SPX Update: Finally the Breakdown -- What Next?

For a little more than a week, I've been calling a top, and talking about the roughly dozen different indicators which were screaming for this top in the 1250-1270 zone.  On Thursday, the market finally honored my incessant blabbering and broke down.  It was probably just trying to get me to shut up...  well, it won't work, Market, it won't work.  Viva la resistance!

The question now becomes: which of the two counts (which both favored a top forming in that area) is actually unfolding?  In other words: is this a short term top, or something more ominous?  To answer that question this early, I would need a new, functional crystal ball (the kids broke my last one).  So, as is par for this course, all we have to work with are general probabilities.

One thing that bothers me about the decline fitting into the immediately bearish count is that, so far, it reminds me an awful lot of the final decline leading into the October bottom.  That decline was an a-b-c waveform, which would line up with the alternate count.  The alternate count (labeled in black below) would view this decline as part of an even larger A-B-C correction, which would make a new low in the blue target box, then reverse and make a new high above 1292.  (But after that, the market would collapse.)

The blue target box indicates the most likely ending zone for the a-b-c count.  The official zone is 1198-1227 for the S&P 500 -- but if wave c is equal in length to wave a, the "exact target" would be (approximately) 1215, which also lines up nicely with a support zone.  And yes, I just said the "exact target" would be "approximately."  Gimme a break here, I work long hours on this stuff.  ;) 

I would caution bears to be careful here; protect profits, and don't become complacent.  If the market rallies from here, you'll want to have some dry powder to get short at the next major top, because it should be a big one.  To drive home this theme, I am moving my odds on the alternate count up to an even 50%.

Below, I have annotated the SPX chart with both counts.  The anticipated target zone is roughly the same under either count -- it's what happens beyond that which will determine whether bulls or bears win this short-term battle.  Once the market moves significantly into the target zone, from there, bears do not want to see it move back up through 1237.47 (ideally).  This is because the bearish count would have the market form wave (4) next -- and in this type of waveform, wave four is not allowed to cross the same price territory as wave one (red (1) on chart).  Note that this doesn't apply until the target zone is reached.

That said, there are unusual circumstances, such as a nested 1-2 count, where this price overlap would be allowed.  Those counts are less common, but the KO for a nested 1-2 would be 1246.41.  Early on in a wave, the KO's can really only be placed at the top, which in this case is 1267.06.  At this early stage, the number which would indicate the likelihood that bulls had been sighted in the neighborhood is 1247.10 -- but it wouldn't guarantee it at this point, as there are still too many potential short-term structures on the table.

Sometimes, though, you just have to protect profits so you have something left to catch the next move.  One thing we are guaranteed in the market is that it's never going to sit still -- there are always trades to be made tomorrow.  

A few readers have asked about some counts they've seen from other Elliotticians, and whether I think those counts are likely.  One popular count is that the current decline marks the end of wave e of an expanding triangle, in which case a rally is due essentially immediately.  This count is technically possible, but I don't view it as very likely (although an immediate rally isn't out of the question).  Let me explain why I view the triangle count as a major underdog.

My readers have heard me use the phrase, "I don't like to use Elliott Theory in a vacuum."  Times like this are exactly why I feel that way; because, from an Elliott perspective, both counts are completely viable.  So to sort one from the other, I turn to other indicators.

Below is a chart of the SPX, with the TRIN in the first panel below it, and the New York Stock Exchange ratio of declining volume to advancing volume below that.  I have drawn red horizontal signal lines to mark where a signal is triggered for both indicators; and vertical dashed lines which match the days where signals have been generated with the actual market. 

On this chart, you will find only one time these combined signals failed to lead to at least a moderately lower low in the upcoming sessions (it still generated a new low, but barely).  Going back two and a half years, there has been only one true failure of this indicator (not shown, in December 2010).  Those are pretty good odds... which, in my mind, virtually rules out the expanding triangle count I just mentioned, since the triangle needs to bottom more or less immediately.  Of course, this could always be one of those rare long-shot times the signal fails.  As I said earlier, all we have to work with are probabilities.

Do note on the above chart that there are examples of this signal which lead to a "lower-high" bounce, and then new lows a few sessions later (see November for an example) -- so it's not a guarantee of new lows immediately in the next session.  And it's not really a "guarantee" of new lows at all; there's no such thing in this game.  It's just a really good probability.

In conclusion, I remain very bearish long term and medium term.  I am also bearish over the very short term.  However, the market is approaching a critical inflection point.  If it bounces significantly in the coming sessions, it could rally up to new highs before the big leg down.  Conversely, if it doesn't find support in the blue target box, then that's probably all she wrote and our next stop will be in the 1000-1050 zone.  I expect the market to eventually find this zone one way or another, but for the moment the question remains: now or a little bit later?  Trade safe.

The original article, and many more, can be found at http://PretzelCharts.blogspot.com