Market Thoughts and Analysis: Potential Turning Point This Week and Some Important EWT Observations
May 25, 2009
– Comments (60)
"The time has come," the Walrus said, "To talk of many things: Of shoes--and ships--and sealing-wax--Of cabbages--and kings--And why the sea is boiling hot--And whether pigs have wings." (from The Walrus and The Carpenter, in Through the Looking Glass, by Lewis Carroll). And we do have a lot to talk about in this post. But I think if I can take a bit literary liberty, I have as small rewrite for the current market:
“The time has come,” the Grizzly said, “To talk of many things: Of debt--and mortgages--and Option ARMS--Of consumers--and spending--And why the fundamentals are so bad--And whether pigs have wings.” (I left the last part the same because the size of the Financial rally proves that pigs have wings) … :). Okay, okay, enough hamming it up. Down to business.
But First a Serious Note: Thank You to Veterans on Memorial Day
We celebrate this day to honor all of the Veterans who have served our country in uniform. They are in the military to protect America. They have fought and died to protect our ideals and freedom. I honor and respect them for believing in something bigger. America is a beautiful country and I love it. And I am very grateful to the men and women who defend it.
Intro / Reason for this Post
First this post is a continuation of the thoughts and analysis in: Still Bearish: FA and TA on S&P 500, Observations on the Economy and More Thoughts and Analysis: Timeframes – Bearish, to Bullish, ...to Bearish. Please read these first to provide the context for this post.
I would like to talk about a few things in this post. First is the large count for a number of indices. Because there is some discrepancy between the EWT chartists about what the large count is since the bear market move from the 2007 top (for most indices anyways). This will lead to some very important observations that can lead to some serious implications.
Next is the count from the bottom (early March for most indices) which will take us to where we are now.
And where we are now suggests a turning point for the market. As always I will refrain from making definite predictions (as per the rant in my last post, NOBODY has a crystal ball). However there is evidence based on the price movement in a lot of the indices last week that we could see some serious, potentially violent weakness this week.
Preferred Counts and Opinions (a mini Rant).
It’s not even really a rant. Only just a smidge, barely :). As I said in the rant in my last post, Nobody has a crystal ball. Nobody knows the future. The best anybody has is a guess. I also belabored the point in the last post that because nobody knows the future, you should never put all your eggs in one basket. This applies to investing. It also applies to Technical Analysis.
Many of us EW Technicians have what we call a “preferred count”. This means the count and analysis that is the most likely to happen, in our opinion. We may have several different counts that are viable based on the unfolding price action (because ultimately any pattern is incomplete until it is in the past). But we select one that is most likely, the “preferred” one. And per the observation made above, any good analyst knows that even the best guess is still a guess. So even the analyst who makes the count does not put an absolute 100% likelihood of occurrence on it.
What this means for the reader is not to get married to yours or anybody else’s count. In fact looking at a variety of counts is often very useful. Because as the price action unfolds, assumptions made in one count may prove to be more or less accurate than others.
EWT Observations and the Large Count
In order to understand where we are and where we are going, we have to understand where we were. I talked about this in the last two posts, but this really bears more discussion because the large count has very serious implications for what can be expected in the next few weeks to the next few months (and the next few years).
Another analyst who is not on Caps has a distinctly different large count than many of us do here on Caps. You may know who I am talking about or you may not. That is irrelevant at this time. I will present the overall count, why I think that count was arrived at, and why I have a different opinion. In the spirit of the section above, there is no “right or wrong” assumption. There is only a guess. But I will lay out my assumptions and opinions, and explain why I arrived at them, so that they can be compared and contrasted against other assumptions.
When looking at the EWT analysis from this other technician, I become perplexed. I mean this analyst is top-notch, extremely generous, runs though alternate scenarios, is exceptionally thorough, has made brilliant and deadly accurate calls. So why am I seeing the big count differently than him? (Incidentally, my large count is the same as GoodVibe’s from 2007 to March 2009. His was the original and we all have adopted his because I am convinced it is correct.). I actually was carrying both variations on my charts, trying to make one work over the other. But I have studied it for a VERY long time, and (IMO) the Wave {3} termination at 666 doesn’t not work. I agree with GV, it is a clear 5 wave impulse at the large scale, not 3 of 5. So why is it being called differently?
When you look at the charts and the videos, the analysis seems clean and compelling, and when you watch them, you can almost convince yourself that it is a Wave 3 at 666 and not a Wave 5.
And then it dawned on me why.
Take a look at the chart below (the S&P 500 since 2007), it is basically a recreation of the Large Wave 3 at 666 count. And on its face it seems compelling. The waves are in proper proportion. It actually looks like a big 3 move and not a 5. But look closer.
Enlarge
So what’s the problem? ….
… It is a linear scale. That’s the problem. All the analysis (it seems) is done on a linear scale. And this is (again, IMO) not correct. Why?
Because all gains and losses in the stock market are EXPONENTIAL! NOT ARITHMETIC!
Here is an example: Is a 200 point move a 200 point move? NO. If 200 point move A occurs when an index is at 4000 (5%), it is much less meaningful than if a 200 point move B occurs when an index is at 500 (40%).
This is why linear scale stock charts are almost meaningless.
Because we don’t measure stock performance on an absolute basis, we measure it on a RELATIVE basis. A 50% gain is a 50% gain. Whether you bought a stock at 10 and it moved to 15 or you bought the stock at 1000 and it moved to 1500. This makes all gains and all moves in the stock market exponential / logarithmic.
Now take a look at the S&P 500 on a log scale
Enlarge
There is a clear, well defined 5 wave moved when looked at on the proper scale. The 5th Wave down was very dramatic because while the move from 950 to 666 was only 284 points, it represented at 30% drop!!
Now on small scales (relatively little difference in the max and min values on the y-axis), maybe less than a 10% difference between min and max, it is little matter if you use linear or log.
But the S&P moved from 1550 to 666, which is a 56% change. This improperly exaggerates the importance of moves at the top of the chart and improperly diminishes moves at the bottom of the chart when viewed on a linear scale.
Not convinced? Lets look at a more extreme example.
XHB is a Home Builders Index. And as we all know, Home Builders have taken a thrashing the last few years. In fact XHB went from 45 at its peak down to 8, that is a drop of 82%. So, a move of 4 points when XHB was at 8 is a 50% move, whereas a move of 4 points when XHB was at 45 is a 9% move. That is a big difference!!. So how different does XHB look on a linear scale vs. a log scale? You bet, very different!
Given this linear scale chart, I might count it like this:
Enlarge
But if I were give the log scale chart, I would count it very differently.
Enlarge
And in my opinion, the log scale gives the more believable count. Because it shows the relative importance of the impulses and corrections relative to the price action around it for all prices and times. The linear scale chart does not.
As always, this is just my take. There is no commandment handed down from on high stating “Thou shalt use log scale stock charts”. But just an exercise in logic, as I went through above, shows that this is a pretty obvious conclusion. But as an analyst and reader, you need to make up your own mind about this.
Okay, so with that out of the way, I would like to show the large count on another important index: Financials.
Enlarge
Again, I see another clear 5 Wave impulsive. I could throw up a bunch more charts that all tell the same story. But I am not going to. I am going to list some indexes and invite you to do it yourself. BKX (Banking Index) from mid-2007, IYR from beginning of 2007, XRT from mid 2007, IYK from late 2007, etc. There are many more that cut across the economy that show the same pattern. In some of these charts the impulse structure is very clearly defined, and in others it tends to plateau for longer periods. But the telling feature is that the action is NOT corrective, it is clearly impulsive, with a largely overall 5 count (make sure the internals subdivisions work, there is a lot of 1-2, 1-2 action in these indices).
.... continued in the Comments section ....
RSS Headlines
Fool UK