomes.  But at present, there's still nothing technically wrong with these counts.


Other than the ending diagonal update, there's been no material change in the SPX counts since yesterday. But because I value my readers, I also wanted to present another chart in this article. 

The Russell 2000 (RUT) actually presents an extremely clean chart -- much cleaner than either the SPX or the NDX.  On the chart, you can see a perfectly formed trendchannel off the October low (blue); that channel was broken yesterday.  You can also see that the sideways correction this week has formed another beautiful channel (red):


The rally on this chart counts very nicely as a 3-3-5 correction: red a-b-c to black (a); red a-b-c to black (b); red 1-2-3-4-5 to black (c), to complete red A.  The blue and red channels are the reason I've labeled this chart the way I have; the existence of these two separate channels argues that these are two separate waves.  If that's the case, this count probably argues against the ending diagonal formation on the SPX.

That said, it is not impossible that the green alternate labeling (1-2-3-4) is correct.  Under that labeling, the low yesterday would mark the bottom of green wave 4, and the RUT would now rally to a nominal new high in wave 5.  Despite the two channels, this is a real possiblity; fourth waves sometimes breakdown out of the primary channel, and then rally right back up into it. 

I am expecting the RUT will rally up to test the underside of the blue channel today, so what happens when it reaches the channel will be important for clarifying this count.  If the channel rejects the RUT's advance, then the red A wave label is probably correct.  If the RUT can instead rally back into the blue channel, and also rally above the red channel, then we are probably looking at the alternate count unfolding. 

And, if this happens, it also argues in favor of the ending diagonal on the SPX.

If the RUT breaks though those channels, it is probably on its way to a new high.  In the case that it does break the prior high of 713.36, then that will trigger an upside target of 722 for (what would be) green wave 5.  722 is my preferred target, and the rally has a maximum upside of 739.  Due to the length of the previous waves, 739 should act like a steel beam to contain the rally.

The gray dashed horizontal line just below the red channel is the knockout level for the alternate count. Any trade beneath 675.74 eliminates the green alternate count from consideration, and with it the prospect of immediate new highs.  Trade safe!

63 comments:

  1. Very interesting set of charts, with well defined action to watch for. Cudos to CTP for suggesting the RUT chart yesterday.

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  2. Thanks for the update. This blog is by far the best resource on the internet for E-wave analysis. When I saw your ED count yesterday I knew it was pure genius. Keep up the great work!

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  3. Thanks, I appreciate that.

    I'll try to get to the KRE chart you suggested this weekend.

    btw, Spiker, I think you got a little confused over who was suggesting what yesterday. I was actually working on the RUT when CTP and I were chatting; he suggest KRE. No biggie, though. :)

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  4. Yeah, I just looked back and noticed my mistake, and misspelling. So I shift my Kudos to the Pretzel. No offense intended to either of you.

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  5. RUT gapped back into the blue channel at the open. Not above the red yet, but that's a bullish sign.

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  6. Hi Pretzel,

    All indexes opend higher today and SPX just retested the 1233 level a few minutes ago... looking like the ending diagonal scenario may just happen.. correct?

    Great call for the Oct 4 whipsaw! The market by nature likes to inflict the maximum amount of damage to traders, doesn't it?

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  7. Pretzel,

    One of the things I have always found interesting about most of the other e-wave blogs out there is that they all tend to "herd" together onto the most obvious count. Since e-wave is about recognizing herd psychology I have always found it ironic that most e-wave bloggers while claiming to be contrary thinkers are really just members of the herd and mostly fall victim to the conventional group think. What I find most refreshing about this blog is that you objectively analyze the aesthetic of the wave pattern without bias and group think. Nowhere else on the internet did I see anyone proposing the ED yesterday. And even though my cycle work said more upside was imminent over the coming days I myself could not see the ED count until you pointed it out, but the moment I saw it I knew that was the right count. I wish I had the natural ability the see the waves like you do. But in lieu of that hopefully I can continue to contribute my cycle analysis as a compliment to your wave counts.

    Best,
    CTP

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  8. That was one heck of a perfect bear trap yesterday ;-)

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  9. Thanks!

    Yeah, the diagonal is looking quite likely. Doesn't need to get rejected exactly where the trendline on the chart is either, since the first peak of the trendline isn't actually part of the ED. What we do need to see is a structure of 3-wave moves to construct each leg of the diagonal. If we get 5-wave moves, something more bullish is afoot.

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  10. Wow SPX just shot above 1237! My God Pretzel you are good!

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  11. Hey, thanks for the comments, CTP, that means a lot to me. It's tough sometimes going out on a limb -- there's been several times when I'm (as far as I know) the only one labeling things a certain way, or calling for a particular move. Always a certain doubt that creeps in when everyone else is doing it differently.

    Usually seems to work out for me, though. But there's always that last "hmm, maybe I'm a nut?" that goes through your mind right when you're pressing the "post" button. :D

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  12. Pretzel,

    If you do see 5 wave structure let us know :)

    If it's not the ED then would the next Alternate would be a standard impulsive 5th wave extension with us being in 3 of 5 today OR would yesterday be the end of a wave 4 flat with us in wave 1 of 5 today? What's your take?

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  13. Well, under the count posted on the ED chart, wave 3 is shorter than wave 1, so wave 5 would have to be shorter still. That would put a cap on it of about 1260.

    Based on the structure I see, if this is an impulse 5, it's likely going into the 1250's, and that would have to be it, due to the rule that the third wave is never the shortest.

    The scare-the-bears view would be that something else entirely is going on: i.e- the blue 4 is actually B. RUT chart might argue in favor of that. :o

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  14. Ooops! I see that my first proposed alternate could not work because then wave 3 of the impulse off the 10/4 low would be the shorter than 1 and 5 which is not allowed... BUT what if the blue "ii" you have labeled in the late afternoon of 10/4 was actually a failed 5th and the blue "iv" on 10/5 was actually wave 2 with the "3" being in the same place as you have it labeled. That would allow for a standard impulsive wave 5 now that would be subdividing with yesterday being 2 of 5 and today being 3 of 5... hope you could follow all that, I know it would be better if I posted a chart. I'll try to mark on up and post a link to it later.

    Best,
    CTP

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  15. FWIW my cycle stuff suggests the strongest up phase between now and 10/27 +/- 1 day

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  16. Yeah, got it. It's possible. NDX and others made new lows at the blue ii... but the micro structure of blue i looks impulsive, a series of nested 1-2's, so that argues for it being part of the rally.

    Interesting to see Apple flopping around here. Nice 5-wave move off the high, should be due for at least a bounce up to 407 or so. Not a good sign for bulls that Apple isn't rallying stronger.

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  17. From where the SPX is now, how do you differentiate a whipsaw from the ending diagonal?

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  18. Basically, the end result is the same. A whipsaw is just defined by a false breakout or breakdown from a trading range, only to reverse back into it. The implication was that the ending diagonal would form a whipsaw.

    Market just broke out of the trading range. Bullish move would be to head back down, back-test it, and rally strongly. Bearish move would be to head substantially back into it, which would probably lead to a fast decline.

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  19. Thanks for the clarification. If I understand correctly, 1233 would be the inflection point, and your comments today indicate a greater probability of the bullish move.

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  20. CTP, that timing seems to fit the diagonal pretty well.

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  21. Pretzel,

    Good point about the RUT being possible wave B. Same look for JJC which actually did a full retest of it's 10/4 low and double bottom yesterday. And EEM and CAF also have the look of a wave B yesterday.

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  22. No, not ready to concede to the bulls yet at all. :)

    Just speculating some alternate possibilities.

    My preferred view is still that this rally will move up and down a bit, roughly as outlined in the charts, then reverse back into the range. Tops rarely form in the same fashion as bottoms, so there's usually more of a gradual shift... and then, bam!, the market gaps down 20 points.

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  23. CTP - If the RUT takes out 731, then we have our answer.

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  24. RUT just tagged the top of the red channel and bounced off.

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  25. Pretzel,

    Thinking about JJC (copper) versus SPX, if yesterday's low was the bottom of wave 1 of a new downleg in the Copper bear then an a-b-c wave 2 bounce for JJC would correspond well to waves 3-4-5 of an Ending Diagonal for SPX. On the other hand if yesterday's low for JJC was wave B of an A-B-C flat off the 10/4 low then that would correspond to SPX being in wave C now OR my alternate I proposed above (which I really like) of the 10/4 low for SPX being a failed 5th and currently in an impulse subdividing wave 5 up off the 10/4 low of which today is 3 of 5. The only difference between the 2 SPX counts is that the first ED caps the rally at around 1250-1260 max while the latter allows for a run up to 1275-80.

    Does that make any sense?

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  26. Yeah... man if we run up to 1275, that's going to really challenge the view that this was all wave A, though. That would definitely shift my bearish count to the idea that this was wave C of 2, as I've outlined a few times here and there. It would also open up more bullish interpretations.

    I'll have to do a new copper chart this weekend.

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  27. The other factor... if this isn't an ED, then we have to account for the blue wave (i) on the ED chart... and this wave becomes a nested wave 1 of 3, because it's not long enough to be the third wave... and that makes for a lofty target north of 1300.

    Nah, I like the diagonal count here. :)

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  28. Pretzel,

    But this rally off the 10/4 does have more of the feel of a C wave anyway right? AND that would sync of the NDX and SPX charts as well... Plus the 200 day SMA (at 1275 currently) almost begs to be tested from the underside IMHO. It would also give bulls the hope that the wave C was just wave 1 of a new bull market and have them buying the dip all of the subsequent drop the way down as they would be labeling it a wave 2. Would make for the perfect Bull Trap ;-)

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  29. Pretzel,

    Please do a copper and silver chart, would you? hehehe.... I am new to Elliot Wave and not totally getting the conversation between you and CTP.

    So if RUT keeps trading in the red channel range, and SPX is trading in ending diagonal, we are still at the end of Wave A, and Wave B down is coming soon correct?

    And if RUT breaks out above 731 and SPX goes up to 1275 then are we at Wave C?

    Sorry I am a newbie.

    Thanks.

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  30. Yeah, I really have been torn between the two counts.

    That would make today a huge miss, though, especially since Minyanville has titled my article "Don't Get Suckered by the Head-fake Breakout" :o

    If this is C and we head up to 1275, it's definitely gonna cost me some street cred. :D

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  31. NP, Frank. You've got it basically correct, although the red channel for the RUT is disposable, as long as it doesn't break 731.

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  32. I don't think it would cost you any credibility at all. You are the only e-waver I know of that predicted an upside breakout today while the rest were looking for wave B down to 1170. So anyone following your count would have been properly positioned on the long side. Now it's just a question of how high we go before reversing back down and in the grand scheme of things whether we top at SPX 1250 or SPX 1275 it's of little consequence. In fact the thing I find most credible about your analysis is how you listen to the market signals and adapt your count rather than getting married to a count and stubbornly ignoring the hints the market is sending like many failed e-wavers do.

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  33. Apple still not joining the party, looks like my top call there is safe for awhile.

    Alright, all, I have got to get some sleep. 6 a.m. here in Maui. GL, we'll talk more later. :)

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  34. I hope are you right too Pretzel :-). This way, I can play the B wave down and the C wave up and profit, and eventually the melt down coming and take out the 2009 low.... and a new bull market like the 90s will be reborn... As long as it fast it will be painless :-)

    I just hope this is not another lost 2 decades coming ahead like Japan...

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  35. Thanks, CTP. :)

    Yeah, I can't understand getting married to a count. Probably comes from some desire not to be "wrong." I constantly challenge my assumptions to actually *look* for what's wrong in my counts. Basically, I continually play devil's advocate against myself. I think you have to do that in trading, just like you do in life.

    Alright, "night" all!

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  36. G'night. Thanks for all your insights!

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  37. The DJIA chart sure looks to my eyes like a textbook 5 wave impulse up off yesterday's low. Assuming DJIA and SPX would sport similar wave counts then that is one strike against the ED count.

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  38. That is unless the DJIA new intraday high was just the 'b' wave of an irregular flat W4 of the ED... This market just refuses to tip it's hand before this weekend's Euro palooza...

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  39. One the bull's side is the action in the financials today especially standout KRE (regional banks). One the bear side AAPL acting very doggish just can't get off the mat... still plenty of mixed signals out there.

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  40. s&p closes at 1238, above your 1237.22 trigger! Does that mean that minor 2 is near and that minor 3 is thus expected sooner than you predicted earlier?

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  41. Pretzel,

    Have a great weekend! :)

    Best,
    CTP

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  42. CTP - Hmm. The Dow does look like a 5 wave impulse; but, at the moment, anyway, I really feel like the correction we just saw was a 4th wave, not wave B. I'll have to dig down into the charts again this weekend.

    Yeah, the market is definitely playing it close to the vest here. Question is: is the market holding pocket aces, or deuce/seven off-suit?

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  43. Arnie: 1237 triggers 1247 (theoretically). And yes, this definitely could be the C wave. There's still just no way to know for sure, based on what the market's revealed so far. Both possibilities are looking equally viable at the moment. Once we get a tradeable top in place, the form taken by the initial part of the decline will help us anticipate which is more likely.

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  44. Pretzel,

    I agree with you about about the Tuesday low being a 4th wave rather than a B wave. But I'm thinking that instead of an ED 5th we are going to get a standard impulsive 5th which would make that final hour low on 10/4 a failed 5th for SPX.

    Also, in conjunction with the count above I like the entire rally off the 10/4 low being the C wave of an irregular flat off the August low for SPX and the C wave of a standard flat for NDX. Which would mean we run higher over the next few days, ideally up to around 1275 SPX and then comes the big waterfall decline to new lows.

    That scenario has lots of things going for it including that it would fool the majority who are waiting for a B wave pullback. Wouldn't it be ironic with all those waiting for the pullback to buy if the market once it finally does pull back it just keeps on going down down down? Also, the timing would fit my cycle work perfectly. And lastly I can't ever recall a bear market that didn't at least test the 200 day SMA once from below before it entered the collapse phase.

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  45. Yeah, that thought's occured to me too. If this was it for the rally, that would catch just about *everybody* off guard.

    Man, I took a grilling from some guy on Minyanville about this article in the "comments." I hope you don't mind, I quoted you in my reply (anonymously). :)

    He's one of those people who's looking for updates to spoon-feed him and tell him exactly what to do at every second of the day, so he was critical of me for adapting my counts to the market. It's apparent he really doesn't understand what my intentions are, but that didn't stop him from attacking me ferociously.

    My updates are definitely geared towards the more advanced, self-directed traders. Still disappointing when people like him misread me so horribly, though. :(

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  46. Pretzel,

    That really sucks to have to deal with that kind of ignorance when you are sharing quality analysis like you do. But unfortunately alot of those less experienced with markets prefer some guru to predict the future with absolute certainty which if it was possible you sure as heck wouldn't be posting it online you would instead be well on your way to owning the entire world ;-).

    The other thing I have noticed is that many traders/investors who seek guru analysis/advice are not looking for someone who is accurate but for someone who will confirm their biases. That is why so many permabear and permabull gurus have such loyal followings. Their subscribers would rather have them be consistent (ie. stubborn) than be flexible and adapt to the clues that the tape action presents each trading day.

    On the other hand those that are truly successful at trading learn quickly that it is OK to be wrong, just not to stay wrong.

    Anyway, try not to let the haters get you down. Your work on this blog is greatly appreciated by many.

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  47. I still have some trouble viewing the 10/4 decline as a failed fifth, because of the internal structure of the morning rally before it. It's a clear 5-3-5-3-5 structure on the one-minute chart, so it's hard to view that as anything other than part of the first wave, IMO.

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  48. Thanks, btw, your comment wasn't up yet when I was writing mine. :)

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  49. I need some kind of forum where we can post charts for the blog discussions. Trying to annotate a chart of 10-4 morning now, guess i'll figure out how to share it after i annotate it.

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  50. Pretzel,

    Take a look at this. I just threw some labels on it. Is this a viable corrective count for the 10/4 morning rally?

    http://screencast.com/t/siwuN7Ah9yo

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  51. One other thing is the ferocity and speed of the rally that came in the last hour. Wouldn't that sort of power be typical of the kind of rally you would see off a failed 5th wave down? After all the reason the 5th fails to make a new low is that buying pressure is just too intense to reach the new low, kind of like trying to force a beach ball under water then when you let go (ie. selling stops) the beach ball flies up violently.

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  52. I think the intensity was due to the whipsaw out of the ending diagonal, that's typical of that type of move.

    Just annotated a chart, lemme figure out where to post it for ya.

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  53. Pretzel,

    Unfortunately I'm in the Eastern time zone so I'm getting a little bleary eyed and gonna turn it in for the night. I'll study your chart in more detail tomorrow. I am really enjoying these e-wave discussions, great knowledge sharing hopefully will help us both and the rest of your readers to stay on the right side of the market.

    Best,
    CTP

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  54. Hmm. I can't poke any holes in your chart, it's certainly viable for the rally. Tough to label the potential "failed fifth" as an impulse, though. Failed fifths usually look like a short C-wave.

    The one problem I've always had with my count is the wave sizes are imbalanced, relatively.

    There's definitely room for interpretation either way...

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  55. Yeah, it's fun to bounce this stuff around, definitely positive to listen to another viewpoint.

    Night!

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  56. Okay, CTP:

    Here's something I really like about your count for that little rally: Wave C is within 15 *cents* of a perfect fib .618 of Wave A. That's actually a really convincing argument in favor of your count.

    Thanks for this suggestion, I'm going to look at the charts a little differently this weekend and see what insights that may bring.

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  57. Just recently came across your blog - great stuff. My compliments on your skill and thanks for sharing. Unfortunately, as an EW newbie I have little to add. Don't get discouraged by some fussy-pants posters who don't understand the value of your work!

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  58. Thanks! I was feeling a bit discouraged... it's not like I'm charging this guy, or forcing him to read my updates or anything -- yet he still felt justified in attacking me pretty viciously (and, I felt, inaccurately).

    I guess the whole "public eye" thing is a new experience for me. I'm used to only sharing my work with about 100 other traders who've known me for roughly 10 years, and who are familiar with my past calls.

    I imagine I'll get more thick-skinned about dealing with the general public as time goes on.

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  59. I just checked out the critical comments on Minyanville. Simply put, what a hater.

    Your multiple projections forces newbies like myself to invest thought into understanding EWT rather than just consume your conclusions. I like that you educate in your posts. When your advanced comments go over my head, I take it as a signal that there are concepts that I need to research so that my understanding will grow.

    Keep it coming, I appreciate your work.

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  60. Thanks, Spiker, I appreciate that. I went a left a final reply to the hater's reply:

    "Well, now you're just getting ugly.

    I suppose if I were charging you to read my blog/updates -- or if I were forcing you at gunpoint to read my updates -- I would have actually read your entire reply instead of just skimming through all the:

    "blah blah blah YOU SUCK blah blah blah AND BESIDES blah blah blah I HATE YOU..."

    The one point you made (which I accidentally actually read) that I will acknowledge is that perhaps I should have made some mention of that projection going afoul. I am used to only sharing my work with about 100 other traders who have known me for a decade; I have not previously shared my work with the general public, so I'm sure I have a bit to learn in that regard. In the future, I will keep that in mind.

    Had you perhaps approached this with less bile (speaking of age, I assume you are in your teens or twenties, since anyone who's lived a little longer -- at least if their life has been worth living -- has developed more tolerance and humility, and the maturity to hold a discussion without devolving into senseless insults), I would continue this discussion.

    So, sir (I assume you are a sir, since women are generally better-mannered), I bid you good day."

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  61. I like your analysis so far. I'm completely new to watching technicals for investing and I was following another EWTer around the 10/4 bottom and he wasn't buying that as the end of it. He seemed to be married to his 1040 target. The impact, I have missed this entire move up! It's on me though for not being more flexible.

    Some thoughts on the hater on the minyanville site...I realize as a new writer for such a large forum, you naturally want to defend your work against those types but I would caution you against trying to battle them too much. They thrive on the discourse which often gets ugly and I'd rather you spend your time working on charts! :) Keep up the good work.

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  62. Thanks, Rocky, appeciate the thoughts.

    Yeah, I think I just learned that lesson (re: haters) the hard way. :D I tend to assume that people are basically decent and reasonable, so I initially made an attempt to respond in a reasonable way. Not what he was looking for, apparently, because he then escalated his attack. It seems like his intentions were simply to provoke -- so I finally gave up w/ him. And, yeah, wasted too much time on him, too... definitely would have been time better spent on charts; or w/ my family.

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