Understanding Elliott Wave, Part II

In the 1930’s R.N. Elliott made what was, at the time, a revolutionary discovery:  markets are of a fractal nature.  A fractal is an object that displays self-similarity across all scales -- in this case, the patterns in a one-minute chart are smaller versions of the patterns in the hourly and daily charts, and so on.    

Elliott also discovered that these market fractals seem to follow many natural mathematical laws, such as the golden ratio (1:1.618) found throughout the natural world.   Certain personalities find this outrageous: how could a stock market have anything to do with the golden ratio?  Apparently they view man as being separate from nature, as opposed to being part of nature. I find Elliott's discovery to be not only believable, but painfully obvious.

The whole of reality conforms to mathematical laws and aesthetics;

how could any market possibly operate outside of those laws?

Man is forced to work within natural laws, and as a result, those laws impact our behavior in quantifiable ways. We all have an innate discomfort with heights -- because the law of gravity has impacted our psychology and altered our behavior (nobody jumps off a ten story building thinking it's a good idea). Nature's laws impact man's psyche, both consciously and subconsciously; and our psyche impacts our behaviors in all things, including markets.

R.N. Elliott originally discovered the theory through his detailed back-study of decades of price charts. I’m going to simplify a bit, for the sake of time, but the essence of his discovery is that the market advances its position forward (note "forward," not "up" -- advancement is relative to what the market is trying to accomplish, either up or down) in five-wave moves: wave one forward, wave two back, wave three forward, wave four back, wave five forward. It then corrects that advance in three-wave moves in the opposite direction: A forward, B back, C forward.

The moves that advance the market's larger trend are called "motive" waves, and the moves against the larger trend are "corrective" waves.   

What is most interesting is that these fractals apply across all time frames: so each advancing wave within a motive wave (waves one, three, and five) is composed of an even smaller five-wave sequence. And each correction in a motive wave (waves two and four) is formed by an even smaller three wave correction. Instead of walking you through this to infinity, and eventually causing your head to explode, it’s easier to understand when you see it on a diagram:

As a result of the fractal nature of the market, R.N. Elliott was also able to determine certain rules which govern price movement. For example, wave 4 virtually never crosses into the territory of wave 1 (except during special patterns, which I won't be getting into here since this isn't intended to be a book). There are also rules which govern the length of waves (wave 3 is never the shortest), the form of corrections, and so on. Having concrete rules which govern price movement means that, at times, the market in essence "locks" itself into certain future behavior; once part of the fractal is formed, it must be completed. This affords a degree of predictive value.

To draw an example, it is extremely rare to find an isolated five-wave sequence in the market.  There are certain exceptions to this, but the majority of the time, one five-wave sequence will lead to at least one more five-wave sequence in the same direction.  Thus, if one can locate the beginning and end of one five wave move, one knows to expect another similar move to follow (usually after an a-b-c correction).  The fact that five wave moves virtually always occurs in the direction of the next larger trend also helps us locate the overall trend of the market.

In addition to this, the edge provided by Elliott Wave is three-fold compared to classic TA:

1)       The entire market is the pattern.  There’s no waiting around all day for head and shoulders patterns to show up.

2)      Elliott’s formulas allow one to calculate targets for many patterns which are not recognized or addressed in classical TA.

3)      Elliott Wave provides an added degree of probability, and can often suggest what the market will do next -- and even suggest whether a more widely-recognized pattern will succeed or fail. 

To draw a real-life example of the 3^nd point and advantages therein:  long-time readers will recall the triangle pattern that formed in in October/November of 2011.  Triangles are usually continuation patterns in classic TA, and the majority of technicians believed the triangle marked a consolidation of the October rally, and that it would ultimately break out higher.  However, Elliott has specific rules for triangle patterns, and using the edge provided by Elliott Wave, I was able to correctly predict that the market would not break out from this pattern, but would instead break down and head lower (See November 17, 2011: SPX and BKX Update:  Next Move Should Be Lower).

I can say without shame that my longer-term projections in that article (SPX to low 1000’s) turned out to be a miss after the coordinated central bank intervention in late-November (known to bears as the Thanksgiving Day Massacre) – sometimes we simply can’t see that far down the road and anticipate every coming twist and turn.  I believe to this day that had the central banks not intervened at that time, then the market would likely have reached my projections.  Apparently, they believed it too – hence the intervention.

As with most things worth knowing, of course, the devil is in the details.  It takes time and practice to begin to accurately interpret the fractals.  And even after years, there are moments when it’s difficult to get a bead on the market.  As a result, there is an “art” to Elliott Wave analysis that seems to come only with repeated study and practice. 

Some days, the market is simply indecipherable, even to the best technician – but the advantage provided during these times is that Elliott Wave allows us to examine and assign probabilities.  This often results in analysis that takes the form of an If/Then equation.  IF the market crosses X price point, THEN it is highly likely to reach the Y price point.  I’m sure most traders do not need to be told the value of such equations – almost all classical technical analysis follows similar, albeit more basic, equations. 

I don’t use Elliott Wave as the end-all in my analysis, but it is definitely my analytical tool of choice.  There are times it’s difficult to read the market, and times the market forces us into a “watch and wait” mode – no form of analysis can tell you with certainty what the market will do every second of every day.  But over the years I’ve found -- at its best -- Elliott Wave Theory is almost magical in its ability to allow us a predictive glimpse into the market’s future.   

In a future installment, we'll discuss how to apply some of these concepts to real-life market events.

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Short-term update: 

Friday's light session actually did a bit toward solidifying my doubts that the potential "triangle" was not likely to be a true fourth wave triangle, and as such, I've flopped the preferred and alternate counts of Friday's update to relect what I feel is a marginally more likely interpretation.  It's still a bit of a toss-up, though and the key level to watch remains 1328.49.  Below that price point, and the triangle stays on the table.

I also want to briefly discuss another pattern that's been knocking around in my skull for a while.  I have always been bothered by the form of the decline that started at the end of March.  Readers will recall me mentioning the RUT in comparison the the SPX on numerous occasions, and discussing how the RUT didn't quite reconcile as a five-wave decline.  

This opened up the possibility of a leading diagonal, and the market action recently has caused me to decide to mention this potential.  This pattern shows quite well on the Russell 2000 (RUT).  The short-term expectation would be the same in this pattern, a bit more rally, then a decline to new lows.  We'll examine this more closely depending on how things develop in the next few sessions.

In conclusion, my expectation is still that the market will make new lows in the near term.  What happens over the next few sessions could always cast doubt on that expectation, but at present I see nothing to alter that prognosis.  Trade safe.

Reprinted by permission; copyright 2012 Minyanville Media Inc.

Understanding Elliott Wave Analysis, Part I

In this series, I’m going to attempt to explain a bit about market analysis, with a focus on Elliott Wave Theory.  Later in the series (after we’ve covered the basics), I’ll share some ways to utilize these tools for your own benefit.  A small portion of this has been reprinted from some of my earlier articles, so if it sounds familiar, that's because I plagiarized myself.  My attorney assures me that I am immune from litigation, but I have filed suit against myself anyway, because I can't have people stealing my work! 

Anyway... First, I do want to briefly address fundamental analysis.  My primary focus as a trader involves technical analysis, for reasons I will explain shortly – however, unlike many technical analysts, I do believe that fundamental analysis has value.  I believe it serves as a foundation to interpreting charts across the longer time-frames, and aids in understanding what is possible and likely.

Conversely, some fundamental analysts seem to believe that projecting the market using price charts is some kind of “voodoo.”  I suppose this is understandable; most things we don’t understand carry a certain mystique to them.  It’s important to realize that price charts, all by themselves, contain all the collective knowledge about a stock or index. 

People act on what they know or believe, so it stands to reason that people buy or sell securities based on what they know and believe -- thus(and here’s the critical point about technical analysis) everything known about a given security by all the shareholders collectively is reflected in a price chart.  When an insider makes a trade, it influences the price of that security, and leaves a clue which can be read on the chart.  When a huge hedge fund gains a piece of critical information (usually well ahead of the public) and starts buying or selling a specific stock or commodity, that action leaves its mark on the charts… and so on.   Thus the charts point the way ahead.   

The goal of a fundamental analyst and a technical analyst (one who studies charts) is the same:  they both seek to project the future.  Their methods, while seemingly different, are also quite similar in many respects.  For example, a fundamental analyst might look at Apple and try to project how many iPhones and iWidgets will be sold next quarter, and how that will influence profits, growth, etc.   Then he takes all his research numbers and derives a projection of the company’s outlook -- largely based on what’s happened in the past.  He then plugs that projection into a formula to arrive at a future share price target, which is also based on how things have performed in the past. 

A technical analyst does the same thing, except he looks at the charts directly (which, as we just learned, contain all the knowledge of the collective) and cuts out the middle man.  He seeks patterns which convey information:  When price has moved up by x number of dollars, and then moved down by x percent to create a certain pattern, how has the market usually performed in the past? 

Both forms of analysis are based on past performance and on future probability – they just get there by different means.

The weakness to fundamental analysis is that there are a great many variables which the analyst simply cannot foresee.  Study what happened in 2007-2008 for an example.  Many stocks looked great, and projected earnings looked great, and their futures looked so bright that everyone was wearing shades – but their share prices collapsed anyway, in a spectacular fashion.  In September 2008, did anybody care about how many iWidgets any given company was projected to sell in the fourth quarter of that year? 

Some fundamental analysts saw what was coming back then; others didn’t.  Likewise, some technical analysts saw what was coming (myself included) and others didn’t.  But the probability of a crash was all telegraphed well in advance on the price charts – one didn’t even need to turn on the TV to see it coming ahead of time. 

The big advantage to technical analysis: we technical analysts were able to arrive at actual price-targets for the crash, in real-time, while it unfolded.   Fundamental analysts knew it was “gonna be bad!” but that type of analysis is simply unable to time the market with that degree of accuracy.  This is why the majority of fundamental analysts don’t even try to time the market, except in broad strokes: their system is ill-suited to it.

So, now that we’ve gotten that out of the way, let’s discuss a more detailed form of technical analysis, called Elliott Wave Theory.

On the surface, Elliott Wave is a unique way to understand why the market does what it does, and a detailed tool that allows us to project future price moves by extrapolating the fractals and patterns found on the charts. The theory runs far deeper than that, though.

At its core, Elliott Wave helps us to understand something much more meaningful than markets: it helps us to understand human nature. The patterns formed in the market are, in part, a direct reflection of investor knowledge, and more importantly, investor sentiment.  Like most things in the world, sentiment fluctuates in cycles. 

You can observe the symptoms of this cyclical tendency in the news reports.  One week, you’ll see nothing but happy headlines, as sentiment hits a positive cycle and everyone forgets about all the troubles in the world:

“Rally Takes off as Market Cheers Job Report”

“Stocks Rise as Greece Agrees to Austerity Measures”

“Dow Closes Higher after Bernanke Announces He’s Dying His Beard”  (If you were rooting for that sentence to end without the last two words – shame on you!)

Then a short time later, it’s as if everyone forgot how “good” everything was just a few minutes ago, and suddenly it’s nothing but bad news again:

“Rally Crumbles as Market Boos New Jobs Report, Which Was Pretty Much Exactly the Same as the One They Cheered Last Month”

“Stocks Collapse as Investors Realize They Don’t Actually Know What Austerity Means”

“Dow Suffers Biggest One Day Loss on Record when the Market Realizes It’s Afraid of Snakes”

As I’m sure you’ve seen, even the exact same news item can be received well on one day and poorly on the next – highlighting my point that sentiment is cyclical. In reality, outside of certain “black swan” events, the news doesn’t drive the market directly -- it merely reports what the market did after the fact and attempts to explain it.  Otherwise, good news would always cause the market to go up, and bad news would always cause it to go down.  But as you’ve certainly noticed, it doesn’t work that way.  

The other problem with news is that, even if it was a prime mover for the market, it always arrives too late for you to make use of it.  If you’re dead set on trying to assign a “reason” for what the market did that day, you could simply look at the closing prices to figure out whether sentiment was good or bad (up = good; down = bad), and then make up your own random explanation, just like the news does: “Market Crashes As Investors Realize that Your and You’re Are Actually Two Different Words.”   

Fortunately, we don’t need to pay attention to the lagging-indicator news, because these sentiment cycles often leave clues telegraphing their arrival and departure.  These clues are found in the price patterns.   As we discussed, all the collective knowledge of investors is reflected in the numbers on the charts.   By tapping into that knowledge, Ellliott Wave Theory can, at times, recognize and anticipate the sentiment and cycles in advance.  And since sentiment goes a long way toward driving the price, we can then either:

1.   Anticipate the market’s future price movements before the moves actually occur, or;

2.  Gain a reasonably accurate window into what’s likely to occur if the stock or index crosses a certain price threshold.

The market's price movements are, in the end, a reflection of human nature.  And here’s where things become truly fascinating:

By rule of intrinsic design, human nature must be universally reflected in all human constructs, be they markets, governments, or otherwise.  Once you unveil one universal aspect of human nature, you are often able to locate the same common thread running throughout other human activities. This is one of the fascinating things about Elliott Wave Theory:  it seems to apply to patterns found not only in markets, but in the rise and fall of nations, and even entire civilizations (as well as the ebb and flow of many other things in the natural world). I have studied and applied it for many years, and continue to be in awe of its frequently-uncanny ability to anticipate the future.

It is important to note that Elliott Wave Theory was derived from back-testing.  Back in the 1930’s, R.N. Elliott studied decades of charts at various time frames, and discovered that there were certain patterns  which repeated across all time frames.  These patterns were of a fractal nature; in other words, the patterns on the one-minute chart join together to make up identical larger patterns on the hourly charts, which in turn make up identical larger patterns on the daily charts – and so on.   He developed Elliott Wave Theory as an attempt to quantify and explain these patterns.

In the next chapter, we’ll examine the underlying patterns that form the basis of Elliott Wave Theory, and we’ll take a look at some past and future predictions made using the theory.  This concludes part 1 of this series. 

(Part II can be found here)

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Onto the charts now. 

Short term, there are still some questions as to what the market's next move is.  The minute this wave started, I warned everyone to be on guard for a complex and unpredictable correction.  Waves in this position often take strange forms.

As if for emphasis of this point, yesterday's action opened up the potential of a triangle in formation.  This pattern should be easy enough to confirm or deny, as trade above 1328.49 would eliminate it from consideration.  Conversely, if the market bounces back and forth between the triangular blue lines, then we can cofirm this pattern. 

If the market does rally above 1328.49, I will most likely shift my preference to the alternate count.  This alternate currently appears quite reasonable, and is a pattern called a "double zigzag."  A double zigzag (in this case) consists of two 3-wave rallies connected by a three-wave decline.  The first rally is labeled as a-b-c to form (w), the decline is (x), and the second rally leg is a-b-c to form (y) -- with (y) being the final wave of the rally.  The chart shows the rally from 1292 to 1328 as one potential a-b-c for (w), and the decline back to 1294 being (x).  If this count is correct, yesterday's high marked the peak of wave a, and the decline to 1310 likely marked the bottom of wave b.  Wave c-up would now be underway.  The first target for that count would be 1338-1340; the second target would be 1352-1355. 

Again, the double-zigzag gains preference only if 1328.49 is broken.

My intermediate expectation for the decline to reach the mid-1200's is, as yet, unchanged.  If the bulls could reclaim some key levels north of 1375, my outlook would need to be reconsidered.

The next chart shows that bears have fired a strong warning shot across the bow.  The top indicator panel depicts the Relative Strength Index (RSI), and shows that this month's decline officially entered into bear market territory.  We can see that, since the March 2009 bottom, this has only happened one other time, and that was during the 2011 "mini-crash." 

The other two indicators have not yet confirmed, but if the market proceeds to decline into the mid-1200's, then these indicators almost certainly would confirm my view that the market has (most likely) seen a trend change at intermediate degree, and will ultimately head significantly lower. 

It's by no means a "done deal" for bears yet, but the evidence is mounting.

In conclusion, in early May, I stated that a close beneath the key S&P 500 level of 1380 would strongly favor the bears going forward, and I projected a decline to 1300-1310.  So far, that's been exactly the case.  There are some levels which could turn me back toward bullish, but the bulls have their work cut out for them.  The longer the market hovers around down here, the more dangerous things get for the bulls.  Trade safe.

Reprinted by permission; Copyright 2012 Minyanville Media, Inc.

SPX, INDU, and CVX Updates: Market Decides to Mix It Up a Bit

A quick note on the new website: if you have been unable to register there because the software thinks you're a spammer:  I have taken down the spam protection for today only.  Please go re-register if, and only if, you've met the requirements for registration.  

If you have not met the requirements outlined here, your account simply will not be approved, please don't waste your time.  Sorry, but the whole point is to maintain some level of control over the community.  :)

But if you have met the requirements, but couldn't sign-up previously due to the spam blocker, then please go register today.  You should now be able to create an account.  Many thanks!

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Yesterday gave a lot of credence to the idea that the correction is still unfolding.  This is the type of whippy market that can confuse a lot of people and get traders looking the wrong way. 

The first chart I want to examine is the INDU, which may be conveying some important clues.  This chart leads me to the conclusion that the decline yesterday was probably part of the still-ongoing correction.  That does not necessarily mean the market will break the recent swing highs, though (see annotations).

The INDU made a new low, but that decline doesn't look impulsive.  It actually looks like a complex w-x-y correction.  This could lead to one of two outcomes, both explained on the chart notes.

The next chart is the SPX, and the strength of the rally looks characteristic of a c-wave up.  I'm starting to give a lot more consideration to the alternate count's idea that the recent lows actually marked ALL OF wave i down, and that wave i had an extended fifth.  COMPQ (not shown) really looks like an extended fifth to me.

Again, the chart notes explain what to watch here.  It's still possible that the decline yesterday was a first wave down, and the rally is a second wave.  Trade above the 1328.49 high would knock out that possibility.

NOTE:  The "gree alternate count" is no longer shown on this chart, but has been replaced with the blue (a) and (b) labels and the red iv.  Sorry for any confusion.

Finally, a quick update on CVX, which also leaves open the potential of an extended fifth, in the form of an expanding ending diagonal.  Of course, it could be a leading diagonal instead.  And... it could also be a bearish nest of 1's and 2's. 

Things were easy since the beginning of May (at least, for our team here, anyway!), and it's normal for things to get a bit hazy every now and then.  The key to continued trading success is not to give back all your profit when the market turns weird.  It will all clarify soon enough.  In the meantime, stick to low risk entries and honor your stops.

 
As you can see, there are a number of options right now.  If you're going to play, take the low-risk entries near the key levels and stay nimble.  I'm genuinely not sure which outcome the market has planned.  I do feel reasonably confident, based on the INDU chart, that there are still new lows out there -- but there is a bit of question to the market's short-term path.  It may be that the 1328 high holds, and the market declines straightaway -- or it may be headed back to 1355 first.  As I said, look for low-risk entries.

In conclusion, I would leave you with this thought:  No one knows exactly what the market's going to do at all times, nor do we need to... we only need to have a reasonably good idea often enough to make money.  Trade safe.

Cool, somehow Blogger deleted this whole post...

I'm going to cut an paste the Minyanville version to replace it... thank goodness for back ups!

Reprinted by permission, copyright 2012 Minyanville Media, Inc.

If all my talk of waves and wave degrees leaves you confused, please bear with me.  Sometime in the next few days I’ll publish an update that explains how my go-to targeting and prediction system (Elliott Wave Theory) works.  For now, I’ll try to keep things as simple as possible.

Yesterday's rally exceeded my target zone by 2 points, and has necessitated a slight shift in the wave degrees.  This leaves an interesting situation where red wave i and red wave iii are nearly equal lengths – and this type of behavior commonly precedes a bearish extended fifth wave.

That means that while the target zone of 1240-1260 for the S&P 500 (SPY) remains unchanged, the potential exists for a fast drop down into the low 1200's. In other words, things may be even a bit more bearish than previously anticipated. We'll have to see how the wave unfolds to confirm or deny this expectation.

The first chart is reprinted from the May 18 update (SEE: SPX Update: 81 Points of Profit Captured as Market Hopes for a Facebook Bounce).  We can see that the preferred wave count (in blue) had a target of 1294-1300, and then expected a bounce into the mid-1320’s.  This is exactly what happened.  Try doing that with fundamental analysis!

The next chart is the updated version of the chart above, with the current price action filled in.  It also reflects the aforementioned labeling shift in wave degrees (from blue (3) to red iii).

The rally has now formed a clear a-b-c structure, and it has probably topped at Tuesday's 1328 print high. As I've said before, though, 4th waves are known to string several fractals together, so another down/up sequence can't be ruled out (or anticipated -- it either happens or it doesn't).

The intermediate outlook is unchanged -- with the exception of the additional more bearish potential of an extended fifth wave decline to the low 1200's.

In conclusion, outside of the new, more bearish possibility, there's really not a whole lot to add. Things have, so far, played out almost perfectly in line with the updates and targets. It remains my belief that we have seen an important and major trend change at the spring highs, and that this decline is only the first wave down of many more to come. Trade safe.

SPX, NASCRACK, RUT, and USD Updates: This Rally Was No Surprise...

A quick reminder: if you haven't met the requirements for registration at the new forum, your account will, unfortunately (or maybe fortunately, lol) not be approved.  Please read this thread carefully when registering.  Thanks!


Alright, sleep is becoming a thing of the past for me, and exhaustion a thing of the present.  So this update I'm actually going to keep short, unlike yesterday's failed attempt at brevity.  I spent a fair amount of time on the charts, so hopefully they're self-explanatory.

It appears that the preferred count of Friday and Monday was a dead-on hit, and that we're now most likely in blue wave (4).  There are more bullish potentials -- so as always, I would caution against any temptation toward complacency. 

This rally wave currently has an a-b-c appearance, and could be nearly complete.  However, fourth waves are known to frequently string together several fractals, so another up/down sequence wouldn't be out of the question.

Most notable levels are discussed on the chart, and bears should definitely be cautious in event of any breakouts above the red trendline.

The Nasdaq appears to have further to fall.

The next chart simply examines the trendchannels on RUT.

The last chart I want to call attention to is the US Dollar.  If you went long the dollar near the red trendline, as I strongly hinted was a solid play (on several occasions), then you are now in profit of $2200-2400 per DX contract.  Dollar has currently run into some expected resistance at the a-wave high.  A further correction here would not be out of the quesion, but once it breaks out above the a-wave high, it should be relatively smooth sailing to the targets.

In conclusion, it doesn't yet appear that the final lows for this wave are in place, and a trip into the mid-1200's still appears likely before it's completed.  Trade safe.

SPX Update: Key Overlap at 1292 Leaves the Bulls Feeling "Facebooked"

Before I get into the update:

Please be aware that the real-time intraday and after-hours trading discussion section has moved.

We're in the process of transitioning to a new board, and while it's still a work in progress (I started this project about 3 months ago) -- it had to happen sometime.

If you haven't checked out the new board, feel free to join in the discussion there, although all new members must be approved by yours truly (for guidelines/requirements to join, please see this thread).  I'm really working hard to maintain a pleasant and collegial atmosphere, and a much higher level of security appears to be the only way to accomplish that.  Thanks for understanding.

The board itself can be found here:  http://deepwaveanalytics.com/forums/ though you can also simply navigate out of the thread I posted above -- it's da same place.

The daily market updates will continue to be posted here (for the time being -- there's another section of the new website that's still under construction, and eventually when I can find another seventeen hundred hours of "free" time, I'll finish the rest of the site and move the updates too).  But at present, only the real-time trading discussions have been moved.

We now return to your regularly scheduled update.

Market Update:

While I managed to get a great deal accomplished on the new site, apparently the stock market is still out there, lurking.  I checked my account and saw that the futures are, indeed, still trading.  Have they no decency?  Since I've only managed to get about 4 hours of sleep, I'm going to keep this relatively brief, though I still put together a number of charts.  (EDIT:  At least, that was my intention... fail!)

Friday was a smashing success, as the market opened higher and appeared ready to rally, but instead quickly collapsed back into the preferred count's target zone. 

But the big news is that a key overlap occurred on Friday, as the market overlapped the October high of 1292.66, thereby ruling out the ultra-bullish count that the October high was Wave 1 of a new bull market wave. 

Regular readers know it's been my opinion all along that this rally was just an extended correction in an ongoing bear market, and Friday's action has gone a long way toward vindicating my long-term outlook.  The market is now closing in on retracing almost all the gains of 2012's "monster bull market."

Considering that this came on the back of the much-anticipated Facebook IPO, the outcome of this situation has left me with the urge to coin a new term: 

Facebooked: [feys bookd] verb Facebooking noun Facebooker
To frustrate, trick, and deprive of something expected: 
"Dude, your boss totally Facebooked you out of that promotion!" 
Synonyms - swindled, tricked, cheated, bilked, screwed 

Without a doubt, the bulls definitely got Facebooked on Friday.

The first chart we'll examine is whichever one I upload first.  Let's see... oh yeah, this is a good one.  It's the SPX monthly chart, and shows how the market has now broken down through several solid support levels.  For some time, I've been talking about 1290-1310 as a level which I believe is critical to the bull case, and the market's there now.  Let's see if the bulls can get anything going beyond a quick bounce.

Bears should stay cautious, because if the bulls are going to manage some type of solid counter attack, this is the level from which they should try. 

Moving onto whichever chart I happen to upload next, we have... support and resistance!  The market has further broken down through a "theoretical' channel drawn by connecting the October/April highs and adding a parallel copy of the line at the November lows.  This breakdown is not a particularly bullish sign, and the bulls need to recover this channel quickly.

If all the market can manage here is a bounce back to the lower channel boundary before turning back down, that would be quite bearish.  This channel break is another potential sign which seem to verify my preferred outlook of an intermediate trend change.

Next up we have the intermediate targets, which have tracked nicely so far.  My first target was the low 1300's, and that's been reached.  The next target appears to be 1240-1260.  This outlook would need to be re-examined if the bulls can solidly reclaim the 1365-75 area.

Next up, I took a crack at deciphering the 5-minute charts, but it's a bit fuzzy.  These types of declines are similar to parabolic rises, in that the waves become so compacted that they're quite difficult to sort out.  At times like this, it's often better to focus on the intermediate projections and the larger key levels (such as 1337, outlined below).

The current expectation is that, regardless of which wave degree this rally is, new lows will ultimately follow.

The chart below 2nd guesses the count I published on Friday, which expected blue (3) was nearing completion, and is slighly more bearish than that count.  As of the time of this writing, ES (the E-mini S&P futures contract) is up about 10 points, but I never give that too much weight in my analysis.  You'll recall that the futures were up 7 points when I published on Friday and everyone was excited about the coming Facebooking, yet the market still reversed back down and into the target zone.

I'm sure some of my readers were around for the 2008 crash.  In 2008, I was trading ES, but also holding overnight SPX put positions in anticipation of the crash -- and I recall several days where it looked like some type of bottom would be in (based on overnight ES action), and then the cash market would open and tank.  ES traders tend to be much more short-term oriented and technical, and focussed on things like "due" oversold technical bounces, which become self-fulfilling prophecies to a degree.  Cash market traders tend to consist of more "mom and pop" investors who are ready to call their broker first thing in the morning and say, "I can't stand this anymore, you blasted Facebooker -- get me out NOW!"

So we shall see who wins Monday's battle.  I consider this count at least somewhat speculative, and believe that it's crucial to pay attention to the market's behavior near the thrend channels and resistance levels to get a feel as to whether it holds any water or not.  I will outline some of the key short-term levels in a moment.

For contrast, below is Friday's preferred count updated with the current price action.  We're in one of those zones where we need to see another larger degree wave to really sort out the counts with higher confidence -- as I said, when the minute waves become this compacted, it's hard to sort out one very short-term option from another, so we'll simply have to watch how the market behaves at key levels.

Over the very short-term, the first key horizontal hurdle for bulls is 1300; if they can hold that, then 1307-08 is the next hurdle... above that 1310, and then 1312-13.  It's not enough to just break above one of these levels briefly, they need to maintain it.  At this point, I assume it goes without saying that the trendchannels are critcal as well -- but I'm trying to learn not to "assume it goes without saying."  So there ya have it.  :)

I view the black alternate count shown below as low probability, but I've been surprised before.  If a rally starts to grow legs here, then we might consider that count more seriously.  However, Friday's low is one of those lows that you would normally expect to see retested at the minimum.

In conclusion, the expectation remains for further downside, and the expectation remains that we've seen an intermediate trend change.  Over the short-term, there are a couple paths the market could take to get there, so on Monday it would be wise to pay attention to the key levels outlined.   In other words, pay more attention to how the market behaves around those levels than the blue lines I’ve drawn on the charts – this type of market can just keep right on grinding lower.    Trade safe.

Reprinted by permission, copyright 2012 Minyanville Media, Inc.

SPX Update: 81 Points of Profit Captured as the Market Reaches Critical Support

I'm very interested to see what happens today, as most are expecting a "Facebook bounce."  There is some indication that at least part of the decline was caused by investors selling other stocks in order to raise cash for the Facebook IPO.  These days, there is little new money coming into the market -- so the only way to raise cash for Facebook was to sell other holdings, which in turn contributed to the recent decline.  Theoretically, this cash should come back into the market with the Facebook IPO, and this would argue that Facebook’s IPO may, indeed, help drive some type of rally here.
 

Interesting how the Facebook IPO coincides with the fact that SPX has reached a potential bottoming zone according to the wave counts, and the market is oversold according to the indicators.   I’m intrigued to see how it plays out today.

Yesterday was another victory for bears, and the market is now in a price zone that crosses numerous long-term support levels.  It's also sufficiently oversold that it's advisable to watch for a potential bounce.  However, so far the decline has blown through support as if it wasn't there -- so this offers probability, but no guarantee. 

Moving onto the wave counts, there are two higher-probability interpretations.  I'm inclined to view this wave as the third wave of a larger third wave, but the charts do leave open the potential that the recent decline was an extended fifth.   Both scenarios are currently expecting some type of bounce, possibly as soon as today, though the idealized target for either is still a few bucks beneath the current market.  It's not always advisable to try and chase the last few bucks of a move, though.  As we'll see in a moment, we've already captured 81 SPX points, so there's certainly no need to get greedy here. 

Conversely, I would pay close attention to the trendchannels in the chart below before getting too excited about any bounces.  An "expected" bounce is not a "confirmed" bounce until the trendlines are broken, as noted on the chart.

This is where a trader has to decide whether they want to risk giving back some profit to chase a potential extended drop (by placing stops above the market), or whether they want to trade actively and take profits directly.  I myself am very tempted to use the first option, but my real-time read during the trading day might change that view.

I do want to call attention to the 60 point trade trigger discussed on May 2, as that trade has now captured the full profit of 60 SPX points (1305 target reached) since the trade elected at 1365.  Keep in mind that this trade came directly on the back of a successful 21-point trade trigger which elected at 1394. 

Thus those two trade triggers have captured a combined 81-points of the decline from 1394.  Not a bad two weeks!

To wrap things up, one of my favorite indicators, the McClellan Oscillator (NYMO) has finally reached the oversold zone where larger rallies often begin.  If you'll recall, this was the same indicator I called attention to on the exact day the market bottomed back in April.

As I've also pointed out on a number of occasions, this is also an area that should have longer-term price support. 

What happens next is absolutely critical to the bull case.  A bounce looks possible, and even likely here -- but the market makes no guarantees.  As I discussed yesterday, bulls absolutely must hold this zone.  An oversold market can be extremely dangerous if an expected major support zone fails. 

If support holds here, then a quick trip to the 1320's, or even the 1340's, appears likely.  So -- be on guard for a bounce here, but stay nimble.  If by any chance the 1290-1300 zone fails, I would give absolutely zero thought to holding long positions at this time.  Beneath that zone and the market could easily go into free fall.

To put it simply: the next session or two represent a critical test for the bulls.  I'm favoring the view that they'll manage some type of bounce here, but also favoring the view that this bounce will be short-lived.  Trade safe.

Reprinted by permission, copyright 2012 Minyanville Media, Inc.