Triangulating on the Bigger Picture

Let me provide a perspective in between the bulls and bears. It is centered on the market structure that could be developing in the past few months: a triangle, indicating a sideways period. The implication is that the whole market action since 2000 is in a larger triangle that should continue for many more years of a large trading range. Tony Cherniawski of The Practial Investor charts the triangle that may be the best explanation of market action since the Flash Crash:

 

In this view, the current wave we are in, leg e of the triangle, can end any time, although given the structure of the triangle (a barrier triangle with a resistance line at Sp1125-30), it remains most likely we get back up in that range before we complete the pattern. This triangle also appears in most other indexes, including the Wilshire, the Naz and the RUT, although notably not the Dow, which counts instead as a double flat, with the June- to July drop an X wave, which means it might go slightly higher than the August top before reversing. What happens next I will discuss below the fold. 

Lets compare and contrast the bullish, bearish and middle views.

The bulls, as represented for example by Tony Caldaro or Carl Futia, believe March 2009 was THE bottom and we have begun a new bull again. A less aggressive posture, but also consistent with the bulls at least through the four year cycle peak in 2012, is that March 2009 represented the four-year cycle bottom, a year early, and we have begin the ramp into the four-year top in 2012. To the bulls, the many signs of a fading recovery simply reflect the Wall of Worry that bull markets often have to climb in their early stages. 

The bears, perhaps over-represented by Bob Prechter and the many blog sites that follow his preaching, believe the drop off the 2007 peak is not yet over, and indeed is about to enter its worst phase, the dreaded P3 (primary wave 3) down to new lows. This downturn would mimic the 1931-32 drop, drawn out over six years rather than two (ie. to 2016). 

The bullish case may run into the double-dip; but even short of that may run into the sort of problem the first Bush ran into in his failed re-election in 1992: too little too late. The four year cycle is fairly predictable, and is driven by re-election pump priming; but this time around Obama may have primed the pump too early with his Stimulus, and now may lack the tools & political backing to use fiscal policy to drive a rising economy into his re-election. Sideways may be the best he can expect, a recoveryless recovery. 

If not the bullish case, is the alternative the über-bearish P3 case? Tony's argument for the middle case is crisp: 

Harry Dent just released his latest view on the market in which he claims that we are in a triangle wave 2.  He obviously doesn’t know his Elliott Wave patterns very well, but a triangle pattern could explain why equities haven’t shown the personality of a wave C.  Simply put, it hasn’t started yet! 

Instead of a wave 2, we have been in a wave B.  If we have started a larger degree wave (C), that means the whole pattern from the peak in early 2000 has been a triangle.  That is the only pattern that allows a C wave of any degree to be a zig-zag. 

Let me fill in the bigger picture. Consider the drop from 2000-03 as leg A of a triangle (2000wA). The drop was sloppy and a methodological problem at the time, since it did not look impulsive. The rise to 2007 is leg B (2000wB), and would mark this as a running triangle (bigger B than A). That wave too is much easier to count as a three waves not five: a thrust up to Jan04, a two year sideways pattern, and a final thrust up. So far this is consistent with the EWI view, that the pattern is an expanded flat (larger B than A wave) where the first two waves are "3"s.  

The divergence in views happens with the wave down off 2007:

• The bulls can accept it as the C wave of a flat, which they argue ended at the bottom in Mar09. They further argue that the five-wave rise in the Hope Rally is the kickoff to a new bull run, and the bears are missing one of the great buying opportunities of their lifetime.
• The bears argue it was but the first wave (P1) of a much larger C wave, and the Hope Rally has been the second wave (P2). They can point to 'retail capitulation' - the small investor is bailing out in droves. They have been since 2007. How can the market hold up when investors are bailing out?

Yet both cases have a methodological difficulty, although less so than the 2000-03 market: a C wave breaks as a "5", and the drop off 2007 is countable as a "3", a zigzag down. Both zigzags and impulses channel, as this one did; and both contain five-wave impulses (waves A and C of a zigzag), as this one did. If a zigzag, instead of P1 and P2 of a deep drop, we would be in (A) and (B) of a zigzag down. The top in April would represent the end of wave (B) and the start of wave (C) down, not P3.

Tony's point is that if we are in such a zigzag, the only wave count that would fit is a triangle back to 2000, the only pattern where the C wave is a "3". 

Tony's chart then shows that within that wave (C), the Flash Crash is the smaller-degree A wave down, and the triangle since May25 the B wave. A final C of (C) would be ahead. How far might it drop?

A common relationship is that wave C of a zigzag is 62% of wave A. Wave A went from 1576 to 667 or 910 points (rounded). If wave C goes 62%, it targets a drop of 560 pts off the April high of 1220, or back to 660, about where we bottomed in March 2009. (It works out this way because wave B went back 62%, also a common relationship.)  Timing on this suggests an interim bottom in a few months, then a bounce into 2011, than this end of wave C sometime in late 2011 or early 2012.

Comments

[Hank Wernicki]

Friday : BIG RALLY

[upstart]

Yelnick, this triangle doesn't obtain in the DOW. What pattern in the DOW would we propose to be congruent?

[yelnick]

upstart, you can see the triangle in almost every index, including Naz, Wilshire, Russell. The alt count that could fit the Dow is a double flat with an X wave from the June high to the July low. An X needs to be simpler than the two corrective patterns it connects, and this one is. It implies that the Dow may go to a new high while the S&P does a triple top and the Naz falls short.

[Steve Hochburger]

The Dow Jones goes to a NEW HIGH???

OMG!

[Duh' Fundamentalist]

Look at the pretty pictures the bullish technicians have made Igor. Never mind that demand in the economy is punk and there is no driver to deliver that demand.
The Feds are employing more people that ever before. American manufacturing that was 33% in the 1930's is around 9% now and headed lower. The Fed has bought up commercial real estate and will probably do more buying to improve Bank's balance sheet (not that FDIC will notice with a record number of Banks ready to give up the ghost, 99+er's will help with foreclosures). Yes Igor, I like that you are short. That is the way I am staying too.

[JT]

Funny how the BEARS continue to point to the 1930's when in fact, the US Economy is dramatically different today.

Also interesting is the perennial claim (and most ignorant) assumption that there is a strong correlation between stock prices and the Economy.

Research studies ( as well as common sense ) tells you that such a correlation is not valid, and in fact, is actually NEGATIVE.

The Economist/Market strategist types like David Rosenberg at Gluskin-Sheff have no clue. To them, stock prices have gone "nowhere" over the past decade.

Try telling that to someone that trades for a living!

:)

[Les]

Tell that to Greenspan and Bernanke. They think it does and they did a study on the effect stock prices had on consumption.

[Les]

The top trendline on that chart seems to be improperly drawn on that symmetric triangle. It would seem that it should originate from the April high. The trendline was broken today.

[Hank Wernicki]

the Triangle does not fit on a line chart <<

[nmelendez]

Move A to 1010, count 5 waves down from 1219 to 1010, count a from 1010 to 1129, b from 1129 to 1040, and c from 1040 to 1112 and you will notice wave c would be
.62 X a, a normal fib for a pennant. So you do have a running B but it still has a bit to run. Wave c should over at 1112 or so.

[Account Deleted]

S&P 500 EOD analysis: LINK HERE

[nmelendez]

The bullish option, you have an inverted H/S formation with a 1250 target.

[Milen]

My suggestion with regards:
http://bit.ly/bIHUyo

[Account Deleted]

Dow Jones futures daily chart analysis: LINK HERE

[Sherman "double long" McCoy]

This is the most well reasoned post you've made in a year. Well done.

[Repo 105]

We should celebrate the 1 year anniversary of the first move of the 2.

They have moved it so long that they recently had to replace all the keyboards at EWI offices because everyone had worn the plastic off the 2's and i's down to pure metal.

LOL!

[Michael]

"Tell that to Greenspan and Bernanke. They think it does and they did a study on the effect stock prices had on consumption." - Les

And yet here we have the stock market above SPX 1100 with retail investor volume only accounting for 11% of the daily volume, not too mention the FACT that there have been net OUTFLOWS from the US stock market to the tune of $48 BILLION since April of last year.

Given your logic regarding a strong correlation between consumption, the Economy, and stock prices it would appear highly unlikely that stock prices would have rallied as they have.

But in reality, the Dow has rallied 3500 points.

Just like the SPX rallied 11% last Fall as domestic mutual funds saw OUTFLOWS of 13 straight weeks to the tune of $36 BILLION!

http://www.zerohedge.com/sites/default/files/images/user5/Fund%20Flows%20November%2018.jpg

So where's that strong correlation you keep talking about between equity prices and the Economy/Consumer?

[Michael]

PS. Alan Greenspan also held the incorrect (and admittedly wrong) belief/assumption that the Real Estate market was not a NATIONAL market and therefore would never have an adverse effect on the Economy. He believed it to be a local market.

He also believed that publicly traded financial institutions would always PROTECT shareholder equity. Yeah right.

He also felt that there was no "Bubble" because there were no signs of inflationary pressures on wages and that was the most significant factor in his mind when it came to determining whether or not a "Bubble" was occuring.

He was obviously WRONG on all three counts.

[PTrainer]

"Friday : BIG RALLY"

Hank, to what Friday were you referring?

P.S. You're market calls appear to be very good just not perfect, yet!

[Les]

"Given your logic regarding a strong correlation between consumption, the Economy, and stock prices it would appear highly unlikely that stock prices would have rallied as they have."

The market has declined this year as the rate of growth of GDP has decelerated during the course of the year.

The stock market has been lagging the economy by roughly quarter. It bottomed in Q1 2009 while the rate of growth of real GDP bottomed in Q4 2008. The stock market rallied as the growth rate of the economy gradually improved over 2009.

[usdollar]

I believe we are looking at a triangle wave B (blue), however I belive wave A (blue) needs to be moved to the right where the red wave (b) is on the graph. Which would get us to be in wave (c)(red)up of B right now. Wave (e)of B will most likely be done in and around October 20 turn date. Then it will turn ugly for the bulls. First target would be around 8000 on the dow.

[usdollar]

I believe the big top formed a few month ago was wave C of X of an irregular flat. We have very soon formed wave B of the next ABC down. I believe it might turn into a large fractal of the flash crash, wich could take the dow down to under 2000 before the end of January. Then we would get a sharp correction, getting us back up to around 38.2% getting dow in the range around 5800. Something catastophical in the markets such as some kind of derivatives crises???. So 8000 or ugly 2000 is what I see. USD should come up to around 95-98 range on the index, which would form wave 4 on the huge ending diagonal from the 80s.

The alternative would be 8000 on the dow, and wave b down on a huge triangle, where wave c, d, and e will form over the next 2+ years, before the dollar explodes to the upside, and the dow will get killed all the way back to under 100.