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Sunday, July 15, 2012

SPX and RUT Updates: A Warning about Range-Bound Markets


In Friday's analysis, I showed a bullish and bearish option on the 15-minute chart -- with the bullish option having found a bottom at SPX 1325 -- and I expressed my opinion that the bears still needed another swing low in order to take control of the market.  It appears they won't get it, at least not immediately.

The 1-minute SPX chart I projected on Friday suggested higher prices were due fairly directly, and I cited a 14 point bullish trade trigger which would become active with trade above 1339.  The trigger was activated early in the session, and the 1353 target was easily reached and bested.  The market appeared strong and has already retraced roughly 2/3 of the entire decline, in only 1/3 the time taken by the decline. 

On Thursday and Friday, the bulls literally reversed the market with barely a handful of points to spare (the Dow Jones Industrials came within a mere 42 points of completely invalidating the bull option -- this is what I was referring to when I said bulls were "on thin ice.").  Bears may have to wait a bit in order to regain control, but in a moment I'll cover why this isn't as entirely clear-cut as it may seem, at least not yet.

In certain ways, this market has behaved a bit strangely for some time now.  At the 1374 swing high, momentum was extremely strong, and normally we'd have expected to see a bearish divergence (new price highs and dying momentum) before prices headed markedly lower.  However, the "new normal" seems to be that the market often reverses on a dime with little in the way of the usual divergences.  I can only assume that the deep uncertainty facing the world and the never-ending central bank intervention are both factors in this ongoing (historically) unusual and volatile market behavior.

Let's discuss the market's options from here.

For some time, I'd been favoring the view that the decline was corrective and would lead to new swing highs -- but by Thursday, I began to experience some doubt in the bullish count, largely due to the depth of the retracement.  Normally, a b-wave will not retrace this deeply (as seen on the INDU anyway) unless it's part of a flat correction.  In fact, the INDU retraced more than 90% of the last rally leg, and this suggests the decline, at least in INDU, is part of a flat correction (or a new bearish leg down -- more on this later). 

In any case, a flat correction doesn't work for the second portion of a double-zigzag, because, well, then it wouldn't be a "double" zigzag, since a zigzag and a flat are two different animals.  A zigzag is a sharp correction and a flat is, well, flat.  (See how self-explanatory this stuff is?)

However, there is another Elliott Wave pattern that is very similar in purpose and intention to a double zigzag, called a "double three."  The "purpose and intention" of a double-zigzag or a double-three is to kill time and stretch out a correction longer, and usually higher.  This serves to burn off extreme sentiment levels and shift participants to the wrong side of sentiment -- i.e- to make them either more bullish or more bearish, depending on the direction of the larger trend. 

A double three is any two three-wave corrections strung together by an X-wave (another three-wave move, but in the opposite direction), and in that case, one three can be a zigzag and the other can be any of several different three-wave patterns, including a flat.  All this to say:  I think we have to consider that possibility for INDU, and the target for INDU (under these terms) would be roughly 13,000.  SPX still allows for a double zigzag.

Further, the depth of INDU's retracement does force us, in the interest of prudence, to continue at least considering and allowing for the more immediately bearish possibility as an alternate count.  The S&P 500 did traverse slightly beneath my "ideal" 1333 target, but slight overthrow is not unusual -- and the bullish count again appears to be the higher probability.  The bearish alternate count would be invalidated with any trade above the July swing highs.

This market may actually become more challenging going forward, because it is still trading in a large range, and strange things can and do happen in trading ranges.  In trading ranges, short-time-frame bullish and bearish patterns often take shape and become active, but then fail to reach their targets.  I think traders should remain very nimble until the market breaks out of this range.  I've used the Russell 2000 (RUT) chart to illustrate this.

These types of ranges can be very challenging to trade profitably, and if one doesn't take profits quickly, the ongoing price overlaps can nickel and dime one's account to death.  A range like this suggests the market is coiling and building up potential energy for a large and sustained directional move, to be launched at some point in the future.




Looking at the shorter-term picture, the strength of Friday's rally has seemingly added confidence to the bullish count.  Again however, due to the depth of the prior retrace, we need to continue considering the bearish alternate count, which would see the rebound as part of a three-leg move, as opposed to the beginning of a five-leg move.  The bearish alternate could still see higher highs over the short term, but that count should not break the 1374 swing high. 

Both short-term counts continue to expect new lows for the intermediate term.





On the short term chart, the rally is far more ambiguous than many technicians seem to think -- but, as a whole, appears impulsive.  What gives me pause is that it could still be counted as an ABC (hence the black "or 2" label), and I don't think bulls should get over-confident here.  Assuming the rally is impulsive, it's also a bit ambiguous how much (if any) farther the current leg has to run before correcting -- it could start correcting directly on Monday, in which case a retrace to S1 or S2 would not be unusual... or it could run-on more or less straight to 1390 without much in the way of corrections, much like the move from 1313 to 1374. Given what's available to work with in the charts, I am hesitant to try to outline a short-term path ahead of time for Monday, lest readers put too much faith in it.

The key near-term pivots are outlined.  Further, if bulls can reclaim 1363, there's not much short term resistance until the prior swing highs.  Long-term resistance is still the 2011 high, near 1370.  Conversely, if the bears can sustain trade beneath the key bearish pivot, it will almost certainly spell more immediate trouble for the market.  The market closed Friday right at the key bullish pivot, and it remains to be seen how the market will respond to this level.





There are numerous reasons that, at this moment anyway, I remain highly skeptical in the long-term prospects for this rally, and one of these reasons is shown below.  The up volume to down volume ratio suggests limited commitment from bulls at the recent lows.  I also referenced this same indicator on July 2.  The level of accumulation taking place recently remains historically minimal.

Keep in mind that since this chart represents a volume ratio, it is relative to the total volume of any given day.




In conclusion, I am again marginally in favor of the market forming one more swing high before a sustained directional move, but it's not as clear-cut as I would like -- and I strongly suggest that traders remain nimble and protect profits as long as this market stays range-bound.  Trade safe.

Reprinted by permission, copyright 2012 Minyanville Media, Inc.

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