Sunday, April 15, 2018

SPX Update: Predicting the Unpredictability

Last Tuesday's update noted that SPX had likely cycled out of "Easy Mode" and entered a period of unpredictability:

Long-time readers know that a key tenet of my general trading thesis lies in the recognition that the market alternates between periods of predictability and periods of unpredictability.  We just cycled through a predictable phase, and now we've entered a less-predictable phase.

Since that update, SPX has been nothing but chop -- so, ironically, I suppose we can now say that we were able to "predict this pending unpredictability."  In trading, knowing when not to act (or at least when not to act aggressively) can be just as important as knowing when to act; and sometimes even more important.  After all, earning a profit is only half the challenge... protecting capital is the other half.

At the end of the day, protecting your account from a loss is really no different than earning a gain.  Imagine you have $100K in your account.  You take an ill-advised trade and lose $2000.  The next week, you make a solid trade and gain $2000.  What's the difference?  Because you're right back where you started.  And if you had never made the ill-advised trade, then you'd actually be ahead $2000.  Protecting yourself from that loss is the exact same thing as a winning trade in the end.

Trading, like most things in life, is all about balance.  There are times that are conducive to expanding one's account, and there are times that one must expect an environment of contraction.  During the times of contraction, the goal is to protect your account as much as possible, in order to give yourself the chance to be part of the next expansion phase.  There's nothing worse than seeing a great, near-sure-fire opportunity, but then having no capital free to take advantage of it.

Moving on to the charts, the market has eliminated the third option discussed last Tuesday.  It has behaved much like the second option:

Given the behavior of late, I'm somewhat inclined to think that we're either forming an ending diagonal as discussed -- though do note that black iv could, theoretically, already be complete.  If we simply drop toward 2600 immediately, then I'd be inclined to think that last week's high was probably a b-wave.  I say "if we drop... immediately" because if we're forming the diagonal, then it probably needs one more high before it drops.  Thus, ironically, bulls would have better chances would be if we dropped toward 2600 directly than if we rallied just a little higher before turning.  In that event, we would watch for an impulsive turn higher, then from there we might expect a rally back above last week's high (although this would have to be rigorously examined in real-time if/when it happens, due to the outside shot at a complete WXY rally).

In conclusion, the market still has several options, but there are clear tells to each option heading forward, as follows:

1.  If we break out over the red wedge on the chart above, bears will want to watch for a whipsaw to help confirm the diagonal. 

2.  If SPX were instead to break out and hold that breakout, then that would instead suggest the bull nest (option 1) and a very strong rally. 

3.  If we decline immediately, then our first inclination will be that last week's high is a b-wave.  That pattern would be near-term bearish, but then bullish for a break back above last week's high.

Trade safe.

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