Up, Down or Up Up?

Most analysts will only give you two possibilities: (1) the market can go up or (2) the market can go down. I prefer to look at the broader picture and provide three possibilities.

1 - The Market Can Go "Up Up"

In my previous post I realize that I made a technical error in my wave analysis:

This correction is a "flat". It is textbook stuff, 3/3/5 wave pattern. It's not perfectly flat, but that is also textbook. The C wave is supposed to duck below the B wave. More typically the B wave will also be above the A wave (extended flat) but regardless, nothing wrong with this picture right now.

The problem is that I said that this should be followed by a "X" wave which would connect the pattern into an extended correction that would dip steadily downward. Well, I went back to the Prechter book "Elliott Wave Principle" and re-read what he had to say about flat patterns and immediately it put doubt into my mind. He says, that while a flat can and does connect, that it almost never connects to a descending pattern. While technically legal, he had never seen it do so. Granted, this was written in 1978 but still it's worth reconsidering my predisposition to a bear market that starts "now". Traders always want to short and they often short too early.

When you think about it, a flat does imply that the market is heading back up. It implies that there are enough bulls to keep the market from turning into a zig-zag or motive wave down. The bears briefly get the upper hand in the C wave but are then met with support. The implication for our own market is quite bizarre I think. It would mean that, based on my wave count, the most likely scenario is a bull advance that would look like this:

What I have assumed to be the final wave is in fact (under this scenario) wave 1 of a larger motive wave. Our current correction would be a wave 2 which quite reasonably retraces nearly the entire wave 1. Such a large retracement would imply that wave 3 would not reach for the stars. 138.60 is a likely stopping point based on several price projection techniques. Then one would expect a flat correction (triangles perhaps as in my diagram). A flat correction would be necessary to prevent the 4th wave from dipping into the 1st wave. It would also follow the alternation guideline in the EW principle. Finally a small 5th wave. Here I've computed a .618 multiple of the 1st wave to get us to 142.20, however based on analysis of the 2007 peak I think 144 is the more likely target if it gets that high because it is a "weak zone" in that peak, the support line between the 2007 corrective pattern and the crash.

Note I also assume one more dip on Monday as this wave pattern is not yet complete based on my count. I'll look into that a bit later.

Now, to support this theory I would expect wave 3 to look a lot like wave 1. That is, almost no corrections but a straight shot up. On the daily chart there is a gaping hole at 133:

That gap should act like a magnet pulling the market up. If the market blows through that gap then that is a good sign that this case is correct. Of course one can hardly expect that sort of convenience. More likely I think it retraces at the gap and then bounces off of the 50 day which would be right about 131 at that point. If the shot from 127 up to 133 is straight then it's not an X wave. A bounce off the moving average would be a big long.

DeMark has something interesting to say:

I'm not normally a huge fan of TD countdown (I prefer TD Setup) however during this SPY correction is seems to have performed well. See circle #1 and the black bar at the bottom of the screen. The black bar indicates that TD countdown has recycled. That is, it was counting towards a sell point and then suddenly realized the market was not ready to sell. It was a strong buy signal.

Circle #2 did the same thing. This point fooled traders along with DeMark! The purple circle at #3 is what I refer to as the "truncated bull market". Everything except Elliott Wave pointed towards a bull market right there.

Now we look at the green bars at the bottom of the screen. There are twelve of them. A thirteenth would complete a TD buy countdown which is a rare event on a stock chart and often indicates a major wave up is about to occur. I believe the market will be down on Monday which quite likely would complete this countdown.

2 - The Market Can Go Up

This case is basically the one I outlined in my previous post. The flat would extend with an X wave and then head down again, carving out a larger corrective pattern. Prechter's comments indicate this is unlikely so is it possible that I've miscounted?

The purple wave (5) is unmistakably a motive wave. While it is unusual in that the wave 3 is a straight shot while waves 1 and 5 are stubs, it is impossible to say that it was anything other than motive especially if you were trading it!

The green wave (B) is unmistakably a 3 wave pattern. I would challenge anyone to dispute that.

The blue wave (C) once again is unmistakably a motive wave, having all the characteristics of a C wave and being quite easy to count.

But what about the circled wave? I've previously counted it as a 3 wave but could it be a 5 wave???

This is a 5 minute graph from ThinkOrSwim which includes the extended hours including ARCA trades. It is thus the most complete graph I have of that period (a 1 minute would be more complete although I doubt it would offer anything clearer).

The middle pattern is the only one that is rather clear to me. The two blue motive waves sandwich a flat corrective pattern. So this entire middle section is a "3". That means that the part on the right, labeled "5" must be a 5 wave. It's awful to try and count it but it doesn't matter. Either interpretation forces this to be a 5 wave.

So the question now is whether the large motive wave indicated by the yellow line is 3 waves or 5? Here are two possible interpretations:

A case of being able to twist wave counting to anything you desire. If the left case is correct then we have a bull market. If the right case is correct then we have a bear market!

Looking at the big picture again Does it look like a zig-zag?

Again, I don't think you can say definitively. On the one hand it is definitely downward sloping which is indicative of a zig zag. On the other hand, a zig-zag correction is usually a quick retracement, which that first A wave was anything but.

Well, regardless of whether this is 5/3/5 or 3/3/5 is the market heading up?

Here I've used my software to project a close for Monday that would fall on the technical support line. Composite sure enough has hit support. RSI is darned close to support. I don't have stochastics in my software but they have bottomed. We also have volume equivalent to the volume that occurred during the previous correction bottom. Finally there is the DeMark countdown. One would like to see a DeMark setup at this point but we are 6 days away from that. If the market breaks the previous corrective low then this is no longer a corrective pattern but a motive pattern!

3 - The Market Can Go Down

The final case is that this is not a correction at all but the beginning of a motive pattern. What was previously classified as an A wave is actually the "1" wave in a downward trend:

A break of the support line indicated by the pink circle spells doom for the market. A more insidious motive wave might look like this however:

Here the market maintains itself above support but never breaches the resistance line, instead carving out a flat corrective pattern (which would follow the guidelines) before breaking down. Beware if the market rebounds but cannot break 129.63!

Have we seen a pattern like this before? 2007 is similar:

The orange arrow indicates a difficult to interpret wave that is clear only in the larger context. We see the twin towers although the lead in was more easily interpreted as corrective and it would have been hard to mistake this for a flat. The red light was evident to anyone following Elliott Wave however and provided a clear indication of where the market was heading. Still it provided numerous opportunities to get out at that level and even provided another opportunity further down the line to get out on a gap fill. Our own market has a similar gap. In 2008 one had to wait 5 months for that gap fill through a hideous corrective wave.

Another breathtaking twin tower occurred at the top of the 2000 market:

This also was a "lone" motive wave and one could easily have been fooled into thinking that one more surge up was coming. DeMark sent off a warning however (red circle) and both composite and RSI hit their support levels. The market is generous and dastardly at the same time though. Those who might have recognized this as the beginning of the motive wave down had to suffer through a four month corrective wave, which was a blessing for those who had missed the signals the first time around. Indicators for our own market have not been quite so generous.

More Guidance

For more guidance we might take a look at the rest of the market. I think that TLT is particularly interesting right now:

It took off with the market collapsing as would be expected. It has left significant gaps behind as indicated by the red lines. The bottom gap is a typical breakout gap and we'd expect that to be left unfilled for a lolng time however the gap at 94 looked like it was going to be closed before TLT took off. Likewise the "angle of attack" on this TLT wave is too steep I think to allow the breakaway gap at 96 to remain unfilled. It's worth noting that this recent shot filled a gap at 98 that I'd been expecting to be filled for months. That eliminates one target for TLT.

Now I think I've seen this pattern before in UUP only in reverse. Here's what I think is going on:

The wave count on the current leg indicates TLT will go further. I don't know how much further. Too much would put this interpretation into question (and of course the SPY would hit the red light if it went much further). UUP did this exact thing though. An extended B wave makes a lot of sense after a big round motive wave. A devastating C wave could close the gap at 94 and then some. That would correspond to a significant market rally.

Not much guidance from indicators here but note what volume might be telling us:

The last time we had a volume surge on a breakout like this it was a premature signal. The market quickly retrenched. I think we might see the same thing happen again.

Let's see what UUP (Dollar index ETF) is doing:

So far it is tracking to our initial thesis. I'm expecting it to fall further as indicated by the red line. If it bounces above 21.20 then this thesis is out the window though and the market is going down now. If UUP continues down, then the bulls still have a chance although not a guarantee.

A few things worth noting on the chart. The first is the amount of time that stochastics can stay "on the ground" if a security is trending down. UUP stochastics are on the floor but could stay there. The composite index hit support and then bounced. I believe that a retest of that support line will be the end of the down trend for UUP however it's worth noting that RSI is nowhere near support.

Finally draw your attention to the volume surge at the prior bottom for UUP. I would expect the same sort of surge when we get close to another bottom. This of course is most likely to happen when the Euro begins it's descent which I believe will happen on a gap fill:

The Euro threw out a number of bogeys to technical traders, first offering up a symmetrical triangle that faked a bounce. Then a momentum surge over the resistance line and fake break of the 50 day average. No doubt the gap will offer another opportunity for traders to take money from one another, so possibly FXE heads further north as indicated by the dotted lines. For the time being however I believe the gap will act like gravity, raising the Euro and sinking the Dollar.

Still, it does not appear to me that UUP has far enough to fall to maintain an extended bull rally. Nor does it appear that TLT will fall low enough to support such a rally. Therefore I remain skeptical of the bull case and wary for the bear case.