Trapped

The Qs have come up to strong resistance at the underside of the broken trendline connecting the June and November lows. Just ahead is weak resistance at the August 2008 high of 48.57. The trendline connecting the March 2009 and February 2010 lows will provide strong support. However, my suspicion is that this trendline will be broken at least a little to trap the bears. If we don't see significant selling early next week, then a 4th wave from the February low may be in progress with a 5th to follow. Afterward, we would expect a pullback to the lower trendline in a larger degree 2nd wave.

The primary argument against the latter view is the volume is not consistent with a 3rd since the 2/25 low. Thus, we are left with an expanded flat or triangle. The overall strength in breadth is pushing us toward the triangle outcome at the moment. Another reason to expect that we are in a triangle is that a number of sectors and stocks are forming triangles, some of which are already complete. Examples are XHB, WYNN and GE. GE may have broken out of its triangle on Friday, or it may have just completed wave B of its triangle. In any case, the bearish view is becoming dimmer by the day.

The general elliott wave approach to trading triangles is to wait for waves D and E to complete and then either buy at the low of wave E with a stop under D, or buy on a breakout above D with a stop under E. This will work. However, I have found that oftentimes in strong markets, waves D and E fail to form or wave E is very shallow and the market breaks out unexpectedly. I call this an impulsive triangle because it is really a false triangle that is actually a 1,2, i, ii setup.

It is very frustrating when this happens because you realize that you just missed a powerful 3rd wave move that was actually more profitable than the triangle breakout would have been. The solution to this dilemna is not to wait for waves D and E to form, but rather to buy a reversal off of the wave C low with a stop somewhere below wave A. The risk is only marginally higher, but now you have the best of both worlds. If it breaks out early, you haven't missed the move. If you get stopped out, your risk was not much greater than if you had waited.

That said, I will be waiting for wave (C) to develop over the next week (if it actually does). If the form is 3 waves down, then I will be looking to buy the turn. If the form is impulsive, then I will simply be looking to buy at support at the February low. Either way, I will not be waiting for waves D and E to develop. If the February low does not hold, then we will have to re-evaluate.