Markets & Economy: May 2010

5/26/10

Bigger Than A '10% Correction'?

Every Big Bear Grew From a Cub

By Elliott Wave International

The famous "10% correction" that market pundits talk about sounds so nice and tidy, so predictable and tolerable. It's as if this "cute little correction" came neatly wrapped, looked like an M&M candy character, and smiled at you and your family after you open the box.

If only it were so.

"If all the market ever did on the downside was dip 10% once every two years, then investing would be easier than shooting fish in a barrel. Obviously, this is not the case. The fact is that the stock market's movements are a fractal. Declines come in widely varying sizes." - The Elliott Wave Theorist, December 2001

There is no way to know in advance whether a particular market downturn will fall 11%, 35% or 89%. Even the Wave Principle only forecasts probabilities -- not certainties.

Read Part One of Robert Prechter's Latest Two-Part, April-May Theorists FREE
The April-May Theorist series entitled "Deadly Bearish Big Picture" reveals a lucid picture for 2010-2016. It's the flipside of Robert Prechter's February
2009 Forecast for a 'Sharp and Scary' Rally. Click here to download the 10-page part one for FREE now.

One thing that is certain -- every bear market reached a 10% drop before prices fell even further.

And another near-certainty is that too many money managers will use the phrase "buying weakness" when the market falls 10%. On May 7, after the Dow Jones had fallen several hundred points in a few days, two money managers being interviewed side by side said in effect, "Buy." Not a word was said about caution. Not a word was offered about even the possibility of a major trend change in the market.

On the other hand, it was refreshing to hear a representative of a fund family say, "I don't know why anyone needs to be a hero, and try to catch the bottom."

You may be tempted to jump back in because the market has recently "corrected." Yet consider what EWI's Short Term Update subscribers read on May 7 -- ". . .we would caution that some of history's largest stock declines have occurred only after stocks were deeply oversold."

Two key features of the Elliott Wave Principle is its ability to establish a price target for the current trend, and a time range.

In his latest Elliott Wave Theorist (a two-part April-May issue), Robert Prechter tells why market participants should look far beyond a mere 10%-15% move in the now-unfolding trend.

This article was syndicated by Elliott Wave International. EWI is the world's largest market forecasting firm. Its staff of full-time analysts lead by Chartered Market Technician Robert Prechter provides 24-hour-a-day market analysis to institutional and private investors around the world.

5/25/10

S&P 500 Update 5/25/10

Today, I am going to update the near-term Elliott Wave count that was presented in the last S&P post on 5/20/10. Please go back to that post for a more comprehensive outlook.

(click chart to enlarge)

As you can see in the chart above, two of the possible Elliott Wave interpretations point in the same direction. Proportional Fibonacci measurements are provided for both. As long as prices do not break today's intraday low prior to further short-term upside, I would expect some trend retracement upwards into one of the proportional zones. At the termination of that retracement, downward pressure would be expected to greatly intensify.

It is important to always state when a particular analytical outlook or tactical strategy is wrong. My near-term outlook will be negated and I will be wrong if prices break above the intraday high reached on 4/26/10, which was: 1219.80 (cash index) / 1216.50 (June futures). No set of analysis or tactical plan is perfect, and negations are part of the game. We should always draw the negation line in the sand, and not be married to a market expectation.

Coincidental indications on this chart include volume and a velocity oscillator called RSI. The RSI shows a positive (bullish) divergence with price. This divergence indicates selling pressure weakened as the price trend continued its most recent movements to the downside. Volume expanded during the first phase of the downside action, contracted durring the large rally off the low of 5/6, expanded again during the downside action from 5/13 to 5/21, and then contracted from there -even while prices moved lower early in today's session.

Prechter -Very Long Bear Market

Prechter on Yahoo! Finance: "On Schedule for a Very, Very Long Bear Market"

Robert Prechter discussed the recent global sell-off that has sent all major
U.S. averages 10% below their 2010 highs with Yahoo! Finance Tech Ticker host
Aaron Task on May 20, 2010. Prechter says that the current climate shows that "we're
in a wave of recognition" where the fundamentals are catching up to the
technicals and that it's time to prepare for a "long way down."
For
more information from Robert Prechter, download
a FREE 10-page issue of the Elliott Wave Theorist. It challenges current
recovery hype with hard facts, independent analysis, and insightful charts.
You'll find out why the worst is NOT over and what you can do to safeguard
your financial future.

5/23/10

The Federal Reserve Does NOT Control the Market

Free E-Book explains why the Fed is powerless to change the economic course

By: EWI

As the world's leading stock markets continue to play stomach-hockey with investors via one triple-digit turn after another, the mainstream community takes solace in this core belief: No matter how uncertain things become, the Federal Reserve can at any moment swoop in to set the economy right.

In reality -- the Fed has no such power. This is the revelation of Elliott Wave International's newest complimentary resource from Club EWI: the 35-page eBook titled "Understanding the Fed." Including excerpts from the selected works of EWI President Robert Prechter -- including his 2002 book "Conquer the Crash" and several past "Elliott Wave Theorist" publications -- this riveting report exposes once and for all the most dangerous myths about the Federal Reserve.

Chapter 3 (of the 8-chapter anthology) attends to the "Potent Directors Fallacy" -- i.e., the false notion that the central bank is in control of the U.S.'s money, market, and economy -- and offers this "Conquer the Crash" insight:

"For recent examples of the failure of the idea of efficacious economic directors, just look around. Since Japan's boom ended, its regulators have been using every presumed macroeconomic 'tool' to get the Land of the Sinking Sun rising again, as yet to no avail. The World Bank, the IMF, local central banks, and government officials were 'wisely managing' South East Asia's boom until it collapsed spectacularly in 1997. In America, the Federal Reserve has lowered its discount rate from 6% to 1.25%, an unprecedented amount in such a short time... What will it do if the economy resumes its contraction; lower rates to zero?"

Note: The underlined sentence above was written in 2002. Today, that forecast has come to fruition after the Fed's rate-slashing campaign since September 2008 has brought rates to the zero level.

Chapter 3 then goes on to explain WHY the Fed's monetary policy failed to lift the hot-air balloon of the economy out of the violent credit and housing downdraft. Here, the eBook writes:

"The Fed's ultimate goal is to influence public borrowing from banks. During economic contractions, banks become fearful. At such times, low Fed-influenced rates cannot overcome creditors' disinclination to lend and/or customers' unwillingness or inability to borrow. Thus, regardless of assertions to the contrary, the Fed's purported 'control' of borrowing, lending, and interest rates ultimately depends upon an accommodating market psychology and cannot be set by decree."

Once again, flash ahead to today and the disintegration of optimism and shift toward conservation can be seen in the following data from February 2010:

Year-over-year bank credit was (negative) - 6.8% vs. 10% in 2007
Loan availability to small businesses plunged to the lowest level since interest rate crisis of 1980, thus drying up a major means of debt repayment.
The number of banks tightening their lending standards has soared, while consumer credit and tax revenue is plunging.
And, residential and commercial mortgages are plunging, as more and more home/business owners are walking away from their leases.

In Bob Prechter's own words: Once you can assimilate the truths contained in this eBook, "you will have knowledge of the banking system that one person in 10,000 has."

Do you want to really understand the Fed? Then keep reading this free eBook, "Understanding the Fed", as soon as you become a free member of Club EWI.

5/20/10

S&P 500 Trade Mangement & Update 5/20/10

In the last S&P post, we followed up on a proportional zone that had been previously expected to offer resistance to prices. We also identified a level for stop loss protective orders against short-sale positions at 1209.36. The proportional resistance level has indeed held strong, and the stop was not hit. Prices have reaffirmed the idea of a new downtrend emerging. Today, the S&P 500 lost 43.46 points, while the DOW Industrials Average lost 376 points.

Stops can either be kept at the 1209.35 level until further confirming breakdown, or they could be moved to one tick above the intraday high of 1173.57, as recorded on 5/13. In fact, they could even be moved down to the intraday high of 1147.50, as registered on 5/18. This all depends on one's own outlook. Ultimately though, it would be best to give the trend at least some room to develop.

(click on charts if you want to expand them)

In the monthly bar chart above, we can see the 61.8% replacement level that had been mentioned in prior post(s). Also interesting is that prices have now broken below the 10-month moving average. To be fair, they have not yet closed for the month blow that average, but they are currently below it. I left the OHLC tick bar at the top in order to record today's loss (gain if you are short). It was a pretty big one.

With the weekly chart above, we see that two of our long-term trend tracking tools -the 13 & 40 week moving averages- have not yet given a downtrend signal. This is normal. They are blunt trend following devices. If a new downtrend is developing, they will no doubt ride most of the trend. They will just be getting into and out of it a little late. As those who have read these pages and S&P 500 posts before know, the red and blue lines are simply ATR based trailing stops from a previous experiment and post that I am still keeping track of in the background.

Looking at the daily chart above, one can see the stop levels previously mentioned marked with blue lines. It might be look-out-below time if that thick red line marking the low preceding the rally up to the 4/26 high is taken out. It seems also that the RSI indicator, which had shown a divergence right before the uptrend ended, is also working to further confirm the idea of a new downtrend emerging. RSI is below normal lower levels for a retracement during a continuing uptrend, and, during the rally off the 5/6 low, only reached an upper range that is normal for retracements during a downtrend. Prices also closed almost at the very low of the day. Selling was definitely persistent.

The chart above is a 60-min chart of the E-mini S&P futures contract with some possible Elliot Wave labels applied to it. If prices rallied to break above any of the blue lines, which are the same levels mentioned from the beginning of the post, then then the label corresponding to the line would be incorrect. If prices break to new lows, below 1056(futures) / 1065.79(cash) and 1044.50 (cash), then the labels will be further indicated as correct. Volume contracted durring the rally off the 1056 (futures) level, and has been expanding during the sell off that has followed.

Today, someone told me that Richard Russel of the Dow Theory Letters said that you will not recognize this country in a year. If my long term outlook is correct, I would have to agree with him. Of course things seem to sometimes take longer to work out than we think likely when we do the analysis. If you want to see some of my charts from back to two years ago, then just click the S&P 500 tag and scroll through. There have been some successes and some failures, but the broad picture that the Elliott Work has provided me has been rewarding.

Below is a chart I posted on 2/17/09:

That road map has severed me well, and I still think it paints an accurate picture. Wave [3] down has likely been kicked off. Its not a certainty yet, and wave [2] could still have some more juice to it. However, the broader risk is to the downside in my opinion. That happens to also be the direction to the current short and possibly intermediate term trend is pointing as well.

5/18/10

What Becomes of a Broken Stock Market?

There are two possible Elliott wave paths for stocks from here -- but only one likely outcome.

By EWI

You know what a mystery the Dow's 1,000-point drop on May 6 has been.

Wall Street is looking for a smoking gun -- a trader's mistake, a computer glitch -- but nothing definite has been found yet.

If you're familiar with Elliott wave analysis, last week's shocking decline gets less mysterious. The chart you see below is from Robert Prechter's latest, May Elliott Wave Theorist. Notice the price area where the drop occurred.

As you see from Prechter's chart, the Dow reversed after the rally off the March 2009 low had retraced about 61.8% of the 2007-2009 crash. To be exact, "The Dow met the .618 retracement level when it reached 11,258 at 11:15 a.m. EST on April 26. Then it reversed, as shown in Figure 9," writes Bob in the May Theorist.

Why is that important? Because in Elliott wave analysis, .618 is a common Fibonacci reversal area for market corrections.

Based on the Dow's 300-year-long Elliott wave pattern, Prechter sees a huge difference now compared to the last two significant tops in 2000 and 2007. In fact, "This massive stock market top is preparation for something big," writes Bob.

The May 8 Theorist shows you two Elliott wave paths that stocks will likely take from here -- and both point in the same direction.

There is more -- you also discover the likely final outcome if this decline indeed develops into "something big": Prechter gives you his ultimate DJIA's price targets several years from now.

5/17/10

Gold's Current Elliott Wave Picture

With gold breaking to new highs last week, now is a good time to reevaluate the Elliott Wave picture to see what the probable counts are. For those of you wishing for a primer on Elliott Wave analysis, please click here for a free basic tutorial.

Usually, I start with the long-term picture and work down when describing an Elliott Wave count, but today I'm going to start with the intermediate term and then move to the broader view. The reason for this is because the intermediate term currently give us better ability and clearer parameters for managing our speculative trades in this market. Meanwhile, the longer term view gives an interesting picture of a possible accumulation opportunity a little further into the future.

(click charts to expand)

Pictured above is a daily bar chart of the gold continuous futures contract. There are two Elliott Wave counts presented. The one that is currently estimated as the most probable is called the Top Count, with the next in line being called the ALT-1 Count. In this case, they both point in the same general direction for the intermediate term. Although ebbs and flows / backing and filling are to be expected in any trend, both counts point to continued uptrend for the intermediate term.

One of the most important aspects to any form of market analysis is the question of how will we know if the analysis is incorrect. There is a price level (1124.30) above marked with a thick red line and the words "KEY LEVEL". If that line is crossed to the downside before completion of the implied Elliott pattern, then the analysis is wrong and back to the drawing board I will go.

Pretty simple. On to the longer term.

The Chart above is a logarithmic chart of the same market. If you are looking a long-term gold chart and it looks different than this, particularly with the most recent data looking more dramatic, then you are probably looking at an arithmetic chart. I prefer the log charts for long-term work, because they show the proportional rather than nominal difference in one price level to another. I feel this is a more accurate representation of how price moves affect the investor / trader.

Like the previous chart, this one has a Top Count and an ALT-1 Count. Currently, they also point in the same general direction. It sure is nice when that happens.

For those of you familiar with Elliott Wave rules, you will quickly see in the chart above that what can be expected is an accumulation opportunity sometime into next year. This would either be wave II or wave [2]. The wave II idea would indicate a larger opportunity, while the wave [2] idea would indicate still a significant one. We often talk about speculative trading on these pages, but looking at this chart brings to mind physical metals for one's own personal gold / silver standard. If the wave II or [2] indications are correct, then they will be great oportunities for accumulating physical reserves. Trust me, I am not saying hold off on any systematic purchases you have been doing. I'm just pointing out a possibility (not a certainty) for any dry powder you might have, or might be able to accumulate going into this count.

Could this long-term chart be incorrect, or at least proportionally off? Yes, of course! Its just a road map. We might see some new signs along the way. First of all, and as I have already noted in discussing the daily chart at the top of the page, the trend is currently up. As long as 1124.30 holds without first there being a completed pattern to the upside, I am expecting that uptrend to continue for the intermediate term. Also look back at the ALT-1 count on the daily bar chart. Look at it compared to the longer-term chart. It paints a picture of an expanding wave (3) up. I did not include that on the weekly chart, because it would have been a bit confusing. If the daily bar ALT-1 were to take hold, then prices would reach significantly higher levels before the wave II or [2] event.

Gold and Silver are real money. Not like those un-backed paper Federal Reserve Notes (FRN) we are forced to use. It should be interesting to continue watching this saga and battle between the fake and the real stuff unfold. I advocate trading the trends up and down if you have the means and ability to do so, and I also advocate accumulating physical holdings as you see fit.

Ron Paul on Squawk Box -talking Greece, The Fed, and Economic Law Eventually Prevailing

5/16/10

Patents Are Not Part of a Free-Market

I know that title might sound shocking to some of you, but it is in fact true. A year or two ago, when I first heard the claim that patents and intellectual property were not functions that would be found in a true free-market, I myself found it initially shocking. However, it does not take a lot of in-depth peeling away of the layers to show that intellectual property is really a government created myth.

Think about it. Imagine no one had invented the wheel yet. Someone gets the bright idea, and then chisels out a wheel from a rock or a log. Now, across the continent, someone else gets the idea a little later, but not by way of actually knowing that this first person had the idea. If the first person has obtained a patent, then that first person now has what amounts to the ability to keep this second person from manipulating his property -a rock or a log- and turning it into a wheel. As we can see, intellectual property is actually anti-property rights.

Many examples are easy to come up with. What if we are both farmers. I come up with the first seed throwing device (sorry, I don't know the technical definition of those things), and it clearly makes my work at planting time easier and more efficient. You notice what I am doing, and decide to make your own device based on the same one you have seen me develop and use. In no way do I have a right to come over to your land and claim authority over you or the materials you will use to build such a device. That is until the Federal Government Patent Office comes into the picture. For a fee, they will not only give me that legal (not lawful) right, they will even help me muscle you in their courts. Their lawyer buddies, who have permission slips to practice from another government office, will be glad to provide their services to help me take control of your property and to help you defend yourself and your property from my efforts to control it. Where did the government get the ownership rights to your property, so as to allow me to control it by keeping you from using it in a certain way? It kind of makes reminds me of organized crime, and the government thugs usually have the fancy suits to boot.

Patents are nothing more than unjustified government empowerment of one party to take partial ownership (control) over the physical property or behavior of another party. This would not exist in a free-market. How could it? There is no way in a free-market to keep someone from having a thought and then using that thought within the confines of their own material property. The only way to take control over the property of others is through use of force. The patent office is just another way the government has fooled people into validating its broadening reach into our lives and markets. In reality, patents are unjustified initiation of force, fraud and coercion against individuals who don't hold the prized permission slips. Patents actually violate property rights, rather than defend them.

What about information sharing by employees? Non-compete agreements would exist in a free market. They are contracts. They are not the assertion of control and ownership by one party over the property and behavior of another party. A contract is an agreement by two parties. This is different than a patent, which is an assertion of control by one party over another party.

Going back to our original example, the wheel; It should be clear that even the person who sees the wheel inventor's actions, and decides to duplicate them, is not beholden to the inventor. The inventor was rolling the wheel down the road. He had let the idea out of his head, and put it out in the open air for anyone to discover. What follows is competition in wheel manufacture that drives quality up and prices down. To the degree that the inventor is empowered by the collective force of a government to take control over the materials and behaviors of other would-be producers, is to the degree that competition in the marketplace will be kept out and therefore prices will not go down, nor quality up as much as would have been the case in a truly free-market. Instead of competing with or being hired by the producers, the inventor just asserts control (ownership) over their capital and goods via the strong arm of the government.

The patent office and the whole process involved with it is just another example of how the government manipulates markets and reduces our freedom. In a free-market, only voluntary exchange is allowed and valued. Clearly our markets are not free. There is much coercion, fraud and force being applied in arrangements that lack the classification of being voluntary.

In another life, I was actually involved in the invention of a few designs that had been patentable. My best friend and I were actually in college and running this little operation out of a garage. We had very little money, but were selling our wares all over the world. It really was an exciting time. We were inventing, branding, advertising and hustling. Every step of the way the more entrenched producers of similar products were nipping at our heels. Early on in this project, we went to see a patent attorney. After discussing our financial situation and our market, he gave us some good advice. He told us how much it was going to cost us to defend the patents we were interested in, and then he suggested we just keep innovating and beat the market by staying ahead of it like we had been doing up to that point. That's what we did, mostly because we did not want to take capital out of production and marketing and put it into the hands of attorneys. We came out with new designs, and also put significant effort into our branding. We stayed ahead of the market using a mix of original designs, both guerrilla and traditional marketing and a lot of sweat and tears until we finally sold our little operation and brand. At the time, I had no objections to patents. I had honestly not even thought all of this through. I just accepted them as if they were always there. Isn't it interesting all the anti-property rights / anti-market web that the government weaves for us.

I have held this view of the fiction of intellectual property for some time now, but what made me think of this today was coming across the video "Patent Absurdity", which can be found at the link below:

http://patentabsurdity.com/watch.html

5/12/10

Prechter Describes the "Stunning Long-Term Elliott Wave Picture"

By Robert Folsom

Please join me to consider a time in the stock market that lasted just under three years: 32 months, to be precise.

During this period a series of powerful rallies stand out clearly on a price chart. The shortest of these rallies was four weeks, the longest more than five months.

I can even list seven of these rally episodes, with the number of calendar days and percentage gains.

1. 152 days     +52%
2. 28 days       +11%
3. 77 days       +19%
4. 69 days       +27%
5. 31 days       +30%
6. 35 days       +39%
7. 28 days       +27%

Get Robert Prechter's Latest Analysis -- Click Here to Download His 10-Page Market Letter FREE
For a limited-time, you can download Robert Prechter's April 2010 Elliott Wave Theorist, the first in a two-part series entitled "Deadly Bearish Big Picture," for FREE! Click here to learn more and download your free Theorist.

This information obviously seems to paint a bullish picture: The stock market was in double-digit rally mode during 43% of the total calendar days in question.

But in fact, those rallies were the days when the bear was catching his breath. The market was the Dow Jones Industrials; the overall period was from November 1929 to July 1932. It devastated investors. The Dow lost 80% of its value. Yes, that includes the rallies listed above.

I said that these rallies stand out on a price chart, and indeed they do -- it's just that the declines stand out even more. There's virtually no "sideways" action. Prices moved rapidly in one direction or the other.

You can see the chart for yourself in the first issue (April issue, page 4) of the two-part series Bob Prechter has published in The Elliott Wave Theorist. Part One was in April, "A Deadly Bearish Big Picture." The final sentence of that issue said Part Two "will update the stunning long-term Elliott wave picture."

Bob just published Part Two. It completes the "Big Picture" he has now delivered to subscribers.

The past doesn't "define" the present or the future, but it sure does provide context. No analyst alive today understands this better than Bob Prechter.

Believe me when I say that the charts and analysis in this two-issue series are unique. The word "stunning" only begins to describe what you'll read.

5/11/10

Gold Breaks to New Highs

Gold broke to slight new highs in today's market. In a previous post I had talked about reducing the size of my long positions in this market based on some technical indications, including a possible price pattern. That was obviously not a successful speculation. Prior to that, we had tightened stops up for the long position we put on as of 4/6/10. That stop level was 1124.2 (thick red line in chart below). I am keeping stops at that level for now.

If the trend persists, we will have opportunities to move stops up along with it. In the meantime, lets keep an eye on the trendline drawn across the most recent lows. Sometimes trend following can be boring. After all, there are no king of the universe type statements to make about what one knows about the next move in the market. What trend following does give you is a statement about reality -the trend is in a certain direction and it will be until it crosses a certain line.

If you need, or would like, a tighter stop than the one suggested above, you could tighten it up to 1156.10 (dotted red line).

It has been noted in previous posts that I believe gold and silver to be good physical commodities for use in your saving and wealth preservation. The comments in these posts relate more to the use of them in trading the intermediate and long term trends for speculative profit.

5/7/10

What Do These 8 Technical Indicators Mean for the Markets?

Editor's Note: The following article is excerpted from Robert Prechter's April 2010 issue of the Elliott Wave Theorist. For a limited time, you can visit Elliott Wave International to download the full 10-page issue, free.

By Robert Prechter, CMT

Technical Indicators

It is rare to have technical indicators all lined up on one side of the ledger. They were lined up this way—on the bullish side—in late February-early March of 2009. Today they are just as aligned but on the bearish side. Consider this short list:

The latest report shows only 3.5% cash on average in mutual funds. This figure matches the all-time low, which occurred in July 2007, the month when the Dow Industrials-plus-Transports combination made its all-time high. But wait. The latest report pertains only through February. In March, the market rose virtually every day, so there is little doubt that the percentage of cash in mutual funds is now at an all-time low, lower than in 2000, lower than in 2007! We will know for sure when the next report comes out in early May. Regardless, the confidence that mutual fund managers and investors express today for a continuation of the uptrend rivals their optimism of 2000 and 2007, times of the two most extreme expressions of stock-market optimism ever.

The 10-day moving average of the CBOE Equity Put/Call Ratio has fallen to 0.45, which means that the volume of trading in calls has been more than twice that in puts. So, investors are interested primarily in betting on further rising prices, not falling prices, and that’s bearish. The current reading is less than half the level it was thirteen months ago and its lowest level since the all-time peak of stock market optimism from January 1999 to September 2000, the month that the NYSE Composite Index made its orthodox top. The 30-day average stands at 0.50, the lowest reading since October 2000. It took years of relentless rise following the 1987 crash for investors to get that bullish. This time, it’s taken only 13 months.

The VIX, a measure of volatility based on options premiums, has been sitting at its lowest level since May 2008, when wave (2) of ((1)) peaked out and led to a Dow loss of 50% over the next ten months. Low premiums indicate complacency among options writers. The quants who designed the trading systems that blew up in 2008 generally assumed that low volatility meant that the market was safe, so at such times they would advise hedge funds to raise their leverage multiples. But low volatility is actually the opposite, a warning that things are about to change. The fact that the options market gets things backward is a boon to speculators. Whenever options writers are selling options cheap, the market is likely to move in a big way. Combined with the readings on the Equity Put/Call Ratio, puts right now are a bargain.

In October 2008 at the bottom of wave 3 of (3) of ((1)), the Investors Intelligence poll of advisors (which has categories of bullish, bearish and neutral), reported that more than half of advisors were bearish. In December 2009, it reported only 15.6% bears. This reading was the lowest percentage since April 1987, 23 years ago! As happens going into every market top, the ratio has moderated a bit, to 18.9% bears. In 1987, the market also rallied four months past the extreme in advisor sentiment. Then it crashed. The bull/bear ratio in October 2008 was 0.4. In the past five months, it has been as high as 3.4.

The Daily Sentiment Index, a poll conducted by Trade-Futures.com, reports the percentage of traders who are bullish on the S&P. The reading has been registering highs in the 86-92% range ever since last September. Prior to recent months, the last time the DSI saw even a single day’s reading at 90% was June 2007. At the March 2009 bottom, only 2% of traders were bullish, so today’s readings make quite a contrast in a short period of time.

The Dow’s dividend yield is 2.5%. The only market tops of the past century at which this figure was lower are those of 2000 and 2007, when it was 1.4% and 2.1%, respectively. At the 1929 high, it was 2.9%.

The price/earnings ratio, using four-quarter trailing real earnings, has improved tremendously, from 122 to 23. But 23 is in the area of the peak levels of P/E throughout the 20th century. Ratios of 6 or 7 occurred at major stock market bottoms during that time. P/E was infinite during the final quarter of 2008, when E was negative. We will see quite a few quarters of infinite P/E from 2010 to 2017.

The Trading Index (TRIN) is a measure of how much volume it takes to move rising stocks vs. falling stocks on the NYSE. The 30-day moving average of daily closing TRIN readings has been sitting at 0.90, the lowest level since June 2007. This means that it has taken a lot of volume to make rising stocks go up vs. making falling stocks go down over the past 30-plus trading days. It means that buyers of rising stocks are expending more money to get the same result that sellers of declining stocks are getting. Usually long periods of low TRIN exhaust buying power.

For more market analysis and forecasts from Robert Prechter, download the rest of this 10-page issue of the Elliott Wave Theorist free from Elliott Wave International. Learn more here.

Robert Prechter, Chartered Market Technician, is the world's foremost expert on and proponent of the deflationary scenario. Prechter is the founder and CEO of Elliott Wave International, author of Wall Street best-sellers Conquer the Crash and Elliott Wave Principle and editor of The Elliott Wave Theorist monthly market letter since 1979.

5/6/10

S&P 500 Trade Management 5/6/10

Back on 4/18/10, we identified some technical indications that that S&P's uptrend might be ending and ready to begin a new downtrend. We were holding a long (bought) position at the time, and had a pretty tight stop in place. On 4/23, we tightened those stops further. We finally took profits on the long trade as of the 4/30 post. Although we identified some areas for stop loss orders for anyone going short, we were out of the market and waiting on the next indication.

Today, the market broke down significantly. Has a new intermediate or long term downtrend really been kicked off? I don't know that yet. What we do know is where we can place stops for short positions. We are now starting to get our feet wet on the short side of this market.

Let's start working through the longer term charts and move down to the shorter term in order to find key levels of trend confirmation and negation that we can use in positioning in this market.

Previously we had spoken of using the 10-month moving average as a long term trend identification tool. Prices have now penetrated this average, but they have not yet closed below it. According to this chart, the trend is tenuously neutral to up. The 10-month MA is of course not very sensitive.

The chart above is one we have looked at many times. It is a weekly bar chart with 13 & 40 week moving averages. Signals are typically given when these averages cross. Currently, the 13 is still above the 40. According to this long term trend indication, the intermediate to long term price trend cannot yet be considered down. Clearly, we can say that both the 10-month and the 13 & 40 week MA's are not early indicators of trend. They are good at following long term trends. They will always leave something on the table when trends change. They blunt, but powerful instruments in the quiver.

Another aspect to this chart is the 3ATR stop levels we have talked about before. Today's action took out the most recent trailing stop using that method.

Included above is a daily bar chart of the S&P 500. Several things are clear from this chart. The previous trend ended. The most recent action down is not as likely to be a correction against the prior uptrend as it would have been if it would have stayed within its own channel.

We also see that the top in this market and at this time frame was preceded by a velocity divergence as shown by the RSI indicator below the chart. This was pointed out in a previous post as an indication that there was downside risk in this market.

Another thing we see with the RSI is something Connie Brown has talked about in her book "Technical Analysis for the Trading Professional". After the initial top and downward movement in price starting on 4/26, prices retraced this initial downside action. During this retracement, RSI toped out near levels that represent highs in the RSI during a downtrend. Today, prices led RSI to a level below what would be a common RSI low when prices are simply retracing an uptrend. Not a be all / end all by any means, RSI is offering further indication that a new intermediate term (or larger) downtrend is emerging. If RSI was to reach back above the level of around 60, then this indicator signal would be negated for the time being.

The thick blue line (1209.36) represents a level that should not at all be breached if a new downtrend is emerging. A little below the thick blue line is a dashed red line (1181.62), which, if a new downtrend is emerging, is a level that also should not be penetrated by prices at this stage.

The 60-min bar chart above is a little different in that is is a chart of the futures contract, rather than the cash market. The same levels for stops are indicated on this chart. Volume increased with today's downside action. When I looked at a 5-min chart, it was evident that the volume decreased durring the end of session rebound in prices. The rebound at the end of the day was significant in that it retraced around 50% of the decline. If you are short this market, then make sure you keep your stops in place. If a new downtrend is emerging we will update those levels as is appropriate. If the stops above are taken out, without a push to highs above those of 4/25, then we will need to prepare ourselves for a possible meat grinder type of sideways situation.

What If you don't trade futures contracts and don't want to sell ETF's short; how can you trade a downtrend for profit?

The chart above is SDS -Proshares Ultrashort S&P 500. This is a leveraged inverse ETF. It is one of several choices in the ETF market that has an inverse relationship to an underlying market. With this you can simply buy a trend in the inverse ETF in order to effectively sell short a trend in the S&P 500. As you can see, I have marked the stop levels here just as I have in the underlying markets; its just upside down.

5/3/10

Gold -Revisiting the Two Competing Counts

Today we are revisiting the two competing Elliott Wave counts in the gold market that were described in a post on 4/10. One is bullish; the other is bearish. One will win; the other will loose. Key levels will tell us which one is underway, and today we can narrow the range between these two levels. We can also look at the additional clues that market action has provided regarding price trend.

I've refined the labeling a bit from the last post.

(click chart to enlarge)

If you want a basic primer on Elliott Wave labeling, then go here or here.

Count Identification
Top count is in black. Alternate-1 count is in blue. Top count is bearish in the intermediate term, while ALT-1 count is bullish in the intermediate term.

Key Levels
They are marked on the chart by thick blue (upper) and red (lower) lines. Pretty simple- if the blue line gets taken out, then the alternate count becomes the top count. If the red line gets taken out, then the current top count is confirmed (may be too strong a word) and the alternate count is eliminated. The upper key level is at 1227.50, basis continuation futures contract. The lower key level is at 1124.30, basis continuation futures contract.

Top count reasoning
One of the main reasons that I have given the top count higher probability in my estimation is the movement up from Feb 5th to March 3rd. This movement, which is labeled wave "Y" up via the top count, or wave "1" up with the alternate count, simply appears to be a three wave formation, not a five wave formation. In fact, it appears that series of three wave formations have just kept repeating since December of last year. That means we have been in some type of correction. Big surprise, right! A breakout of one of the key levels should end that choppiness and lead to trending action, but the reason mentioned above makes me think the breakout to the upside is less likely at this point.

Another thing to look at is the fact that volume has been declining while the price has been moving up. This can be a negative sign because it can indicate that buying power or demand are decreasing in this market. In addition to this, I know a lot of people who are talking about gold these days. That's usually a bad sign for a market in the intermediate term. Before you send me hate mail, realize I am a fan of physical gold as part of one's savings. We are talking about trading price trends here. Let's keep things in perspective.

Probably even less important, but still worth mentioning is that there is an upwards trendline (drawn across highs on 2/3, 3/3, and 4/12) that prices are currently testing. If prices fail to hold above any breakout of this trendline, then the bearish case would be indicated further.

Alternate count reasoning

The main argument in favor of the alternate count is the fact that the trend is currently upwards. Its not down or sideways. Prices have been trending up, and we typically try to follow the trend. Profits in this game are made from price change in direction of your position. Therefore, we try to identify trends as the emerge and simply ride them until they are done. The goal is to try to get 60% to 80% of major price trends, while limiting and minimizing risks on the false signals and losing trades. Most of the time, we try to tactically move stops (exit orders) along with the trend, rather than trying to pick the point the trend is likely to stop. I said, most of the time. We do this when we are long (have bought) or are short (have sold short) a market. The trend in this market has been moving up. Anyone who has been following us on this market knows that we identified the uptrend when it broke out, and we have followed it, moving stops up along with it. I usually don't try to get to cute with entries and exits, but.......

Action:

Today, I significantly reduced my long position in the gold market. This may prove to have been a mistake. I typically let the price trend take me in and out of a trade using trailing stops, but the triple three count stands out so much that I wanted to take action on it. I am not necessarily saying that is what you should do. I am just laying out my thoughts on this market. The key levels will be the final arbiter of this battle between buyers and sellers.

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