An Elliot Wave Trade In MCO

When MCO went public in 2000 I was still in my trading infancy. In retrospect, it would have been a great long trade, almost a 10 bagger. I had a hard time believing in MCO because of its business model, which is clearly based on a conflict of interest, which clearly contributed to the current economic crisis. That said, once it had completed 5 waves of cycle degree in 2007, I did complete two successful short trades in cycle wave A down. After the completion of cycle wave A, I waited for some time to see how the pattern would unfold.

As it turned out, MCO traced out two back to back flats creating an expanding wedge pattern sometimes called a megaphone, which appeared to be bearish in and of itself. It was then fairly easy to see that cycle wave B completed as an upward flat correction, which was followed by intermediate wave (1) of C down in 5 waves, followed by another flat correction in wave (2) up.

On 9/9/08, MCO completed wave ii of (3) of C down forming a perfect fractal pivot. I entered an order to go short at 37.90 STOP LIMIT, which was filled two days later on 9/11/08. Remember at that time, the broader markets were already in a confirmed downtrend after the August 08 top. My initial stop was 43.10. I did not do anything else as far as managing the trade. On 9/19/08 the markets rallied sharply and IBD called the market in a confirmed uptrend. Even though MCO also rallied in a smaller degree second wave, it closed badly that day and there was no reason to exit the trade. By the end of the month MCO had made a new low and I lowered my stop to 40.00, just above the 9/19/08 high. I continued to lower my stop with each new swing low.

Since cycle wave A completed in 5 waves, it was a high probability that cycle wave C would also complete in 5 waves. So, all there was to do at that point was count. You can see on the detailed daily chart above that no swing high was violated until wave v of (3) was finished on 11/20/08. I had calculated and posted a potential market turning point on this site of 11/26. Although a little early, wave (3) was definitely complete, so I exited one-half of the position around 16.60 on 11/21.

I projected a potential low in MCO around 12.00 based on fib extensions and the potential length of wave (5) in relation to waves (1) and (3), which was reason enough to hold onto the second half until wave (5) was complete. Wave (4) completed as a simple double zigzag, but it made a higher high as the broader markets were falling in February, a sign of relative strength. From there wave (5) fell in 5 waves to a low of 15.57 on 3/6/09. Sensing that the broader markets were due for a sharp countertrend rally due to the overall negative sentiment, I exited the second half of the trade that day as it rallied into the close at 15.92. At that point, it was still possible that only wave i of (5) was completing, but the risk was balanced. When the outcome is a coin toss, I prefer to take profits.

Overall, the gain on the trade was 57.10%.

For me the big take-away from this trade was not that I nailed both the entry and the exits, which I did. (This was a huge confidence booster for me and one of my best elliot wave trades.) Rather, it is the fact that I literally followed the big picture on this stock for 8 years. This gave me a powerful intuitive feel for its behavior as well as strong confidence in my analysis.

When traders get caught up in indicators and abstract buy and sell signals, they can lose sight of the big picture. Sometimes, it can take months and years of observation before you see a really great trade develop. Those months and years will give you the confidence to pull the trigger when the target is in sight, if you don't feel compelled to take every signal. Watch the market, analyze it, develop a trading plan, be patient and wait for the trade to come to you.

As for the current market action, now is a time to be patient and wait for a new entry.

(Note: there is a problem with the paragraph style in blogger. Hopefully, it will be fixed soon.)

All Clear?

I don't think so. To be sure, the pattern in the Qs is very bullish, but overall it looks like a b wave of a flat correction. That said, wave b of this flat could extend as high as 36.22 before reversing to retest the 5/13 low in mid June. I do expect that Monday will be an up day, and perhaps next week, and while I will most probably be stopped out of my 1/4 index short positions, I am happy to wait for a better entry to go long. On the above chart of the Qs we see a negative divergence in both the 5 period and 14 period RSIs and declining volume. In particular, volume has declined during this 4 day rally. It is possible that things could change next week, it is just not likely, but we will have to wait and let the market tell us what it wants to do.

A continuing choppy rally is a warning sign that we may get a sudden downdraft similar to Feb/Mar 2007. If this is a triangle, a running triangle, then we still have waves c, d, and e to go, which could take a couple of weeks.

Another reason that this rally appears suspect is the the transports are lagging badly and look to be in a bearish flat correction.

Gold has moved up into the "zone" of the high bar on the daily chart, meaning that it has closed within the range of the high bar. Perhaps it will zoom through to higher highs, but I am taking profits Monday in the DGP.

Oil, on the other hand, looks like it still has room to run, so I am standing pat there.

Today I was stopped out of HANS for a net loss of 5.6%. I was disappointed as I really thought it could be a big winner. On the other hand, SOHU took over for HANS and zoomed ahead today. I am now up 20% in SOHU. Two weeks ago I was sure it would be the other way around. This is why we let price direct our actions and not our opinions. All we can do is make reasonable choices as to which markets and stocks to trade, and let price do the rest.

I grade my performance in May as a B. Overall my account was up by the average monthly gain over the last 6 months, but I did make a couple of mistakes. I also put too much weight, in retrospect, on what I perceived as the potential for a big short covering rally, which has yet to materialize.

My mistakes were one of commission, I accidentally took too large a position in one stock due to a calculation error and doubled my expected loss when I was stopped out, and two of ommission, I failed to take positions in GMCR and QSII. I had followed both of these for months. In January I made a note that my projected target in GMCR was 82.80. It closed at 83.44 today. The entry would have been 43. Oh well, there are always new opportunities.

Now GMCR looks like it is wedging up into a top after announcing today a 3 for 2 split for June. 3 for 2 splits are typically not very bullish. I bought a put contract.

Tomorrow, I will post a review of a short trade I took in MCO.

Keeping Us In Suspense

Well, the markets keep coiling up for a move in one direction or the other. I am inclined based on my prior comments to expect a downside breakout from this pattern, but as always, we must be prepared for either case. It's just hard to get too excited about the upside when we are at the end of the month, and so many factors point down into mid-June. At this point there is nothing to do but wait until the market shows its hand.

Oil is not solidly above its 200dema and the DXO is performing well. UNG may have caught a second wind, but with such a deep retracement the upside may be limited. Gold continues upward albeit slowly and the DGP is following. These are working well and I will hold until a valid reversal signal appears.

Act II Underway

Today's high probably marked the completion of an x wave in the Dow and SP500 and a b wave in the Qs. Even though the Qs bested last week's high, it was on light volume and therefore not a valid buy signal. The recent two swing lows fell near or within the turn date window of 5/15 to 5/22 that I originally projected. Today's high fell on day 55 of the rally from the March 9 low. When a projected cycle date falls in the middle of a correction as this one apparently has, a good rule of thumb is that the end of the correction will create a symmetry around the cycle date. For the Qs, it is 14 days from the May 6 high to today's high, which projects a low on June 16. For the Dow and the SP500, it is 12 days from the May 8 high to today's high which projects a low on June 12. The post-election year cycle shows a low in mid-June, so we can now project with more confidence that the end of this B or X wave correction should occur between June 12 and June 19. I still am looking for the Qs to test the January and February highs before taking off in wave C or Y up.

I was stopped out of my short positions in EXPE and RIMM today, but am still short APOL, STRA, GME and long 1/4 QID and 1/4 TWM. I continue to hold long positions in HANS, ASIA, SOHU and a few others which I plan to hold through the correction. We will see if that works out.

My general rule is that I do not make discretionary exits until my targets are hit. I simply trail the stops as price moves in my direction. The key here for success is consistency. Pick one way to do it and stick to it. Trailing the stops reduces your risk and staying in the trade gives it a chance to work out in your favor. As an examply, APOL came within 0.96 of my stop at 65.75 on May 15. After making two lower daily highs, it formed a buy fractal pivot on May 19. I lowered the stop to 65.00. APOL closed today at 58.10 and with the market looking lower APOL is well on its way toward my target zone below 48.00.

Are The Markets Ready To Breakout Again?

While the indexes certainly put on a show today, my hunch is that this is just part of a b or x wave that will be fully retraced. The volume today was average to below average. The McClellan Oscillator did not close above zero. In particular, the rally from the 5/13 low to the 5/20 high was clearly 3 waves and today's low did not undercut the 5/13 low in the SP500 or the Qs.

For intraday traders the trend was profitable today, but for swing and intermediate term traders, there really was no good entry point except to buy the gap down open, which I did not. On the 60min chart there was no pullback until late in the day. One could look to buy a continuation tomorrow, but again I think if this does prove to be the beginning of wave C up, we can look to enter the first pullback. Since we have not yet seen a suitable pattern completion, I prefer to wait for a sustained move above last week's high or the completion of wave c of B down before taking a position. Tomorrow should help us in this regard.

While the timing fits with my previous projections, the pattern does not. I like to see pattern, breadth and timing supporting one another. Mixed conditions often lead to mixed results.

This Is What I Am Talking About

We've seen a huge surge in the indexes during the first hour of trading this morning, but caution is advised. It appears to be wave c of a upward flat correction. We need to see a solid move above 35.04, or a 1 to 2 hour pullback followed by a breakout of this morning's initial high to confirm that the uptrend has resumed. This is the type of situation I was referring to in yesterday's post when I said to wait for confirmation after the first hour of trading. You don't want to get caught in a sucker's rally. The corrective pattern may have morphed into a triangle as last Friday's low did not go below the 5/13 low, or we may be in a larger b wave of a flat that will retest the high of 35.34 before wave c begins.

The TRIN is holding up above 1.40, although in a downtrend, so this doesn't yet appear to be the real deal. Normally, the TRIN will be below 0.90, preferrably 0.60, for sustainable rallies.

Volume is high which could support either outcome, bullish or bearish.

A Very Nice Trend

One of the reasons I like trading the Qs so much is the fact that they trend so well most of the time. Looking at the above chart, we can see 8 weeks of higher highs and higher lows after the reversal bar that marked the bottom to the reversal bar that marked the recent high. It looks fairly clear that wave c of the current correction should be upon us this week. The target zone for the end of the correction is shown above at 30.49 to 31.63. I will be looking to exit my partial index, RIMM and EXPE short positions and in that area.

A move above the high of any valid reversal bar on the daily chart will be an opportunity to take a partial long position. When entering positions on the daily chart it is important to give the market time to confirm the move by waiting at least 30 to 60 minutes after the open to see that the signal is not a fakeout. Ideally, we want to see a move above the high of a reversal bar accompanied by a move from the open of at least 1% in all of the indexes on above average volume. If these are not present after the first hour then wait until you get confirmation before entering a position. This small step will save you alot of bad entries. If you are not able to watch the market all day, just be ready to jettison a position that goes against you quickly.

One thing we must prepare for is that the completion of the current move down in the indexes may just be wave w of a double zigzag or a complex flat correction. If that is the case, then we will see a move back toward the highs followed by another retest of the upcoming low. The key will be confirmation by volume and the advance/decline line. Once this correction is complete, I expect a move in the Qs to 37.50 to 40.00 and possibly as high as 41.24, which should complete by mid-July to early August.

Gold is at resistance and must hold up in this area in order to advance to the recent highs. The UNG crashed last Thursday, but may be set to resume its advance. My current stop is 13.10. Oil looks like it will continue higher but may consolidate for a while after reaching its 200dema.

Quick Update

The action in the Qs leaves a clear 3 wave rise from 5/13 to 5/20. Yesterday's decline is a clear 5 waves down on the intraday chart. Therefore, we can expect at least one more substantial move down after a brief upward correction. The next wave down projects to at least the 50dema around 32.60 to 32.65. However, I expect that a test of the Jan/Feb highs is the most likely outcome at this point. If short, that would be good place to start taking profits and look for a reversal.

Good News & Bad News

The good news is that it appears that the Qs are working on a double zigzag correction. The pattern on this correction is 3-3-3. Today's rally completed 3 waves up from the May 13 low.

The bad news is the poor close on the Dow and the financials coupled with HPQ being down afterhours strongly suggests that wave c of this 3 wave correction will get underway tommorrow. The downside targets are 32.36, 31.63 -31.83, and 30.49 to 30.89. I suspect that we will see a strong test of 31.63 at least.

The good news is that once this correction is over, we should see a strong move up in wave C of of (A) of X (my preferred count) to at least 37.50 and quite likely 40 or higher.

The financials look like they are ready to correct sharply in wave c of B of a flat correction. We can count 5 overlapping waves up in the XLF which means there will be at least one more up move to complete the advance, but probably from below 9.00. There I am tightening my stop on the UYG to 3.90. I given a little back, but it wasn't clear until today whether or not the financials would consolidate sideways before moving higher or enter a deeper correction.

Gold, oil and nat gat look like they will continue to advance during this correction. The UNG has corrected 50% of its advance off the April low and should turn higher or consolidate from here. Gold and oil need to breakout above last weeks high to continue their uptrends.

I am tightening stops on my index long positions, exiting a couple of stock positions and will hang on to the best stock positions during the remainder of this correction. I will look to re-enter index long positions on a clear sign of a reversal from support.

The expected dates for the low of wave c are 5/22, 5/26 to 5/29. The 55 day low from the March 9 low falls on May 26. We usually see a low within +-2 days of this important 10 month cycle subharmonic. This extends the time band for a low from my previous projections, but we have to adapt to the market as it unfolds.

The rest of the week will be very busy. My second son (I have five sons) is graduating from high school tomorrow. I have the LEED-NC AP test (Leadership in Energy and Environmental Design) on Thursday, and Friday I just need the day off. So, my next post will probably not be until Monday evening May 25.

Have a great memorial day weekend.

Light Volume Rally

Today's rally while substantial on a percentage basis was lacking in volume and must be regarded with suspicion. That said, volume could pick up on additional follow-through. If the rally from the March low is to continue from this point, we should not see a move below last week's low on volume. Last week's low could be retested, but it should hold in that case.

If the correction/consolidation continues for a few more days, we could see the 50dema rise above last week's low which would provide additional support for a continuation of the rally without a significant breakdown. One good thing about today's rally was that the Qs closed back above the 200dema.

I will continue to maintain stops in the vicinity of last week's low to protect against a potential breakdown even though it looks as though it may not occur.

Corrections

I just finished updating the System Tracker and realized that I had shown some systems as still long when they were in fact now in neutral. Unfortunately, I have been under a great deal of stress lately due to my wife's health and business obligations. However, I will do my best to keep it current. I am working on developing a new system based on Bill William's "Trading Chaos".

The systems I have presented are for educational purposes only, but it is my hope that you will be able to use the information for your benefit. In particular, I believe that they demonstrate that above average returns can be achieved without resorting to extreme levels of margin or frenzied trading.

Currently, I am working on rooting out the last vestiges of my one remaining bad habit: the tendency to overtrade by taking on too many positions. It has been a while since this one has reared its ugly head, but recently the number of great setups seduced me into exceeding my limits on the number of positions. As I exit the current positions at profit targets or by trailing stops, I will return to my trading plan. I think that one must always be on guard not to let the demons in whether by the front door or the back.

One benefit of writing this blog is that it has helped me maintain a much higher level of integrity in my trading. This is often a difficult thing to do when one is working independently. The probability of self deception is very great, and we must work to be brutally honest with ourselves to prevent destructive trading habits from creeping in.

This can happen to the most successful and talented of traders. Jesse Livermore comes to mind as an example. So I recommend that you take time to evaluate whether or not you are trading your plan on a regular basis.

Dave,

See my response in the comment section.

Craig

Another Look At The Qs

Above is a monthly chart of the Qs with my favorite MAs. As you can see the Qs stopped on May 6 right at the 12mema. While my expectations have been for a shallow correction before proceeding higher, I don't trade expectations. I trade the price. (I do adjust allocations based on expectations, however.) Price is telling us that we need to begin looking at the short side with the possibility of a deeper retracement in the next week or two.

So the question is how best to approach this. Last week I exited some long positions that had reached targets and raised trailing stops on most remaining positions. In particular I now have stops on index positions just below this week's low (week ending 5/15). I will reverse and go short 1/4 index position on a break of this week's low. If another valid pivot sets up and the downtrend accelerates, I will add to the position with an eye to exit at fibonacci targets. Hopefully, the strongest stock positions will hold up during this correction, HANS for example. I will be looking to reverse and go long the indexes again once this correction ends with a target on the Qs at the 50mema shown above, around 40.

The UNG has moved up in a clear 5 wave pattern, so I will be riding out the current pullback and looking to add on a resumption of the uptrend. The pattern in oil vis-a-vis the USO or DXO is not so clear, but still looks positive. Gold is advancing, but weakly and may not reach the recent highs. It will take a strong move above 950 for the trend to accelerate.

All the best next week.

Correction Deepening

Today's action has produced a perfect sell fractal in the Qs. If the May 13 low of 32.96 is taken out, we will have 5 waves down from the May 6 high, which would likely be wave A of (B) with B and C to follow. If this were to happen, we have to be prepared for two things. One, the correction could extend into the week of the 25th, and two, wave C could be deep. C waves often resolve faster than A waves so the correction could still complete by next Friday, but we could still the Qs as low as 30.48 to 31.63. 31.63 was the January high and should be strong support. It should also be noted that 32.96 is the 3 week low, which is a Marketclub sell signal for the Qs. One that should not be ignored.

I will be tightening stops on all of my index positions and some of my stock long positions. In addition, I will be looking to add to recent short term short positions.

While the possibility of a deeper (B) wave correction was not my highest probable expected outcome, it does appear to be developing in that direction. And as always, price takes precedence over all other considerations. In retrospect, one could argue that it would have been more prudent to take profits a week ago, but as I stated previously, when you have a rare opportunity setup, you need to be willing to give it a chance.

However, consider this. If the Qs correct to 30.48 and wave (C) equals wave (A), the target would be 40.19, which would be another 30%+ move. That is substantial whether it is a bear market rally or not.

I will be exiting short positions as the Qs hit the above fib targets and will be looking to go long for wave (C) up.

Unconvincing Rally Today

While it was nice to see an up day, the rally appears to be countertrend. Therefore we should see at least one more down move. However, it should be noted that new lows are not expanding during this correction, which is very encouraging for the bullish case.

I had mentioned previously that the period 5/15 to 5/22 would be the likely conclusion of the correction if it extended. I derived these dates using three methods. One, I add 365 days to important swing highs and lows (from last year, obviously). Two, I add 144 days (square of 12) to prior important swing highs and lows. Three, I look at the 55 day cycle, which is a subharmonic of the 10 month cycle. The first two methods yields the dates: 5/19, 5/22 and 5/23. Assuming that the new 10 month cycle began at the March 9 low as I have postulated, the next 55 day cycle low would be on 5/25. Allowing for a 2 day leeway and since correction lows often occur on Fridays as opposed to Mondays or Tuesdays, the highest probability days for the correction to end would be Friday May 15 to Friday May 22. The purpose of this exercise is not to suggest that the correction would have to end during this time frame, but rather that if we see the requisite technical reversal signals during this period, we can be more confident in positioning at that time for higher prices. If the expected reversals do not occur, then we look to the next potential time window for a reversal. I really don't get too wrapped up in the exact days, but more to the zone of time. Price lets us know when to move.

For Dave: what is JJC?

QQQQ Support

As the above chart shows, the Qs have two lines of strong support - one is the parallel trend channel from the March low, and the other is the January and February highs. These levels should not be breached on a closing basis or the rally is over. I continue to suspect that the 50dema in blue will provide primary support and the these lower levels may not be reached.

The 5 period RSI for the Qs is near 0, and the McClellan Oscillator is approaching -200. Both of these indicators show a deepenening short term oversold condition. It may take the rest of May to retake the highs, but this correction should be nearing its conclusion.

Correction Intensifies

The correction has obviously become more severe today, but as yet the damage is not enough to alter the intermediate term trend, although it was enough to intensify the drawdown in my account. I have sold some of my weaker positions to raise cash today, but am continuing to hold the stronger ones.

For now, the key is for the Qs and the Dow to find support above the 50dema. In particular the Dow needs to hold above 7939, or the trend could be in jeopardy.

We may see and extension of the correction into next week, but for now I continue to expect higher prices.

Pullback Continues?

Either the pullback in the indexes ended today or it will extend with a rally tomorrow and another down day or two to retest today's lows to complete the correction. Volume was once again below average supporting the bullish case. However, I was stopped out of two positions today. AIPC hit my stoploss when it earnings failed to meet the estimates, and SNDK hit my stop below the 50dema. No problem - that's what stops are for.

The Qs closed just below the 200dema, which is not cause for alarm yet, but the semiconductor index needs to hold support around today's lows or it could derail the rally. So far the SOX is holding above the January highs.

Gold moved higher but not convincingly. Nevertheless I did add to my position in the DGP today. The UNG continues its stellar performance up 41% from its low.

All in all, the markets still seem to be in a normal pullback that should resolve to the upside.

Light Volume

Today's selloff in the Dow and SP500 occured on light volume, just what we would expect for a normal pullback. The Qs continue to hold above the 200dema as expected and were positive today. I would not be surprised to see the Qs down tomorrow and the Dow and SP500 up. In any case this process will likely take a couple more days.

A surprise today was YHOO up on double average volume. I came within 0.10 of being stopped out on 4/20 and 4/28. I raised my stop to just below break-even after YHOO broke out from a B wave triangle on 4/13. My target is in the 18 area. Normally I would have kept the stop around a 3 ATR or 3 week area, but when a breakout fails I usually tighten the stop because it is often leads to further selling. Why lose money if it is going to fail?

Feeling Lonely

As I read through all of the commentary on the many sites that I visit on a daily basis, the overwhelming consensus seems to be that we are approaching the end of a bear market rally. Apparently, I am in a small minority among traders. As I stated on Friday there are a number of strong arguments against this rally. However, I want you to look at the chart above and consider that the McClellan Summation Index is showing the greatest surge in its history. The ratio adjusted index also shows a similar pattern. Compare the current move in the Summation Index with the one in 2003. Tom McClellan correctly surmised in 2003 that a rally lasting at least 18 to 24 months would follow based on the surge in the Summation Index then, and I am saying that based on the current surge, we should see a rally lasting to at least June 2010.

This does not mean that all of the macro and fundamental arguments are wrong, but unfortunately, even though the rate and depth of decline from October 2007 to March 2009 was one of the most severe in the past 100 years, it was not enough to completely shakeout the buy and hold investor, nor enough to convince young investors that the buy and hold philosophy is flawed. We also have to recognize the historic shift in public sentiment brought about by the election of Barack Obama and the incredible boost in optimism and hope that he has brought to a broad segment of the population. That coupled with the most agressive government intervention in the markets ever should not be lightly dismissed.

Don't get me wrong. My ultimate targets for the Dow are 2747 (1987 high) and below 1000, but those targets are years away from now. For the moment we should respect the trend and trade it accordingly.

I expect a volatile week ahead followed by another breakout that should break the backs of the stock market shorts. Oil and natural gas may consolidate but will go higher. The UNG saw the greatest weekly trading volume since its inception with a gain of almost 23%. This alone argues for higher prices. Gold could still go either way, but it looks like a retest of the highs is in store. Perhaps we are in the process of developing a very large triangle in gold that will take many more months to complete, or possibly we are in wave b of a second wave, with a huge surge in gold to follow the completion of wave c. Right now it's up in the air. The only thing to do is trade the swings until the trend shows itself.

If the market begins to break down, we will know it soon enough. Just don't get whipsawed out of this trend.

Price Rules All Other Indicators

This week saw the Dow and SP-500 close at new rally highs, while the Qs had their first down week after 8 straight up weeks. I keep reading commentary from all types of analysts who are trying to call the top in this rally. We read that the put/call ratio is bearish, there is a bearish wedge forming, the market is up so many weeks in a row, an ABC rally is now complete, sell in May and go away, the market is overbought, the SP-500 is at it's 200ma, the SP-500 is at resistance, oil is rising, etc, etc, etc, ad nauseum. I am not trying to say that these things are not important, because at times they are very important, but just not at the moment. In order for any of these things to matter, we must have not only a pullback, but a pullback followed by failed test of the highs, and then a break below the pullback low. This is the minimum requirement. Right now all that is happening is that stocks have been on a tear, and we can expect pullbacks to the rising MAs.

When the markets are at the beginning of a new "4 year" cycle and 10 month cycle, all of the above bearish omens will be present. All they mean is that the market is in a strong uptrend.
There was some weakness in the semi's today that bears watching, but overall the trend is intact. I do expect that we will see some more down days next week as we may have completed wave i of C or 3 in the SP-500.

Some leading stocks are breaking out. I added to my position in HANS today as it responded quite well to a better than expected earnings report. Other leading stocks are in short term corrections and consolidations building bases for another leg higher.

The current experience is what trend trading is all about, and it takes discipline to sit on your hands long while everyone else is taking profits and shorting. If you have some positions that are up 40% or more, by all means, sell part of them if reasonable targets have been met, and let the rest run, but the main point is -- let the remainder run.

Sell On The News

The day began on the upside, but the rally quickly faded and led to selling the rest of the day with most of the banking stress test news leaked yesterday. There is no indication as of yet that this is any more than a 1 to 3 day pullback. (See additional comments below.) The bears were definitely able to defend against the upside breakout above the January highs in the SP500, but for how long will they be able to keep it up, and how fast will they have to cover when they fail? The news on the banks is clearly not as bad as was feared regardless whether we can believe it or not, so there there is little doubt that the uptrend will resume, in my opinion.

It is also not surprising that there might be some selling ahead of tomorrow's employment report even though the ADP report was much better than expected.

The Qs closed just above the 200dema and I expect that level to hold even if there are probes below it intraday. If they were to close below the 200dema and fail a test from below, it would be a signal to lighten up on the long side.

I am short RIMM and EXPE (half positions) for an expected visit to the 200dema for each. Both are extended above their 50demas and a pullback is in order. These are 2 to 10 day trades, not trend trades.

APOL closed below its trendline today. I expect there may be a test of the trendline from below before more downside, but the trade is working nicely. I expect STRA will play catch up at some point. I am also short GME from 27.75.

If this corrective period extends it may last up to a couple of weeks and should prove to be a good opportunity for longs to add to positions for a final runup into June and July, but I would be cautious about overdoing it. As today shows, when the selling finally does begin, it won't take long to give back profits. The likely period for a completion of a longer correction is between 5/15 and 5/22, but it will probably not be all down until then.

The UNG closed up nicely today at 16.22. I am long from 13.90 with a half position. The UNG has been wedging down into a low since the beginning of January. It seemed likely that nat gas would catch up to oil at some point. I entered this position by trailing a stop lower just above each successive lower swing high in April. I will be looking to add to the position if given the chance, but if not I will just ride the trend as long as possible. I am also long the DXO.

An Alternate View

The above following interpretation of the action in the FTSE jumped out at me, so I thought it would be a good idea to show it. Wave B is a running triangle in this count, and wave C is complete. This would mean a substantial correction is imminent in the FTSE. I don't think this count is the most likely, rather it is more likely that the FTSE is in wave iii of 3 of A.

Food for thought.

Follow-Through

The Dow followed-through on its long squeeze signal today (the signal occured on Monday), which occurs when the 20 period 1.5SD Bollinger Bands expand from inside to outside the 20 period Keltner channels. The trend is determined observation or other indicators. This usually portends a strong extended trend. The Dow and SP-500 seemed to have taken over the reins from the Qs today. We may see some consolidation above the 200dema in the Qs as the first conservative target was almost hit today.

Options traders have pushed the P/C ratio down to levels seen at market tops, but I am not sure this means anything as there have been a couple of aborted P/C ratio sell signals since this rally began. One market analyst today noted that the SP-500 is only 10 to 15 points away from the uncle point for long-term and short-term shorts. If that level is hit, he expects massive short covering. While we could seem some violent swings in the near term, I am of the opinion that the risk of a short covering explosion is greater than the risk of a substantial correction. That being the case, it doesn't make since to sell without allowing for a short covering rally to develop. We may just be at the acceleration point for just such an event. The risk is that we do get a substantial correction and give back some of the gains earned in this rally. That is a risk I am willing to take as such opportunities are extremely rare.

My other main reason for not jumping off this rally just yet is the action in the financials, which are showing a very incomplete pattern. The BKX appears to be in wave iii of A of Y of a double zigzag. This means that waves iv and v of A, and waves B and C are still to come. It is unlikely that the rally in the broader indexes will end before the rally in the financials. The action today in BAC, WFC, JPM was very encouraging in this regard as well.

I do expect down days and pullbacks, but I don't think we are done yet.

We may be getting close to a second sell signal in the MACD for the Qs. This could be used as a signal to take partial profits in the Qs or NASD100 stocks should it occur.

Pause Day

Today produced a narrow range bar in several indexes. Whether this leads to a sharp correction or a strong advance remains to be seen, but we can probably expect one or the other. The Qs could be expected to retest the 200dema without any damage to the trend. Overall, leading stocks closed well, volume was light, and bank stocks were down on light volume.

To me, the most important clues to the true sentiment about this rally are the statements made in the general media. I was almost shocked to see this morning on CNN a financial commentator state (paraphrased) that most people believe this is a bear market rally and are hesitant to buy in until there is more improvement in the economy. While other measures seem to indicate a swing to more bullish sentiment, I think these types of statements tell the real story. I don't think the average investor or, apparently, the large speculators believe in this rally. This is a classic case of a market climbing a wall of worry. A couple of nice shakeouts along the way will be just fine as far as I am concerned as it will feed the doubt. At some point, we will see a climax run beginning to develop, but we are not there yet.

The two indexes with the cleanest patterns that I am following are the BKX and the London FTSE. The BKX appears to be in the early stages of wave Y of a double zigzag, while the FTSE is in wave iii of of 1 or A. When we see these two indexes approaching there termina, regardless of how long it takes, we will have strong evidence that the end of the rally is near. The BKX looks to be at least 5 weeks from completion, which would be mid-June and it could run longer.

The Qs are quickly approaching my first target of 35.86. The next target is 37.63. I do not expect to take profits at the first target. I am using it more as a milestone, but I will definitely be looking to take partial profits at the higher target. The exception will be if we see a true blow-off top in the making, in which case, I will ride it out as long as possible.

I'll admit that keeping my finger off the (sell) trigger at the present time is a true test of my patience and discipline, but this is one of those times that requires both of these qualities to realize the full benefit of the opportunity.

Continuing Confirmation Of The Trend

The market continues to confirm the uptrend. The Dow and SP-500 fired off long squeezes today, and the SMH is nearing a long squeeze signal. Sometimes the market will pullback sharply for a day or two after such a signal, but this should not be cause for alarm. The financials acted particulary well today seeming to take no notice of the impending stress tests results. In particular WFC and BAC were up sharply and the UYG has broken out to new rally highs.

SOHU was up but closed poorly. I still see higher prices for it. APOL closed down on the uptrendline I referred to yesterday. I think it will bounce up for a couple of days before breaking down. The trend in APOL remains down, so we will see.

Gold is in no man's land. It can't seem to decide which way to go. Perhaps we will find out soon, but I am close to being stopped out of my DZZ position. I will wait for a proper fractal pivot to form before considering a reversal to the long side, and I will be prepared to short gold with the DZZ again if stopped out before the downtrend resumes. Sometimes you will take a few hits in row bofore you catch the big trend.

With regard to Terry Laundry's post today, his near term projection is for a June 09 top. However, his post from last week on the longer term advance/decline T shows a top in June 2010. As far as the near term is concerned, I am basing the possibility of a July top on the fact that significant swing turns have occurred in July in the last several years, particularly the last two which were in mid-July. Also, the seasonal post-election year pattern calls for a top in late July. I suspect that any pullback in June could be a 4th wave or a small b wave, but that is pure speculation. I will probably take partial profits at a June top, particulary if upside rally targets are hit at that time and hold on to see if more can be squeezed from this rare opportunity.

(I will definitely provide a chart with my expectation of a combination correction as discussed yesterday. I am just trying to figure out the best way to present it. Also, I am near to finishing an important engineering project and I have another townhome closing on May 15th, so it looks like I will have more time after that to do some charts. Mr. Obama's $8,000 first-time home-buyer tax credit has certainly been a help to me, although I loath the whole idea of it.)

All of the cycles and elliott wave aside, just take a look at a chart of the Qs with 10, 20, 30 and 50demas. It is the best looking uptrend since the second half of 2006 in my opinion. That uptrend lasted 4 months before a pause. Corey Rosenbloom at Afraid To Trade has shown charts of intraday trend days many times. On such a day it pays to ignore sell signals and ride out the trend. We are in such a trend on the daily and perhaps weekly charts and it will pay to be skeptical of sell signals and ride out this trend.

Unbelievable Rally

While certain measures seem to indicate that this rally is overbought, the sentiment of large speculators and small traders remains decidedly bearish. I realize that some polls are beginning to turn bullish, but the group that probably influences the small traders the most, newsletter writers, have been extremely slow in jumping on this rally. Many are still calling for a retest of the lows. On CNBC, the guests, for the most part, seem to be hesitant to suggest buying this rally, while they concede that it could go higher. One advisor said that for those that had not already bought this rally, it was too late and investors should wait for a deep pullback before considering going long.

This past week the SP-500 negated the bearish wedge pattern, which I had already demonstrated was a low probability setup anyway. The negation of the bearish wedge means that we are most likely in wave 3 or C of the rally. Third waves and C waves are generally the most powerful waves for stocks, and I expect that will be the case here. The generally neutral to bearish sentiment during this wave 3 or C could lead to explosive upward action.

At the same time, we could see some violent swings mid-month. I think the best course or action here will be to ride out these swings for a mid-June or mid-July top. At the moment it is hard to tell which it will be, but I am beginning to lean toward mid-July. I am now almost fully allocated to the long side, with short positions in APOL and STRA. STRA appears to have completed an ABC upward correction. If APOL breaks the coming test of an uptrend line from the March 08 low, the target will be 32 to 35.

The Big Picture

When it comes to evaluating the big picture, it pays not to become too attached to one viewpoint. In an earlier post, I pointed out that I believe the most likely pattern for the market based on an evaluation of the cycles, sentiment, breadth and elliott waves is that we are in a 3 wave rally, wave X, that is the middle portion of a complex combination correction. Wave W completed March 6 as a flat correction. The current wave X will most likely be longer and deeper than most expect. Oftentimes, X waves or B waves last at least one-third the length of the preceding wave. Since wave W lasted 9 years, that means wave X could last up to 3 years.

At the moment it is hard for me to see how it could last that long given the cycle structure, but I will keep an open mind. I think the most likely scenario will be a top around June 2010. This may seem to contradict my earlier statement calling for a low around that time, but the surge in breadth during this rally has been strong enough to propel the McClellan Summation index above its downsloping trend line from the 2003 high. This action in the Summation Index has been shown by Tom McClellan (as he correctly noted in 2003, by the way) to lead to rallies lasting at least 18 to 24 months. Also, Terry Laundry has now demonstrated that a new valid bull T has formed with an expected duration of 535 days, which is about 18 months. And lastly, I have re-examined my cycles calculations and have come to the conclusion that March 6 was actually the "4 year" cycle low.

This sub-harmonic of the 45 year cycle can vary in length from 3 years to almost 5 years. The last low was October 13, 2005. The low prior to that was October 10, 2002. The next expected low is October 31, 2011. The cycle is expanding in duration from its minima between 2002 and 2005.

If this is correct, it has several implications. First, the 10 month cycle may have phase shifted with a new origin on March 6 just like it did at the October 13, 2005 low. This means the current rally would be at the beginning of the 10 month cycle with an expected duration of 12 to 16 weeks. I will hold judgement on this until we see the action in May. Secondly, it means that we are at the beginning of a longer rally similar to 2003 and 2005 than most expect. Both of these facts fit with the X wave interpretation supported by the surge in breadth.

The 7 year cycle terminus is also in June of 2010. It could be a bottom or a top, but it appears it will be a top based on this new analysis. So the form of this X wave should look somthing like this: rally into June/July, pullback into September/October, rally into December, pullback into January/February, rally into May/June. This is very rough, but should give you an idea of what to expect.

An X wave will be difficult for most to trade. Sentiment should swing wildly, but eventually reach an excessively bullish extreme. Being an upward correction, the bias should be to the long side. Short trades should generally be of the hit and run style shooting for 15% gains.

I will still be trading my systems as usual. What the above analysis does is give me a roadmap for allocation. Realizing that the rally could be longer than expected with an intervening b wave, means I will not be excessively allocated to the short side. It also means that I will not be taking profits prematurely based on the fear of another imminent collapse in the markets.

Finally, all of the above could be 100% wrong. If it is, I will adapt accordingly. If I see a reason to alter my viewpoint, I will inform you as soon as possible. However, your trades should be based on the price action and not any hypothesis about the future form the market takes.

Emergency Plan

Thanks for the supportive comments regarding my wife. I had to take her to the hospital emergency room last Saturday. She had a minor stroke. Currently, she has regained most of her function, but is still weak in her left leg, has reduced peripheral vision in her left eye, and occasionally has trouble finding the right word to say. I expect she will make a full recovery, although it will take several weeks to months.

Although this is a trading blog, I may take the opportunity to rant about doctors and the medical system at some point.

Do you have a trading plan for emergencies? My plan is simple. Do nothing. I have either sized positions so that I do not need a stop, or I have loss stops and trailing stops in place. Any action that I need to take can wait for a few days. Knowing this, I did not experience any anxiety over my account even though I was not able to review my positions on a daily basis until this past Thursday. I know that the markets will always be moving so I am not worried about missing out on profits. This is a business. I have other businesses, and during emergencies, it is OK to let things go until the worst is past, and then check in with your support system to keep things going until you are able to come back. I have found over the years, having had several difficult emergencies and crises, that basically everything is just fine. We tend to have an exaggerated sense of our individual importance, but the world just keeps going whether we are there or not. I just start where I left off, and rarely has it been a big problem.

All the best this coming week.