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A Further Step Back



December 31, 2009 – Comments (11)

I was taking a look at the Intermediate and Primary Degree Waves a few days ago (Just a Step Back) as a yearly wrap up. I want to take a moment and look the the Primary and Cycle Degree Waves in this post.

I performed detailed FA and TA of the macro picture and drivers for US equities in this recent post: The Long View. And like I said in it, it is only one possibility. From that post:

Even I don't put a 100% chance on the scenario I describe in this post. I am an engineer. I deal with probabilities, and conservative analysis. From a structural standpoint, you have to design for load cases. Load cases are determined from the design environment, but are also determined probabilistically based on past data. You might have an extremely high transient load case, but its chance of occurrence is 1 in 1000000000. But its impact if it does occur: catastrophic. So you must design for these cases. Then there are other load cases where the damage might be high but not catastrophic. You might used a 3-sigma environment for these.

My point is, as thermal analyst and structural analyst, I must be a good engineering risk manager. As a stock market analyst and investor, I view my role in *exactly* the same way. What are the possible outcomes? What are their likelihood and impacts? What are their overall risk profiles?

This is why I go to the trouble of all of this fundamental analysis from the macroeconomic perspective. I am trying to assess the likelihood for economic recovery vs. economic catastrophe. This is why determining what is real GDP growth vs. what is due to government intervention is critical. This is why money supply policy and growth is critical. This is why understanding sentiment and social mood is critical. etc.

My assessment would go something like this (keep in mind, this is just one analysts take):

1) The bottom was in on March 9, 2009 and this is the start of a multi-year bull market.
Odds of occurrence: very low.
Impact: high (being severely short a strong bull market would be detrimental to your portfolio)
Overall Risk Assessment: medium-low

2) Drift higher into the middle of next year and then start heading down
Odds of occurrence: medium-low
Impact: medium-low (I build enough cushion into my positions that I can afford to have them go against me up to a point)
Overall Risk Assessment: medium-low

3) Trade sideways / rangebound for the next several years into what amounts to be a Cycle-Degree X-Wave
Odds of occurrence: medium
Impact: low (If we are range bound for years, there will be opportunities to exit shorts and to go long to play the range)
Overall Risk Assessment: medium-low

4) The count I show in this post plays out (Primary 3-4-5 down)
Odds of occurrence: medium-high
Impact: very high
Overall Risk Assessment: high

So, for myself, when I look at all of the scenarios, it is clear to me that scenario 4 is the clear one to hedge against.

So I wanted to explore scenario 4 just a little bit more, since if it does come to pass will be a serious event.

11 Comments – Post Your Own

#1) On December 31, 2009 at 3:07 AM, binve (< 20) wrote:

I have shown this chart of the long term Dow in a few different posts:

But let me take a moment and show the three major US indices side by side, so we can examine the overall behavior the last 30 years in context.

First I have said that the end of the 67-year bull market / start of the secular bear was in 2000, not 2007. I say this for a few reasons:

1) When adjusted for inflation, the 2007 peak on the Dow is lower than the 2000 peak
2) When looked at in terms of Gold, the Dow / Gold ratio has a higher peak in 2000 vs. 2007
3) The kickoff of the "Bubble Era" originated by the Tech Bubble bursting gives the Nasdaq a huge blow-off peak.

The NIKKEI in 1990 shows similar behavior to the Nasdaq in 2000 (from If I had a NIKKel for ....)

The SPX had a deeper pullback in 2008-2009, but the 666 bottom is nowhere near any meaningful long term support.

The Dow has been holding out, it has been showing the strongest long term technicals. How long does it hold out?

So, what is the ultimate message of this post?

The point of this post is NOT to say the crash is happening tomorrow. These are very long term charts and long term trends take a ... well, long time .... to develop.

The point is to show the size of correction so far with respect to the previous large bull move and how these stack up against each other on the three main US equity indices.

You should ask yourself: Does the behavior look strong or weak among the 3? Does this look like topping action with respect to the long term Moving Averages or does it look like the start of a new bull market?

I am not trying to convince you of anything. I am just showing a not-often-looked-at view of long term equity movement. I am asking you, "What do you personally make out of this?". You might look at these charts and say "that's bullish!". Or you may look at them and say "that's bearish". Or you may say "This? Why, I can make a hat or a brooch or a pterodactyl". And in keeping with the risk assessment above, scenario 4 is the one that I choose to hedge against, so I am highlighting the bearish possible outcome. But really I am just offering these up for your consideration.

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#2) On December 31, 2009 at 8:12 AM, hhasia (65.25) wrote:

Hi Binve:

I have a favor: I would like an overlay of NIKK and US Dollar.  I believe the relationship of the yen/usd and Market indexes give a clue as to the weight of the yen carry trade. The derivatives market.

Those idiotic vehicles of global financial distruction.



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#3) On December 31, 2009 at 9:51 AM, binve (< 20) wrote:


I put together a chart for you of the USD/JPY (It is a comparsion of the 2 indexes and not the actual currency pair, which stockcharts does not carry) and the SPX and Nikkei.

Happy New Year!

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#4) On December 31, 2009 at 10:36 AM, hrc777 (< 20) wrote:

Binve- thanks for the L T charts.  Got a question on EW in general.  Never really looked into it but I can relate to the fib patterns.  The knock I've always heard is that everyone has a different view of the waves.  Any comments on that?  hrc

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#5) On December 31, 2009 at 11:18 AM, hhasia (65.25) wrote:

Thanks Binve:

It is interesting the Nikk and yen relationship. 2005 to now is inverse. I guess like the spy/ USD it has times of inverse and parallel movements. The only thing missing is the Fed borrowing rates and the introduction of hedge funds to the equation. Still working this out. But one thing is clear, the introduction of govt intervention in the market makes "old school" analysis obsolete.

The policy of heavy govt play in the market is alot like China. But the US does not have the experience with running that type of economy or public exchange.


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#6) On December 31, 2009 at 11:23 AM, binve (< 20) wrote:

Hey hrc, thanks!

That is very true, waves can be interpreted in multiple ways since the patterns are always developing simultaneously at all degrees of trend.

Here is a good example: The current rally since March 9 has been a bull market. The waves are all upward and we have a huge gain. But is it the start of a new true bull market (say a wave 1 in a 5 wave move up) or is it just a correction in a larger bear market (a Wave 2 or 4 which by EW definition are just countertrend corrections against the main trend).

But like I said, there are all degrees happening all the time. So a bullish move might be a "correction" in the larger EW structure, even though it makes huge gains and lasts for a year.

This is why I like to occasionally step back and look at the big picture in "secular" terms. We have bullish waves at the Minor, Intermediate, and even Primary degrees, but what is happening at the Cycle Degree? These are waves that last several years typically. And so as someone who is interested in the long term trends of the equity market, I want to focus on these.

That is the reason for this post and my post: The Long View.

From an investor standpoint (and I do trading and investing on multiple timeframes in multiple accounts, each with different goals) I don't want to get caught up in the noise of short term waves.

So this can be a source of difference between EW counters. In order to get the proper trends down, you need to be aware of the larger degree wave you are operating in. And in my opinion, the larger wave we are in is a Cycle C down that started in 2007. We could be in an X wave currently (scenario 3 above). But I think the odds do not favor a long term count where the corrective move (the one to correct the previous 67-year bull market) is done and we are in a new secular bull market.

Other counters may disagree, because they might interpret the Cycle waves differently that I do. But I am just offering my opinion and the reasons why I arrived at that opinion.

Hope that was useful! Thanks and Happy New Year!!.

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#7) On December 31, 2009 at 11:26 AM, binve (< 20) wrote:

hhasia, I hear you. Yeah, there are too many signals that are distorted (such as from the bond market) because of heavily maniupulated monetary policy.

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#8) On December 31, 2009 at 8:54 PM, Tastylunch (28.52) wrote:

Reminds me of a photographer at the Grand canyon

"just let me take one more step back...."

 I think you may be underestimating the possibility of number 2, Binve

now that Phoney and Fraudie have had their caps removed, the FED can "end" QE and the UST can bail out the big 4 in secret as much as they want to...

and we'd never know till much much later.

If this rally really is driven primarily by money creation, than that is a real threat to your/our thesis.

anyway happy new year! I'm outta her. :)

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#9) On January 01, 2010 at 1:25 AM, nuf2bdangrus (< 20) wrote:

Watch the holds the key to both gold and stocks to a good degree.  Trouble in Euro currency means people have to convert back to dollars.

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#10) On January 01, 2010 at 11:10 AM, binve (< 20) wrote:

Tastylunch, Hey man, Happy New Years!

I think you may be underestimating the possibility of number 2, Binvenow that Phoney and Fraudie have had their caps removed, the FED can "end" QE and the UST can bail out the big 4 in secret as much as they want to.

That is possible man. But like I was discussing above, as a risk assessment, even if #2 comes to pass (and we drift up to 1200 over the next few months, I think the upside is very limited. And each time it drifts up the risk/reward gets more favorable for being short.

I definitely do not think monetary policy changes, even the stealth bailout of FNM and FRE, will not start a new secular bull. So I have yet to see a compelling argument for scenario number 1. Not impossible of course, but I think the likelihood is too remote for me to hedge against it. Scenarios 2,3,4 are the ones that make the most sense to me and 4 is the one that makes sense to plan for from a risk management prespective.

Thanks man!!

nuf2bdangrus, Thanks for the comment!

I agree, the Euro and the market rally has been in positive correlation and the market and USD have been in negative correlation. But I think that breaks eventually.

First, I think we are going to have a Dollar rally. And I think it is going to last longer than the inflationists think, and last shorter than the deflationists think. Most inflationists say this dollar rally is a blip. It will go to 80 on the DX and turn down. Most deflationists say the DX will go much higher. Triple digits at least.

My own view is that we will get a Dollar rally that we take the DX up to 85-90 (my personal target is 86) in the next 3-6 months. There will be deflationary impulses to be sure. But the Fed needs a genunine deflation scare, to force everybody back into Treasuries so that it can implement the next round of QE.

Only the next round of QE will be to keep the US Goverment solvent as it is growing by leaps and bounds (the debt ceiling was just raised another few trillion) in the face of massively declining tax revenue. So this next round of QE will have nothing to do with propping up asset prices in the stock market.

Here is my long term view on the Dollar and long term view on the Dollar Equity correlation. After the curruent dollar rally is over in the middle of 2010, both equites and the dollar will start to take a nose dive.

30 year Treasury Bond and 10 year Treasury Note

Equity Dollar Correlation Long Term

Gold will do well in this environment. Gold is not simply an inflation hedge (actually just saying that without any further qualification is very incorrect), it is a hedge against economic instability and financial shennanigans: ( ..

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#11) On January 01, 2010 at 11:16 AM, binve (< 20) wrote:

nuf: Crap, broken link, try this:

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