An Alternate Bearish Potential for the Intermediate Term

Today, we’re going to start off with a long-term chart, because I finally feel the time is right to call attention to this particular potential.  I often begin tracking potential patterns many months in advance, but don’t mention them in the articles, because I feel it would only confuse people if I discussed these patterns too early.  The chart below is one that's been on my watch list for a long time, but the pattern has only now reached a position where I feel I can talk about it without confusing readers. 

As we all know, bullish sentiment has been extreme, and many major indices have broken, or are probing, their all-time highs.  More often than not, this is where the general public finally decides it's time to "put some of our savings into stocks."  Usually not long after that happens, the Big Boyz figure out a way to fleece retail investors of most of that money so they can go buy themselves a new Congressperson or two.

Accordingly, the chart below notes that the wave since June 2012 reconciles quite well as a fifth wave extension (shown in blue), which would actually lead to a significant retracement.  Of course, this is way ahead of the game here and should presently be considered as an alternate count -- but I do want readers to be aware that there are indeed more bearish potentials than the ones I've been focusing on recently (shown in black).  So as always, it's important to avoid getting too complacent if you are bullishly inclined.

 

The hourly chart below shows the more bearish count as the alternate, but I am still giving it equal odds at the moment.

There are literally infinite possibilities at any given moment, particularly in a structure like this.  Nevertheless, I've narrowed the chart below to the two I feel are most probable.  When I look at this chart, I am actually somewhat inclined to favor the bears. 

There's a 7-point window where the bear count and bull count split -- in fact, if my interpretation is correct, then the SPX should actually get back above 1559, which makes it a 4-point window.  Even though the bull and bear counts are roughly equal in odds, as a trader, I almost have no choice but to position short if that window is reached, because the risk/reward is exceptional.  Some trades are almost automatic for me -- and I'll take most any trade if I can get an entry that offers high potential profit with only a few points risk.  (This is, of course, not trading advice and you should consult your broker, your banker, and your priest before doing anything, etc.)

Bears Want to Know: Are We There Yet?

Yesterday saw a solid gap down after the weekend Cyprus news, but buyers appeared immediately, and the market rallied strongly into the afternoon, before running into some selling again into the close.  The question everyone wants answered now is whether this is merely a low-degree fourth wave correction (a deceleration of the uptrend) or the beginning of a larger shift in trend.  Let's discuss a few factors relating to both.

The first salient point is the fact that the ensuing rally was able to overlap 1555.74, which is the potential bottom of a first wave down.  In the Elliott Wave model, this is significant because it eliminates certain possibilities -- specifically, it eliminates the possibility that the ensuing rally was a fourth wave correction to the decline.  That gives the decline the appearance of being three waves (an ABC decline), which is typically the sign of a correction to an ongoing trend.  It's not entirely clear-cut in this case, though, because a series of first and second waves could overlap the 1555 price territory without violating the rules.

Yesterday I suggested we give equal weight to both counts, and I still think it's too close to call.  However, given the overlap at 1555, the position of the decline within the larger waveform, and the fact that the trend should generally be given the benefit of the doubt, one might consider giving very slight odds to the black count shown on the chart below.  Trade below 1545 would start to open things up for the bears, while trade above 1563.62 would confirm the black count.

I've also added a series of if/then target equations to the annotation box, along with my interpretation of the relative probabilities for each target.  Those probabilities are read given what's in the charts right at this exact moment, and thus could increase or decrease as more information becomes available from the market.
 

The hourly chart is unchanged from yesterday, and the alternate count still remains a very real potential.  In the event of the alternate count, minimum preliminary targets with the market in its current position range from 1485-1525, but could extend lower and would have to be adjusted in real time.

The long-term chart of the S&P 500 (SPY) shows that the market continues to push against the prior long-term peaks.  While I haven't annotated the chart with a wave count, I have noted on the chart that there are two pivotal price points to the downside.  As we just discussed, the peaks and troughs of potential first waves are important in Elliott Wave -- so I've noted the last two prior assumed first wave peaks.

Is Cyprus the Bad News We Were Watching For?

In Friday's update, I noted the charts were suggesting a turn was approaching, and I speculated that there would be some type of "bad news" event hitting the press this week; I went a step further and speculated that the source of the news event might be the FOMC meeting on March 20.  Score one for my interpretation of the charts -- but score zero for my speculation as to the source of the pending bad news (though, to be fair, it remains to be seen how my speculation regarding the Fed will pan out – though, I suspect the events of this weekend may alter their game plan).

As it turns out, the source of bad news seems to have been a tiny country known as Cyprus, which is apparently part of the European Union, and in need of a bailout (act surprised!).  I'm not going to berate myself for failing to include "bad news from Cyprus" in my speculations -- prior to this weekend, if someone had asked me to relay the totality of my personal knowledge regarding Cyprus, I would have said it was "probably some kind of tree."  If pressed, I'd have added, "Or maybe a rap singer and/or the newest car from Hyundai."  

What's unique and frightening about the goings-on here is that the EU has asked Cyprus to levy a tax on the bank accounts of private citizens to help fund the bailout.  Todd Harrison has written an excellent piece discussing all this in more detail (See: Cyprus: Has the Next Phase of the Global Crisis Arrived?). 

There are legitimate concerns this will set off bank runs across the Eurozone.  One thought I would add to this discussion is that it's my belief that -- short of systemic failure, anyway -- European instability is actually bullish for U.S. markets.  This may be counter-intuitive, but if the EU experiences bank runs, it's not as if European investors are going to withdraw all that cash and simply bury it in their backyards.  The cash has to go somewhere.  Ask yourself:  If you were a European investor who felt your money was unsafe in Europe, where would you put it? 

Right or wrong, bubble or not, the U.S. treasury market and blue chip equities are still perceived as "safe havens," especially when seen in contrast with Europe.  So some portion of any massive capital flight out of Europe is almost guaranteed to find its way into U.S. markets.  That means even more liquidity flowing in, on top of the Fed's existing support.  More fuel for the fire would help drive down treasury yields and help drive up equities.  

It's all relative, after all -- and basically, we're still the prettiest ugly kid on the block. 

If you are truly aware of the challenges facing the world, it's logical to have a tendency to be bearish these days.  The danger for bears is it's tempting to view events like this as "confirmation" of a pre-existing bias, which can lead to over-trading one's convictions.  Believe me, my "inner bear" wants to pounce all over these types of events, too. 

Could this be the watershed event that leads to a prolonged bear market?  Sure, anything's possible -- but given how much liquidity is still flowing from the Fed, I think this event is probably simply yet another warning signal of an approaching storm.  I suspect the storm hasn't actually reached us yet... in fact, based on the most probable interpretation of the charts (in my opinion, anyway), it's still some ways away. 

If you're prone toward a bearish bias, just remember to consider both sides of the equation.  Bears tend to look at events like this and think: "Storm coming!  And nobody wants to be the last guy standing on the beach when that hurricane rolls ashore!"  But bulls think differently.  A bull would say, "Sure.  But then, nobody wants to cut short their vacation for a false alarm, either!" 

I covered my views on this psychology fairly well in an article in January -- one of my personal favorites of the articles I’ve written this year.  It's titled A Survival Guide for Bears in a Bull's World.  If you're aware of all the trouble in the world and are thus prone toward an intelligent fundamental bearish bias, I'd highly recommend giving it a quick read.

Let's move on to the charts.  The charts have been hinting that a correction was looming, which led to my speculation on Friday that bad news was forthcoming this week.  To be fair, I was expecting about 6 or 7 more points out of this rally, but it remains to be seen if the market will achieve that or not.  For a wave as large as this rally, a peak that falls 6-7 points shy of targets would be well within the margin of error.  So on the chart below, I have kept Friday's alternate count (of wave 5 complete at 1563.62) unchanged in the labeling, but the odds on that count must be considered at 50% after the overnight futures sell-off.

 

Since the two counts are being viewed as equals, the chart below shows how the wave could be viewed as entirely complete.  We'll simply have to see how the cash market responds today.  In any case, hopefully my warnings of the past several days have helped readers protect themselves and lock-in profits.

In conclusion, I wrote on Friday that I was on “high alert” for a turn, so the bad news out of Cyprus isn't entirely unexpected.  The news fits the charts, which continue to suggest bears may get a solid, scary correction here.  It's still too early to determine much in the way of probable targets, or even to sort out if this is the smaller degree fourth wave -- but if we've indeed seen the completion of the fifth wave in its entirely, then the high 1400's would be entirely reasonable.  Ultimately, however, I presently do not believe this will mark a long-term peak, though the market always reserves the right to change my mind.  In any case, after we see how the cash market responds, I may be able to generate some preliminary near-term targets for the next update.  Trade safe. 

Reprinted by permission, Copyright 2013, Minyanville Media Inc.

Will the Fed Kick-off an Equities Correction Next Week?

While it seems like this rally leg will never end, it is, of course, guaranteed that it will end at some point.  I have an interesting theory about where that point may be.

Something that's always fascinated me over the years is the way the price charts often lead the news.  I can't tell you how many times I've looked at a chart and projected a strong move would follow, only to have a news announcement hit later that day and seemingly "drive" price right to my targets.  So my theory starts with a question:  What could possibly slow this wave down? 

Well, the obvious event on the horizon is the FOMC announcement that hits on March 20.  When the most recent Fed minutes were released, there was a big show made of head-scratching about whether or not to continue QE-Infinity.  I opined at the time that I felt it was reasonably likely the Fed was simply trying to scare speculators:

The big question in my mind is whether this is "real" dissention, or simply the flip side of a coin we've seen from this Fed before.  For the past several years, when we've been in-between QE programs, the public-relations strategy was clearly to "keep hope alive" for new QE programs.  Of course we don't need to talk hope anymore, because now we have QE-Infinity.

As a result, the present problem faced by the Fed is no longer "how do we keep hope alive?"  Instead, the problem they face is how to gain control of the monster they've created, and how to put the brakes on rampant speculation.  We've travelled 180 degrees, from "Let's talk up QE and keep the market hopeful," to: "Let's talk down QE and keep the market grounded."   

I wonder if this isn't simply the Fed playing the game of "verbal monetary policy tightening" the way they used to play the same game in reverse, when Bernanke would run around making statements such as, "My finger is on the QE button!"

The Fed knows they're playing a dangerous game by pumping this much liquidity into the market.  While they're getting the best of both worlds right now (a stock rally and some economic growth, without rampant speculation in commodities), it's a delicate equation, and they cannot afford for it to flip the other direction.  If speculators begin driving up commodity prices again, that will raise the costs of doing business and further harm consumers.  This would dampen (and possibly crush) the little bit of economic benefit we're currently getting from Bernanke's tireless printing press.

So I suspect that at the March 20 press conference, the Fed will put on their Frowny Faces and make another show of heartfelt-moral-conscience-brow-furrowing about QE3, as if they were lying awake at night wracked with guilt and tears.  In the end, though, they will "reluctantly" continue it... "for now."  But I think they're going to have to keep scaring us along the way, to keep commodity traders from getting too bold and killing their manufactured recovery.

Of course, I can't guarantee anything, as this is simply raw speculation -- but when we look at the hourly chart (below), we can see that the week of the FOMC meeting coincides nicely with the wave structure and the potential peak in blue wave 5.

For the past couple weeks, my expectation has been that we are now in the fifth (and final) wave of this particular wave sequence, and yesterday the market reached the first of my target zones for this wave (1558-1565).  When targets are reached, it's not necessary that the market reverse immediately (or even that it reverse at all), but it does become a zone of higher probability for a reversal.  With that, I must note that this first zone is not the "final" target for the entire wave, but only the target for red wave 3 of blue wave 5 -- the final target is 1570-1580.  The market is only a few points away from that zone now, and though it has shown no signs of reversal yet, I would keep a very close watch on this rally heading forward.  Note the black alternate count, because there are enough squiggles for wave 5 to be entirely complete.

(If you're new to Elliott Wave Theory and all those numbers on the chart make little sense, I have written a primer article on the subject which will aid in understanding what these types of charts actually mean.)

In conclusion, there's no sign of a turn yet, and the trend lines are all intact, which means the trend at every level is still pointed upwards.  Ideally, I would still like to see a bit more in the way of higher prices from blue wave 5.  Nevertheless, given that the wave structure seems nearly complete, and there is the possibility of more negative jawboning from the Fed next week, it's hard to recommend anything other than a high degree of caution here.  I think I'm probably a bit early with these warnings, but I remain on high alert for a pending turn.  I should add (for new readers) that at this point, I am not expecting this will be the final end of this central-bank manufactured bull market -- but I am on the lookout for a good scary correction starting in the near future.  Trade safe.

Reprinted by permission, Copyright 2013, Minyanville Media Inc.

Nine Straight Advances, Can Bulls Make It Ten?

"We cannot put off living until we are ready. The most salient characteristic of life is its coerciveness: it is always urgent, 'here and now,' without any possible postponement. Life is fired at us point-blank."  --  Jose Ortega y Gasset

Yesterday, the Dow beat the odds and posted its ninth straight advance, the first time this has happened in nearly 17 years.  Although that makes for a great headline, the raw statistic by itself is slightly misleading, because yesterday the Dow did not actually beat the intraday high of March 12 -- it simply closed higher than it opened.  In any case, November 1996 was the last occurrence of nine consecutive green closes (that particular streak then extended to ten advances).

Since 1973, the Dow has only put together nine or more straight advances on six prior occasions, so this is an extremely rare event. The record is thirteen straight advances, back in January, 1987 (an interesting year for equities!).

Before I begin presenting the charts: if you're new to technical analysis (and to Elliott Wave Theory in particular) and thus don't believe it could possibly have any relevance for projecting the market's future, then please take a moment to read this primer article wherein I briefly outline a few of the tangible ways it relates to the markets.  And while I'm discussing other articles worth reading: if you've not yet read Todd Harrison's 12 Cognitive Biases That Endanger Investors, I highly recommend it not only for trading, but for life in general.  It's one of the best trading articles I've read in years.

Let's move on to the charts, since, as they say, a picture is worth a thousand words (I've always wondered though: if you were to take a photograph of one word, is it still worth a thousand words?).  Below is the monthly chart of the Dow, which is loaded with annotations and notes, and discusses several relevant levels and patterns.

The main thing I wanted to again call attention to on this chart is the pattern which completed in 1995.  At the time, that pattern looked pretty convincing as a possible end to the bull market.  But as I've warned previously, these types of patterns can either be ending patterns, or compression patterns which lead to a sustained bull move.  My impression for the last several months has been that we're seeing the latter unfold. More and more, the current market is reinforcing that view, particularly on the Dow.
 

The 10-minute chart of the S&P 500 (SPX) contains some new details regarding the near-term.  I've studied the short-term structure on the one-minute charts, and frankly, the pattern is a complete mess and very hard to decipher.  While this is a market that has paid the trend-followers, it's also the type of market that can lull bulls into a deeply-complacent slumber.  My suggestion is to stay very alert at times like this, since the wave structure appears to be closing in on completion -- but at the same time, avoid the temptation to get too far ahead of the market.  In other words, respect the wave counts as potential warnings, but honor the basics like trend lines and support/resistance levels. 

Every system runs into limitations, so when the wave structure gets this fuzzy, it's important not to give back profits chasing low-probability plays.  Sometimes doing nothing is the most productive thing we can do.  If one feels they can get a good risk/reward proposition even when things are unclear, then one must limit their risk accordingly for the equation to work.  For example, sometimes when I'm trading euro/usd, I'll play a breakout to see if momentum will carry the market up and away from a very tight stop -- but I won't let that play turn into a long-term position.  If I get stopped for a small loss, then I accept that and wait for the next opportunity. 

If the market makes a new high directly, it's a bit more probable that we're still in red wave 3, but this is where I would tighten my stops on longs, since the potential exists that the market is moving to wrap up the larger blue wave 5.

Dow Reaches Eight Straight Up Days: Here's What History Suggests Will Follow

On Tuesday, the Dow Jones Industrial Average (INDU) managed its eighth consecutive advancing session (though just barely), which is a fairly rare event.  In fact, since 2000, there have only been eleven prior instances when the Dow advanced for at least seven consecutive days.  Of those, it made it to an eighth day on only five occasions.  If my historical data feed is correct, it has not managed nine consecutive advances even once since 2000.

There is another interesting fact that goes with this:  not one of these win streaks marked "the end," and a major top.  Some of them were followed by steep corrections, but in every single instance, the corrections were bought and ultimately resulted in a new high.  In a few instances, seven consecutive advances did occur in close price proximity to an intermediate top -- the most recent example being almost exactly a year ago.  The INDU rallied seven straight days into mid-March of 2012, then sold off briefly before finally reaching a new high a month and a half later.  From there, it embarked on a steep 10% correction. 

However, on the chart below we can also see that some of these win streaks were followed by shallow corrections which were extremely short-lived.

The bottom line is that a near-term correction would be quite reasonable, but odds are very good that correction will be bought.  On the S&P 500 (SPX) chart which follows, I'll outline some of the next key levels to watch.

For the near-term, I'm watching a couple favored possibilities.  My interpretation is that yesterday's decline was impulsive, which leads me to believe the market is now in a corrective wave.  Presently, I'm inclined to believe this won't be a huge correction, and that new highs will follow -- however, there are now enough waves visible that we have to at least consider the possibility that this structure is already a completed five-wave form (black alternate count below).  1525 is the first important bearish overlap level, so there's about 10 points of no-man's land, wherein the market's intentions would be vague.  That no-man's land lies south of 1535, which is the lower edge of the probable target zone, and reaches down to 1525, which is where we'll begin suspecting an even deeper correction is underway. 

Conversely, sustained trade above 1557 would suggest that red wave 3 is still unfolding. 

 



The hourly chart notes that  red 3 may have come up a little short of the target zone -- though if looked at from a bullish devil's advocate perspective, there is really nothing for bulls to get too concerned about until the red trend line breaks.  Please continue to keep the caveat of March 11 in mind, especially since there may be five waves completing at multiple wave degrees. 

Updates to the Long-term Market Outlook

(Sorry for the late update, had an important phone call as I was wrapping things up.  Incidentally, if you right-click on the charts and select "open in new window," you can bring them up at full-size.)

Well, it's that time of the month again, where I get really cranky and a bit bloated and... wait!  I'm thinking of something else.  Also, I'm a guy.  What I meant to say was it's been about a month since I updated the long-term charts, and there has been at least one significant development since then. Last time we looked at the long-term, there was still potential for two versions of the bearish count.  Since then, the alternate version of that count has been eliminated, so that allows me to narrow the long-term outlook down to two high probability potentials.

Let's look at the bear version first, since a lot of folks are wondering if the potential exists for a meaningful turn in the near future.  Indeed that potential does exist, as green wave iv would need to retrace back into the price territory of green wave i for this pattern to remain valid.  Ultimately this wave count would still see one more new high before a long-term turn.  Given the deteriorating situation in Europe, this count does not seem at all unreasonable from a fundamental perspective.

If the rally continues unabated, to the point where the two red trend lines which bound the diagonal no longer can be drawn as converging, we'll have our first real clue that the more bullish count (shown next) is gaining real favor.  At present, however, both counts remain viable -- so this bearish possibility does suggest that bulls should exercise real caution at current price levels.

 

 

 

Next is the long-term bullish interpretation of the wave structure.  Note that this count also suggests that price is nearing a peak, however this interpretation suggests a much smaller peak and turn in red wave 4.  If this is the market's intention, we normally would not expect to see red wave 4 break below the 1485 zone.  This count would suggest an ongoing bull leg, with only corrections along the way.

 

 

 

 

While both options presently remain viable, the next few weeks may allow us to eliminate one or the other.  Stay tuned...

 

Moving on to the more near-term, on Friday the S&P 500 (SPX) cleared the 1550 level, and has thus declared that it is more likely to be in the midst of forming a five-wave impulsive move to the upside.  As I noted on Thursday, there is no "true" invalidation level for the proposed expanded flat, so it remains an outside possibility -- but odds are against that pattern now, so it has lost the weight required to continue justifying its own separate chart, and is instead merely noted with the black "alt: (a)/(b)/(c)" labels on the chart below.  The market may be in the throes of a smaller degree fourth wave consolidation (not labeled), so may move sideways a bit before wrapping up red 3.  Do please note the caveat on the chart annotation.