Correction Not Over & Thoughts On Cycles

Today's poor close and the afterhours drop in the futures points the way to a continuation of the pullback that started last Friday. Today's action probably was wave b of the correction. If wave c lasts as long as wave a, then we have at least two more days to complete the pullback, which neatly coincides with the (Un)Employment Report on Friday.

One thing that I do when evaluating market action is to view the action in the context of the cycles. I admit that there is so little agreement on stock market cycles, that it is hard for many to take it seriously. However, what I have learned about stock market cycles is that they differ from other natural cycles. For one, the end of a cycle does not have to occur at the absolute price extreme of a movement, and two, cycles do not have a constant periodicity, and lastly cycle periods can measure from top to top, bottom to bottom, bottom to top or top to bottom depending on a number of factors.

In addition, it is useful to know the following fundamental cycle periods (there is little agreement on these among analysts, but my research supports these as the correct ones):

84 year with 42 year, 21 year and 7 year harmonics
45 year with 22.5 year, 11.3 year and 3.75 year harmonics
30 year with 15 year, 7.5 year and 5 year harmonics
20 year with 10 year, 5 year and 20 month harmonics
14 year with 7 year, 3.5 year and 14 month harmonics

As you can see from the above, there is no true 4 year cycle, but rather the 4 year cycle is the result of the interplay between the 3.5 year, 3.75 year and 5 year harmonics of the fundamental cycles. The average of the 3 being 3.92 years.

It is no coincidence that the SP500 bottomed on 10/10/02 and topped on 10/11/07 exactly 5 years plus one day from bottom to top, and we can most likely expect some kind of bottom around October 2012. Similarly, the SP500 topped on 3/24/00 and 10/11/07 which is just over 7.5 years and so we may expect some kind of top (or bottom) around March 2015.

These larger cycles can be mapped out, but it requires a great deal of work and for the intermediate term trader, it is enough to concern oneself with the 20 month cycle and its half-cycle, the 10 month, against the backdrop of the larger cycles.

So, where are we in the big picture? I will make the following statements without proof and leave it to the reader to investigate further:

The 84, 42 and 21 year cycles are due to bottom in 2026+-, and will not coincide with the nominal low in the indexes. The last 84 year cycle low occured in 1942, which was not the nominal low. The 42 year cycle bottomed in 1982 (40 years). The 21 year cycle bottomed in March 2003. The twin peaks of 2000 and 2007 on either side of the March 2003 bottom is the double top of the 42 year cycle. Thus we are in the declining phases of the 84 year cycle and its 42 year and 21 year harmonics, and the greater trend will be down until 2012+- to 2014+- when the nominal lows are expected.

In 2010, we can expect a low in the 7 year cycle, March 2003 plus 7 years, and the "4" year cycle. This low should coincide with the wave 3 or a of C, depending on the count, low of the elliott wave count that plays out.

So where does that leave us at the moment? Currently, there is little doubt that the 10 month cycle bottomed on November 21, 2008 and the next bottom is due in September 2009. The 10 month cycle typically subdivides into 4 movements of 12 to 18 weeks up, 4 to 10 weeks down, 4 to 10 weeks up, and 12 to 18 weeks down. In bear markets the up phases tend to be weaker and shorter, and the down phases stronger and longer. We are now in the 4 to 10 weeks up phase of the 10 month cycle. If that was all we had to go on, we might conclude that the current rally was over and we are at the beginning of a new downtrend.

But we do have other tools that can mesh with the cycles to help give a clearer picture of what lies ahead. One of those tools is elliott wave analysis. Now, here too, there is a great deal of disagreement as to the wave count. But three facts stand out that give the greatest weight to a particular wave count. First, two measures of sentiment hit historic extremes at the March 2009 low: the AAII sentiment poll, and the DSI trader's sentiment poll. Second, the number of stocks making new lows was significantly less in March than in November giving a positive divergence. Third, the major indexes broke out above the upper channel line of waves 2 and 4 of primary wave 1 on March 18, if properly drawn on a logarithmic scale. These facts support the March 9 low as being the end of primary wave 1.

Since this wave lasted over 16 months, a normal second wave retracement should last a few months whatever form it takes. Therefore, we should expect that the current up phase in the 10 month cycle will last at least 10 weeks if not longer with a move in the Dow to around the 10000 level.

The recent positive crossing of the moving averages should be viewed in this context as another supporting piece of evidence that wave A of primary wave 2 is underway and far from complete.

Of course, all of the above conclusions could turn out to be completely wrong, which is why prudent speculators don't bet their whole account on such analysis, but rather they spread the risk over multiple markets and trades, enter trades in steps, use price levels and pivots to confirm entries, and use appropriate stops and risk management. Prudent speculators enter every trade with confidence knowing all the while they could be dead wrong.

Bullish MAs

As the above chart shows, the 26ema has crossed above the 50ema for the QQQQ. While the cross from last August did not work out, this is a bullish turn of events. Coupled with the bullish momentum divergence in the macd this supports the case for higher prices, which will be confirmed when the 3/26/09 swing high of 31.46 is taken out. In the meantime, it is quite likely that the Qs will come down to test the 50ema at 29+-.

Finally - A Correction

The long awaited pullback is clearly underway. First support for the Dow is the November 2008 low of 7449 with lower support at 7200 to 7250+-. For the Qs, first support is 29 with lower support at 28+-. My hunch is that we will make the first targets today or tomorrow, bounce into Wednesday and Thursday, and then move lower again into early next week when the markets will either retest this week's lows or move down to the lower support levels. I will buying index ETFs at the lower support levels regardless of when they are hit. The good thing about this correction if it is sharp and quick is that the next correction in April/May should be shallow by the rule of alternation.

Gold is holding up very nicely and appears to have completed an abc correction from the March 20 high. The correction may become more complex, but it appears that the March 18 low will hold. A breakout above the March high should be a good opportunity to add to positions in the GLD or DGP or initiate new positions with a stop below the March lows.

Today's action in the markets demonstrates perfectly why patience is so important, and why traders should not chase markets, but let the markets come to them.

Good trading this week.

Promises Promises

A few weeks ago, I said that I would review trades I had made. So far, I have presented one. Not what I had in mind, but since December I have been involved in a demanding project on a state of the art boiler plant at a major university that is taking all of my time. In fact, I have been working 7 days a week on it. The plant was designed by another firm, and I have been hired to do what is known as coordination drawings, which is an industry euphemism for "take the engineer's poorly thought out plan and figure out how to make it work". I would not have taken the job except I did not anticipate that it was going to be as bad as it has been. Even so, I am glad to know that my contribution to the success of the project is significant.


It has also brought fully to my attention why governments and institutions are so poorly equipped to manage major projects. For starters, it is extremely difficult to get a large number of people to agree on anything. Secondly, those who are given responsibility for implementing whatever is agreed to want to delegate all of the details to subordinates so that they can avoid responsiblity for making difficult decisions. Then, finally, once the details are presented for approval, the whole process starts over again. It's like groundhog day times 10.

What is most evident is that the majority of people involved in projects and programs are ill equipped to deal with the difficult task of implementation. Realizing how difficult it is to actually manage all of the details, there is a great tendency to jump over them, which only results in double the work later.

Looking at our current economic situation and the bailout legislation, it is clear that our legislators delegated the details to subordinates, passed the bills without reading them, and are now reaping the results of all the mistakes.

First and foremost, as a society, we must learn to slow down and simplify. People are in such a hurry to get whereever is it they think they're going, that they don't realize it is taking them twice as long than if they took more time to prepare. Abraham Lincoln said that if someone gave him six hours to chop down a tree, he would spend the first four hours sharpening his axe. (Haste makes waste.) So much of what we do is needless busy work that is the result of poor preparation because of impatience. We also tend to make things overly complex. Can anyone really defend the complexity of the tax code? Has it really resulted in fair taxation and greater revenues? I don't think so. Most of what government does is unneccesarily complex.

The same things can be said for trading. Slowdown and simplify. Prepare. Don't jump over the details. Take responsibility.

I just did a quick paper trade backtest on a simple trendfollowing system picking a Nasdaq 100 stock at random. It took 4 years before the system took off ultimately returning 1000% on this one stock. If you had gotten in a hurry and moved on you would have missed the best part.

Keeping it simple enables us to keep our focus and stay the course instead of getting lost in needless complexity that leaves us running around in circles never seeming to actually get anywhere. So pick a simple system, work out the details and stick to it. You'll eventually reap the rewards, which is the great thing about trading - you don't have to depend on a bunch of yahoos to make it work, it's all up to you.

Inconclusive

Today's selloff was insufficient to conclude that a more sustained correction is underway. Downside continuation on Monday could confirm the correction. In any case, the market action appears more and more every day like a rising wedge, which should lead to a correction in the Dow to the 7200 to 7250 area.

I was a little surprised to hear a constant drumbeat on CNBC today that traders do not believe in this rally, and that many are in fact increasing short positions. This type of talk on CNBC is very rare and, I believe, quite bullish for the market.

Two stocks of interest that are now pulling back after 5 wave advances are TSO and RGLD. Traders could look to buy a 50% to 61.8% retracement of the March 9 to March 26 rally with a stop below the March 9 low, or buy a breakout above yesterday's high. I typically do not put a stop any closer that 3 ATRs (10 day).

Gold is still holding up despite a multitude of calls from the bears for a retest of the November low. As long as the March 18 low holds, the trend is up.

Declining Volume On The Dow

The flat correction was voided as the indexes including the Dow moved to new highs on the day, but volume on the Dow has continued to decline as the rally progresses. We have reached a point where the markets will either chop a little higher to complete an ending diagonal triangle or they will explode higher in a 3rd of a 3rd wave. I suspect that big money is doing everything it can to mark up this market for the end of the quarter and any correction will now come during the first week of April.

The Nasdaq Composite and Nasdaq 100 (QQQQ) are approaching the 2009 highs so that might offer some resistance.

The next Gann turn date I have calculated is March 28, which falls on Saturday, so tomorrow or Monday could see some selling.

The only suggestion that I can make at the moment if you are not at all in this market is to look for breakout opportunities in individual stocks and limit yourself to no more than 2 to 4 new positions per week so that you gradually build up to your full allocation. The indexes may not pullback, and you may want to take a partial position in the index ETFs. I am still quite leary that a pullback is around the corner, but am happy that I have my toe in the water with the UYG, UWM and a few stocks including GE, JPM and HANS.

I hope you have followed along as I have posted my entries in the above soon after I took positions.

Flat Correction In Progress

Today's rally looks very much like a b wave in a flat correction which at 2:40pm is showing signs of reversing on below average volume. If this is a flat correction, then we should expect the Dow to correct to the 7430 to 7524 area just below the Wednesday 3/35 intraday low. Unless the correction were to extend that may be the best area to enter the trend.

On the other hand if the Dow extends above today's high, then we may be looking at an ending diagonal which could mean a deeper correction to follow. Subsequent action will be key to the outlook.

As I stated last night I did go long on a breakout of the UWM today. I continue to look for opportunities to add positions as this trend develops without getting too far out on a limb before a correction ensues.

How Rapid Is This Advance?

Yesterday, Mark Hulbert posted an article on Marketwatch about how the rate of the rise in the current rally has been far faster than the average for bull markets over the last 100 years. He concludes that this is a hallmark of bear market rallies and compares the current rally to the first major rally in 1929, which he says only lasted a few months rallying 48%. (48% is nothing to sneeze at.)

I agree that the rate of the rise in the current rally has been extreme. I compared the gain in the QQQQ over rolling two week periods (on a day by day basis) and calculated that the gain to date since the March 9 low is 3.5 standard deviations above the mean for such periods over the last 10 years. In fact, the gain has exceeded the average rolling annual gain on a day by day basis for the last 10 years.

This is both an indication of the initial thrust of the rally and a warning that a reversion to the mean is probable. It is extremely rare that such a pullback does not occur, but once or twice in a decade it doesn't, and for that reason I will look to go long a half position in the UWM on a breakout above Monday's high. Nevertheless, the probability of a sharp reaction of 1 to 3 days is increasing and would be an opportunity to jump on board the trend.

On comment:

With regard to candlesticks, I cannot offer much advice. Most studies that I have seen do not suggest much of an edge. I have found that understanding how to read fractal pivots as described by Bill Williams to be much more rewarding. The IWM has formed such a pivot above the 50dema as of today leading to my decision go long on a breakout. A note of caution on CME: it is approaching upper channel resistance and 200dema resistance, although 3 month highs are a positive. Best of luck.

A Comment On Elliott Wave Forecasts

For those of you who use elliott wave theory to analyze the markets and who follow the various forecasts of advisors that use it, I want to add a word of caution. As the market decline accelerated into March, I noticed that the number of forecasts from a variety of sources showing the Dow heading to much lower levels (below 4000) began to mushroom. This is a little surprising on the one hand, but not so much on the other. One might expect those who are well versed in elliott wave theory to be somewhat more aware of the human tendency to extrapolate trends indefinitely, but being human it is not surprising that they might fall prey to this fallibility.

It is certainly possible that the markets could continue to much lower levels from this point, even though the current cycles do not support such a move, but traders and investors should be cognizant of possible outcomes other than the most obvious. While I am in no way trying to criticize Robert Prechter's work, as he has been the leading proponent of elliott wave theory and the author of the book that brought it to the attention of so many analysts, Mr. Prechter has forecasted that we are in wave c of a large flat correction that began at the 2000 high and that primary wave 1 of c has just been completed. This, of course, should lead to waves 2, 3, 4 and 5 with wave 3 of c being the most severe.

This may be the ultimate resolution, but another solution exists which could take the markets down to Prechter's forecasted levels, namely Dow 400, in a less impulsive manner. It is reasonably clear that the recent March low, having completed 5 waves down from the October 10, 2007 high, has completed a valid flat correction from the 2000 high. If we take that to be the case, then there are several options available to the markets from here other than a large impulse wave. The least probable option is an impulsive move to new highs. In my view, this is a valid solution, but it does not fit the current cycles that are in force, and therefore, is extremely unlikely. This leads us to the most probable alternate option which is a combination.

A combination beginning with a flat, another 3 wave movement, followed by a zigzag seems to me to be the best alternate solution. (Please see Elliott Wave Principle by Frost and Prechter, pg 53.) The intermediate 3 wave movement could be a zigzag or a flat, but a zigzag would fit better with the current cycle.

Currently, there is no way to know which solution will play out as both are now calling for a 3 wave upward correction. After the upward correction is over, both solutions would suggest an impulsive decline. However, the combination alternate solution would suggest perhaps a less severe decline to just below the March 2009 lows, probably around Dow 5000, as opposed to a huge crash to below 3000 as would be implied by Prechter's forecast. This may not seem like a significant difference, but in reality one is more like a retest of the March lows versus an extended impulse wave. The combination alternate would also allow for a larger intervening rally before the final low.

The reason that I am bringing this alternate to your attention is that if it proves to be correct, the trading environment from this point forward until the completion of the correction in 2010 to 2014 will become increasingly difficult with many reversals, punctuated by occassional strong trends in either direction. I am concerned that many traders may be preparing to bet the farm on a third wave decline that never comes. While Prechter's forecast appears seductively elegant, we must remain mindful of other valid interpretations as we navigate this historic bear market. And this is why it is imperative that traders have a clear set of trend following rules that keep them on the right side of the market regardless of the forecast.

Pullback Or Pause Day?

The move down from today's high in the Dow appeared to be impulsive, but is it the beginning of a correction or the end of a flat correction? I don't know, but a correction will occur and I will wait for it. Either the markets will continue higher into the end of the month and then correct or the correction is underway now. Even the huge move off of the September 2001 low consolidated sideways for several days after an 18 day initial rally. In fact, the Dow moved sideways in a flat correction for 11 days.

If you see a great setup, take it, but I recommend stepping in a little at a time until we get the correction.

Still Awaiting Pullback

Today's rally exceeded the expectations for a b wave high in a flat correction, so it is probably a small degree 5th wave. Looking back at the initial rally off of the March 12, 2003 low, the pullback began March 24th and lasted 6 days. I remain partially long and am not willing to commit additional capital until we get a shakeout. It is notable that the XLF failed to make a new rally high today, perhaps an indication of a little tiredness in the rally especially considering that supposedly the rally was all about the great bank plan. However, some bank stocks did particularly well, e.g. WFC and JPM. I believe that JPM could test the 2008 high before this rally ends, although some day in the future I also believe that JPMs relationship with the FED could be its undoing.

A Short Trade In EXPD

In January this year I recognized the potential for a developing triangle in EXPD, shown above. As frequently happens in triangles, wave E moved strongly into the zone of the wave C high, but then quickly reversed. I waited until the Qs had made a new 3 week low on March 19 to consider a short trade. At that time EXPD has formed a very nice short pivot with 2 higher lows above the March 17 low with the pivot below the 50dema. Using the width of the triangle from the October 2008 low to the wave a high and subtracting from the wave e high gave a target of 17.75. I also calculated a target of 18+- using other methods. With all elements lined up to the short side, i.e. 1) market(Qs), 2) pattern, 3) 50dema and 4) pivot, I entered an order to go short at 29.25 with an initial stop of 34.20 and a target of 18.25.

On February 20, the order was filled. By March 5, EXPD appeared to be in a minor 5th wave down as the broader markets approached downside targets at an impending turn date. At that point, the risk in EXPD was clearly to the upside and the expected target had not been met and EXPD was near the October 2008 low. If EXPD were to meet the lower target, it would require riding out a potentially deep 2nd wave and giving back all of the profit and more. Therefore, the prudent action was to take the profit and wait for a future opportunity. I covered the short on March 5 at 24.72 for a 15.5% gain in two weeks. Subseqently, EXPD has rallied sharply to the 50dema and swing high of 29.44 while the Qs have made a 3 week high. Even if a new short pivot were to develop in EXPD, I would not go short at this time without supporting action from the broader markets as EXPD is likely in a larger upward correction.

The exit in this trade falls under the general principle: "Don't let your profits run into losses." I say this is a principle and not a rule, because a rule has specific unambiguous criteria. In order to be successful, traders must operate from a set of specific rules that follow from first principles.

Over time, I will be examing how we can develop a set of specific rules that support profitable trading.

A Note On TM

On March 4th I presented a chart on Toyota(TM) showing a possible bearish triangle. This may very well play out as shown, but given the current potential for a multi-week rally, I feel that I should warn readers that any move below the March lows is likely to be false breakdown. In general, I do not take trades against the prevailing market trend regardless of the setup unless the setup is extremely compelling. At the moment that is not the case with the TM triangle pattern. While it may prove to be the correct analysis, I am passing on that trade for now. If I change my opinion, I will let you know.

Stopped Out

I was stopped out of my last short position today, so I am now partially long. I will not look to short the current correction as I think the risk is to the upside. Rather, I will be looking to add additional 1/2 positions in index ETFs as the pullback progresses and will complete those positions on a breakout above this week's highs. Of course, this will require waiting through some drawdown this coming week, but if you take a look at what happened in gold this week, I think it paints a good picture of what will be coming in the stock indexes.

So many people have declared that the rally in gold is over, and by Wednesday noon, I was almost ready to agree with them, but gold went on a tear squeezing the bears. We could see a similar move in the stock indexes once this pullback is over. I expect at least one hard shakeout day to trap the bears. Only a sustained move below the March lows or an IBD "Market In Correction" call would alter my view at this point.

Pullback Underway

The expected pullback appears to have begun today. The high in the indexes occurred yesterday one day after the Gann turn date. The next turn date is on March 27, so a one week pullback seems to be the most probably outcome. Of course, the market could consolidate sideways, it doesn't have to be a sharp correction.

The natural gas ETF UNG had a nice reversal today. It looks like it is going to follow oil up.

Just a note on 50dema crosses. I have found that although occasionally you might miss part of a trend move, it often pays to wait for a pullback after the first cross of the 50. After the pullback you can jump on if the move continues higher. This cuts out a lot of whipsaws. Normally, I look at the 12 and 26 demas ( in conjunction with the macd) to see if the 12 is crossing up the 26. If it is, then I look at the direction of the 50. Is it flat to up? If not, I pass on the trade and wait for the next opportunity. (The above is for longs, reverse for shorts.)

Hope it helps.

Will The SP500 Stall At Resistance?

The SP500 came right up to the previously cited resistance zone just shy of 804, so the question now is whether this is the extent of the rally. The McClellan Oscillator closed at 294.99, a level indicating a very overbought condition, but this can also signify the kickoff of a new uptrend. The 5 period RSI is not yet at an extreme for most indexes indicating the potential for upside and the Qs have now closed solidly above the 50dema. It is beginning to appear more and more that a substantial rally is now underway. Today's action gave a preliminary breadth momentum buy signal. However, more work is needed for confirmation.

I plan to continue to look for breakout opportunities in individual stocks while I wait for a pullback in the indexes to add index long positions. I remain long the UYG from 1.53 with the expectation that the XLF will run to its 200dema. I also remain long the DGP with a stop under today's low. Several of the stocks mentioned in yesterday's post were up nicely today and I will be looking for opportunities to add positions in those names after pulbacks.

Looking back at the March 12, 2003 low, the first rally lasted 7 days. We are currently at 8 days, so a sharp pullback would not be unexpected, though not required. I will wait for the market to come to me rather than chase it.

Turning Or Accelerating

This market seems to want to go up regardless of any other considerations and the Qs made a 3 week high today adding to the growing list of buy signals. While I have cautiously added a few swing long positions, and a couple of intermediate term long positions, I will wait for some sort of pullback to add new positions before becoming overly aggressive on the long side. The primary reason being that the put/call ratio is flashing warning signals, but with today's rally completing 5 waves up from the March 9 lows we should expect this rally could continue substantially higher after a brief pause or pullback.

I have mentioned several times that March 17 was a Gann turn date, so a pullback could begin tomorrow, but sometimes turndates become acceleration points. Any acceleration in the uptrend from this point would be a sign that an intermediate term rally is underway probably lasting for several weeks with the primary first target at the 200dema in the major indexes.

While traders might have hoped for the opportunity to buy a retest of the March 9 low, they should not sit on the sidelines as the market powers higher just because the desired outcome did not occur. When the markets explode off of a low, the best approach, I believe, is to enter gradually so as not to become overcommitted to the long side should a sharp correction appear. Any pullbacks can be used to add new positions. However, I rarely buy the pullback, but rather I buy the breakout after the pullback. The SP-500 is approaching significant resistance tomorrow, so a pullback or correction would not be unexpected.

If you have been building your watchlist over the past few weeks, you should have several candidates to choose from for intermediate term positions. I have found that using Marketclub's 3 month/3 week approach for individual stocks to be particularly easy and effective to implement. If a stock is alreay in a strong uptrend, just wait for a pullback to enter and trail a 3 week stop. If you have a nice gain of 30% to 50% exit half (or all of the position) and trail a stop on the second half. Be sure to look at significant fibonacci retracements for exit points.

Check out SOHU, BIDU, PNRA, CPSI, COGT, VOLC, HANS, CSKI, PETS for some possible entry points.

Good trading and remember that price trumps all other considerations. Do let my or anyone else's views about future market action determine your trading activity, but follow the price action and use probable outcomes to adjust your exposure. While many have commented on the potential for another low in the markets (including myself), few have commented on the fact that the Qs are only a couple of points away from a 3 month high, which would be very bullish.

Pullback In The Rally?

Today's decline is probably the beginning of a b wave pullback in the rally. There really is no way to know at this point, but the fact that the Nasdaq Composite pushed above the low of minor wave 1 from January 20 indicates that this rally has more work to do before the lows are retested, or that the bottom is already in place. We will know once the pullback is over and we see the subseqent market action. At this point I am holding short term swing long positions that have not met target objectives and will exit them if conditions warrant.

Resistance In The SP500

There may be debate as to whether this is the beginning of a significant bear market rally or just a minor wave 4 before another low in the indexes, but one thing is clear: the SP500 has major resistance to hurdle between 780 and 804. It is unlikely that it will do so on the first try, so some sort of correction, whether a pullback or retest of the lows is likely after that zone is reached next week. Only if it is penetrated forcefully on the first try with a solid close above the resistance zone on higher volume could such a correction be avoided. If that were to happen, the bears would be forced to cover and a dramatic and explosive rally should follow. A close below the low of the high bar of the rally below resistance would be a signal that the correction is underway, although it would not be, in my opinion, a signal to be short except for the most "nimble" traders.

XLF Buy Signal

As the above chart shows, the weekly macd has given a positive divergence buy signal. I won't quibble over the -.002. I have noticed that often after such a signal the initial response is for the market to sell off, so we shouldn't be surprised to see some pullback next week. However, I think the financials are in a position to lead the upcoming rally by failing to retest the March lows. The upside targets are 12.79 and 16.00 (around the 50wema).

We also got macd buy signals on the daily charts in several indexes this week, and in particular, the Qs. With the Qs at the 50dema, there is no need to rush in. Declines in almost every stock index, whether or not to new lows, will set up a very nice long pivot at the current rally highs. Traders could consider taking initial positions on a retest of the lows, and go fully long on a breakout above the March highs.

The market action on Monday and Tuesday should determine whether we have seen the low of primary wave 1 or not, but it appears that the upside in wave 4 for the Dow and other major indexes in limited while a close above 7449 in the Dow would put the bulls in the driver's seat.

IBD issued a Market In Confirmed Rally call today. However, as I pointed out in a prior post we need to see additional follow-through to confirm the call. While the macd has turned positive, today's meager rise on lighter volume does not qualify. Should markets move higher Monday morning by more than 1% on higher volume intermediate term traders could begin positioning on the long side with caution. Caution means smaller position sizes and fewer positions. Let the rally prove itself. There are few leading stocks breaking out at the moment so there is no rush. Most of the action has been in beaten down stocks such as STX and WYNN. I am looking to exit long positions in a few of those names on Monday or Tuesday.

I hope you have been building your watchlist of stocks to buy as the time is getting near for a sizeable rally. The first target for the rally once it is underway is the 200dema. For the Qs, it is about 34, and for the Dow about 9000. The first touch of the 200dema should be sold as a correction will most likely follow.

As always, price rules. Good trading next week.

Dow Approaching Resistance

Markets followed through today including the Dow which is now approaching channel line resistance and resistance at the November 2008 low. Any significant movement through this resistance without a retest of the March lows will signify primary wave 1 is complete. For the Qs, primary wave 1 is most likely complete at the March 9 low. Any pullback here in the Qs is probably a second wave.

The one thing which could hold the bulls back is the rapid swing in sentiment signified by the low put/call ratio. However, this one fact alone cannot negate an intermediate term rally. Only price can do that.

I was surprised at the extent of today's rally, but the % gain on the Dow was lower than Tuesday's and the volume was lower, which fits with a small degree 5th wave. Thus, we have wave a of 4. The action over the next three days will probably tell us where we are. I would not be adding any short positions at this time given the market behavior.

Initial Thrust Probably Complete

The initial upmove off of Monday's low likely ended today and a wave b pullback probably commenced this afternoon. This could last 1 to 3 days before wave c up to complete the rally around next Tuesday. If long, you may have to ride out a sharp pullback. So far, this does appear to be an upward correction in most indexes except the Qs. The Qs have broken the downtrend line from the February high and may have bottomed on Monday before the rest of the market. Even so, a sharp second wave correction should ensue as the rest of the indexes complete wave 5 down.

Short Term Rally Underway

The 3/7/09 and 3/9/09 Gann turn dates worked perfectly. The next turn date is 3/17/09. We should expect this rally to continue into early next week. Current targets on the Dow are 7200+-, 7450+- and the 50dema currently around 7730 with 7450 the most probable target. As sharp as today's rally was, we may get there sooner than later, but a sharp pullback during this rally should also be expected.

The number one thing that traders should be watching out for here is a 5 wave impulse move into next week which could signify that March 9 was THE bottom of primary wave 1. At the moment it appears that we are in minor wave 4 of intermediate wave (5), but we should be cognizant of the fact that oftentimes fifth waves end abruptly and without warning.

Currently I have just a few short positions that I am trailing stops lower on using the 3 week highs. If I give back the profits on those I won't complain. I am holding them for wave 5 of (5) down.

I have been adding a few long positions over the last two weeks in case this does turn out to be the real deal. In particular, I went long the UYG at 1.53 last Thursday and JPM at 16.50 as well. I also took small long positions in some beaten down Nasdaq 100 stocks yesterday and today, which are short term trades for this rally only, such as WYNN, LOGI, JOYG. I have a couple of more orders still open. I will exit these at the 25 or 50 dema or by next Tuesday whichever comes first. WYNN was up nicely today.

Don't feel like you need to chase this rally. Even if it explodes upward there should be plenty of good names to buy. Check out QSII and EBS.

The SKF did it again. Yes, it is down 32% from its high on Friday in just two days once again pointing out the dangers of trading this ETF.

Good trading this week.

Fear Is Rising To Extreme Levels

The most important evidence that the level of fear is rising to levels not seen since perhaps the 1970s is that calls for significantly lower lows in the Dow are making headlines in mainstream media. Peter Eliades was featured on CBS Marketwatch calling for Dow 4000. Of course, if you listened carefully to the interview, he qualified that statement by saying that the 4000 level was not likely near term, but Marketwatch only headlined the 4000 number. On CNBC Fast Money last week ( I rarely watch this show, but sometimes it is entertaining.) none of the panel was willing to suggest taking a long position. I don't recall hearing such a uniform bearish stance out of this group. Of particular interest is that even leading politicians are willing to go on TV now and state emphatically that the economy is going off a cliff. Lastly, today I saw another elliott wave forecaster with the current count as intermediate wave (3) of primary 1 instead of intermediate wave (5). I am not saying that primary wave 1 is finished, but now that everyone seems to be lining up with the bears it seems like the room is a bit crowded.

As far as the economy going off a cliff, I think it went off a cliff last fall. Now it's trying to get some legs and stand up. I know that seems contrary to popular opinion, but I am seeing evidence in some areas that business is picking up. My business colleagues are getting work, although not as easily as in the past. I just got news today from my realtor that she has two very interested clients in the four townhomes that I have been sitting on since last summer. I got one under contract last week with a closing date of April 30. She is expecting another offer by the end of the week. From July 08 to January 09, we literally had zero prospects. So it's not all bad.

Conclusion: there are a few short opportunities, but extreme caution is advised. Regardless of whether or not the coming rally is intermediate wave (4) or primary wave 2, a rally is coming sooner than later.

What I Said

It is important for all of us to understand that the human brain is a marvelous creation that operates in ways that are not very well understood. When we make statements to ourselves and others that are intentional, our brains store this information within the matrix of our already existing knowledge and beliefs about the world. If we do not consciously make a effort to change that stored knowledge, we will act on it subconsciously, ie without thinking. This can be a good thing if our beliefs and knowledge are consistent with reality. This can be a bad thing when it is not. Therefore, the greatest challenge is to always operate in the now, which means to be ever aware of the current reality that is unfolding without the filter of our knowledge and beliefs. My study of successful traders shows that all of them do this whether by natural instinct or by intention. It is so important to realize that it is not the indicators and analysis that ultimately determines our success, but rather our ability to act in response to what is actually happening.

I am bringing this up now, because I did in fact feel strongly that I needed to be exiting short positions this week, and looking back to my post on February 10, it is clear that my actions were at least partially the result of my stated intent to exit positions if the Dow did not break 6400 by March 10. This has probably worked out well, and I have acted in accordance with the plan that I set out one month ago. The point here is that a well thought out trading plan will prepare you to act appropriately as the market action unfolds. If you do not have a plan, you will probably act in a manner consistent with subconscious beliefs that have no relation to the reality of the market, e.g. subconscious fears and beliefs about money, ideas and beliefs of others that you have seen in the media, or unintentional statements that you have made in the past. Afterward, you will wonder what in the world you were doing.

A trading plan is not just a static statement made at the beginning of the year stating what method you are trading, your position sizing, etc. It should also include strategic planning that reflects the current market reality. My strategic planning for the current period was based on years of studying elliott waves and cycles, and having traded through (and badly at that) the prior bear market of 2000 to 2002. Your ability to develop a strategic plan will depend on the depth and breadth of your experience, and it should be crafted carefully as it will probably determine how you act in difficult situations.

One thing that I don't like about my actions this week, is that I had forgotten how intentional my statements were on February 10, and therefore, my actions were not totally conscious. Just because it may work out well, doesn't mean it is always a good thing. It may not work out so well next time. We must work to remain intentionally conscious in life and trading.

The following is commentary from my February 10 blog post, which I believe is pertinent to this week's action.

Looking at the Dow, I see the two primary targets at 6400 and 5000, based on fibonacci extensions and long term moving averages. I really don't think 5000 is likely, so 6400 is the most probable bottoming area. 6400 is at the confluence of the 400 month ema, a long term trend line beginning at the 1987 low and is a fibonacci extension of the recent decline from the January high. If we happen to hit that area around March 10+-, then I will be exiting all short positions at that time regardless of whether or not other targets have been hit as the upside risk will be tremendous. The rally off of the upcoming low will most likely be similar to the rally after the 9/21/01 low and the 3/12/03 low, the kind of rallies that can wipe out a month's worth of gains on short positions in a couple of days. The point is: don't be greedy.The most likely bottoming time frame should be March 10 to March 21 based on the 10 month cycle and Gann turn dates. Due to the large number of turn dates in March, it could be a violent bottoming process with several big swings before it gets off the ground. Either way, again it is best to be out of shorts during that time frame.The only thing that would alter this outlook would be a collapse below 6400 well before March 10. If that were to occur, then the 5000 target would be the next most likely outcome.

Expecting A Rally Next Week

Today's action certainly didn't feel like capitulation, but the Dow and the SP500 did come down very near the cited targets. The low in the Dow today of 6469.95 was only 17.95 points above the target of 6452, and the low in the SP500 today of 666.79 was only 1.79 points above the target of 665. (1.79x10=17.90~17.95). The confluence of the two indexes coming so close to the targets, but not having the energy to press through with the QQQQs coming close to the November closing low is strong evidence that minor wave 3 of intermediate wave (5) ended this afternoon or is nearly complete. We should see a sharp wave 4 rally followed by wave 5 down to complete the decline.

I have calculated Gann turn dates for 3/7/09 and 3/9/09 which should coincide with today's low. The next turn dates are 3/17/09, which may be a high, and 3/28/09, which should be the end of wave 5 of (5). It is interesting to note that the 3/28/09 date corresponds almost exactly to the post-election year cycle, which shows a low at the end of March.

How much further down the markets go into the end of March is an open question, but I suspect it will not be as much as many think. The pattern in the XLF could very well be complete, which could lead to a positive divergence at month's end. Strong action in the financials next week would support the view that we are near the end of primary wave 1.

Regardless of potential outcomes, taking on new short positions is risky at the current juncture. Today I exited positions in MCO (+58%), QID (+17%), TWM (+50%). Yesterday near the close I entered a 1/2 position in UYG. Should the XLF move strongly above 7.44, this week's high, by 3/17, I will hold this position through the following correction. The upside target for UYG is the January high of 6.23.

The degree of pessimism has risen significantly in the past week as some sentiment indicators such as AAII sentiment are now at all-time bearish extremes. The current period is reminiscent of March 2003. At that time, there were few who were calling for a rally, but many who were calling for dramatic declines. I don't know why some of the traditional measures of sentiment such as the put/call ratio and the VIX are not showing bearish extremes, but we should not rely entirely on a couple of out of sync indicators to take a stance. At the moment I do not remember which ones, but there were some sentiment indicators in March 2003 that did not give signals either. I think the evidence is building that sentiment has reached an extreme level. The most likely scenario at this point is a sharp rally and a retest of this week's low followed by a rocket launch.

With regard to the SKF and other short ETFs, we should expect that before it is over short sales and leveraged short ETFs could be illegal. To the extent possible, my plan is to convert to buying puts during the next wave down and minimize exposure to straight short sales which might lead to unexpected losses due to government intervention. It is not likely that options or futures will be outlawed as too many big money traders require them. So of course, the government's actions will most likely harm the small retail trader, while big money has other "options".

For Your Consideration

I just wanted to add one more comment to today's posts. While there hasn't been a great deal of volume in this week's selloff to indicate capitulation, and a few measures of sentiment are still neutral, there are other factors to consider.

The decline from 12/26/07 to the 1/23/08 low in the SP500 took 18 days counting the reversal day. The decline from 9/19/08 t0 10/10/08 took 15 days and the current decline from 2/9/09 to today has been 17 days.

The decline from 5/19/08 to 7/15/08 took 40 days. The decline from 8/11/09 to 10/10/08 took 43 days. The current decline from the 1/6/09 high to today has been 40 days.

Sometimes we get so caught up in looking at indicators and waves, we forget to look at other facts staring us in the face. I do believe this market will fall further to complete primary wave 1 and intermediate wave 5, but as for the moment, is it realistic to expect the markets to continue to fall for many more days beyond the times required for the extreme declines of last year? I doubt it. It may be a 4th wave rally that only lasts a week or so, but we are surely near a reversal of some degree.

Caution.

Dow Closing In On Next Target

The Dow came within 90 points of the 6452 target this afternoon, while the SKF moved above the low of its high day, which was my target zone. With the near miss of projected targets and the possibility of a positive surprise on the employment report, I exited 4 short positions near the close.

Closed positions: short JOYG (+20.4%), short EXPD (+15.5%), long 1/2 TWM (+38.1%),
long SKF (+51.1%).

We may be in for a bumpy ride over the next few days, so as I have been repeating, be prudent in taking profits before they evaporate.

Dow Heading To Next Target

The break of Tuesday's low greatly increases the likelihood that the Dow will hit the next projected target of 6452. A poor close today would also increase the odds of a poor close tomorrow. If 6452 is seen around the close on Friday, it may be a good time to consider taking more short profits off the table as a strong relief rally would be likely. However, if the Dow closes more than 2% below 6452 on Friday, then the next target of 6000 would be expected before another relief rally.

The Qs are easily only one day away from testing the November low, which could also spark a rally.

The main point is that the risk to being short is increasing rapidly. I will be looking to exit some short positions tomorrow. Of course, a positive reaction to tomorrow's employment report would be cause to take some profits as well.

Rally Underway?

In the broader markets, it is possible that wave 4 of (5) started from yesterday's low. If so, it should last a few days. However, I was not terribly convinced. GOOG and AAPL look ready to fall rather than rise, and it is hard to believe that much of a rally will get going if the tech leaders are not in the game. For the Qs it would take a move above 31.68 to reverse the trend, and above last week's high of 29.17 to stop out the current short position using the Monthly-Weekly-Daily method. Most of my remaining short positions are shy of the expected targets, so I will continue to trail stops lower as conditions warrant.

The above chart of TM shows a potential 4th wave triangle near completion, which has a downside target of around 40. Entry would be below the wave D low around 59.80 after wave E is complete with a stop loss above the wave E high.

One reason I believe that there is more downside to come is that I am still seeing a lot of bearish charts like the above. There is also strong overhead resistance at the recently broken November lows that is not likely to be taken out on the first try.

A Pause Day?

Was today a pause day or a setup for a short term rally? It is hard to say, however, the decline in the futures after the close would seem to point to the former. Market action still seems to be pointing toward a low later this week, or early next week, but it is looking more and more like this will be an interim low, which will be tested and exceeded before an intermediate term bottom of importance is seen.

The Dow closed just 4 points below the 7930 target I posted yesterday, while the SP-500 is well above the next expected target. Therefore, we should expect to see the Dow at the next target of 6452 before any significant countertrend movement.

Traders should definitely be on guard here for a mini-crash into lower level targets as the public is beginning to throw in the towel. Today I was speaking with a sales representative of a building supply company that I have known for many years, and he was telling me that he was ready to sell all of this stock holdings and move it into a money market account. I warned him two years ago of the impending danger in the stock market. I am sure he consulted with his financial advisor who did not concur with my views. This is one of the first people that I know personally that is not a trader who is ready to give up entirely on this market. One person does not reflect everyone, but I suspect that the lack of any positive response from the government's efforts will lead to a climax of selling by the public this month.

Today was a narrow range in the Dow which should lead to an explosive move near term. Most likely, it will be in the direction of the trend.

We also have a weekly squeeze setting up in the Dow. I have commented on the development of the 2 day and daily squeezes that were developing in the past few weeks. Now we have this weekly squeeze. A review of past instances where a weekly squeeze was followed by another in the same direction in the stock indexes shows that oftentimes the second one will be of short duration. Here again, we see the beginnings of the end of primary wave 1 down, probably sometime this month.

I will continue to trail stops lower and take profits at targets over the rest of this month. I do see one tempting short developing in TM (Toyota). I will show the chart tomorrow, but caution is advised for new shorts.

Update On Targets

After listening to Terry Laundry's update today, I pretty much agree with his assessment of the near term. I don't agree necessarily with the intermediate term outlook, but one step at a time.
I wanted to take a minute and provide a list of downside targets that I have for the Dow and SP500.

These targets are based on a methodology developed by Jeffrey Kennedy of Elliott Wave International. He found that markets tend to turn at fib projections of the January range. Specifically, he uses the following projections above and below the January range: 0.618, 1.000, 1.236, 1.618, 2.618 and 4.236. I have found that these do work quite often and particularly when there are confluences with other fib levels.

For the Dow, we have the following levels:

7180, 6730, 6452, 6001, 4822, 2915.

We blew right through 7180, but we may see a bounce from 6730 or 6452. So the question is do we double bottom at 6452 do we go to 6001 or 4822. Interestingly, the 0.618RT of the 1974 low to the 2000 (orthodox high) in the Dow is 4841. If we do not find support at 6001, then the 4822 to 4841 is the next most likely support using this approach.

For the SP-500, we have the following levels:

718, 665, 579, 439, 213.

We are now on our way to 665. However, the 0.618RT of the 1974 low to the 2000 high is 631. So, with support there for the SP500, there may also support the Dow. It is looking like the most likely area for a bottom in the SP500 is 579 to 665, which also supports the 6001 to 6452 levels in the Dow.

Let's hope so. Even though shorts are making money right now. The devastation to the economy with a collapse to the lower levels is hard to imagine. Although I do believe the lower levels will be seen before it is all over.

Patience and Discipline!!

Approaching Targets In Price And Time

Today's breakdown from the open puts the markets squarely on course toward the previous downside targets and target dates. Volume so far today has been below average, which points toward a bottom.

The current targets on the Dow are 6451 and 6000 and for the Qs are 25.69 and 24.29. These should be reached by this Friday March 6 to Tuesday March 10. The most likely scenario is for a low followed by a retest around March 17 to 21. I don't plan to hang around short for the retest. Only a move on volume on the Dow below 6000 before March 10 would alter my outlook.

The risk for shorts is an explosive rally coming out of nowhere that wipes out profits in a few hours. The risk for longs is a crash to Dow 5000 and QQQQ 19.72. The latter seems less likely at this point, but not beyond possibility. Nevertheless, prudence would dictate profit taking for shorts in the near term, in my opinion.

Gold looks ready to retest, if not exceed, its recent high. However, it too should turn with a bottom in the stock market so longs should not be too greedy here.