SPX and RUT Updates: Red Alert Indicators in Conflict with Short-Term Wave Counts

I've been pulling my hair out all night trying to nail down the exact short term count, and have compared the NYA, INDU, SPX, RUT, TRAN, BKX, WLSH and several others -- partially because, due to the indicators, I'm having trouble believing what I'm seeing in the counts. 

The short-term wave counts are suggesting the rally is due a minor correction, then more upside --  however, the indicators seem to be contradicting that, and are now reaching full-blown red alert stage.  While it's possible that a meaningful decline is due, it remains dangerous to front-run against a rally that has shown this level of resiliency. 

Let me present a few of the arguments I'm wrestling with, along with the charts.

First, let's start with the wave counts, which appear to need a minor correction, followed by further upside, to reconcile.  My preferred count is shown in blue and red below, on the 10-minute S&P 500 (SPX) chart, followed by a zoomed-in view on the 5-minute SPX chart. 

I have highlighted some of the key price levels on the charts.  For the SPX, trade beneath 1321 would invalidate the blue count, and cause me to shift preference to the idea that a more meaningful top might be in place.  For anyone wishing to enter long on the idea of a fourth wave correction that leads to a bounce, there are plenty of support zones shown on the chart which could serve as stop loss levels.

The Russell 2000 (RUT) appears to be a similar position (below), and also suggests that a minor correction will be followed by another leg up.

Logically, one of the problems I'm running into with these wave counts is that 1350-1360 is a substantial resistance level, as I mentioned in numerous articles well before the market got here.  So this seems like a logical spot to turn back the rally -- but then again, head fakes are common in fifth waves.  Think of October 4, when the market broke down in an attempt to get everyone on the wrong side of the trade, and then whipsawed.  A head-fake breakout over 1350-1360 could serve the same purpose in reverse. 

Let's move onto some of the indicators, which are warning that the rally is getting substantially over-extended.  (This is more stuff that makes me want to doubt my short-term counts.)

The latest signal is a sell indicator that has proven to be very reliable over the years, which compares the total volume on the Nasdaq as a ratio to total volume on the NYSE. The idea behind this indicator is that extreme amounts of volume flowing through the higher-risk Nasdaq in relation to the "safer" NYSE indicate that investors are feeling exceptionally bullish. And we all know what happens when bullish sentiment reaches extremes and investors are feeling invincible -- the market usually whaps 'em upside the head.

This indicator serves as further warning to bulls that a correction, or worse, is probably close by.

Next is a top study I first presented a couple weeks ago.  When this signal triggered in 2007, the rally lasted another two weeks before ending.  It has now been two weeks since the latest signal.  The similarities in behavior during the two weeks subsequent to the signal trigger are quite noticable in the current markets compared to the 2007 markets.  I have highlighted both time periods in blue.

Another warning sign yesterday was the Volatility Index (VIX), which was up for the second day in a row while the SPX was also up.  In about a third of the prior cases where both indices were up for two consecutive days, the market launched into a decent size correction.  The most recent time this happened was right at the December top.

So... on one hand, the short term wave counts suggest to me that, at the minimum, there should be another leg up left in this rally.  On the other hand, there are numerous sell signals arguing against that.  I suppose the two aren't necessarily contradictory, since indicators frequently lead prices.

In a "normal" market, I would say the preponderance of evidence suggests a meaningful correction is due.  But this market has proven to be unusually resilient, and as a result, I'm slightly favoring the wave counts over the indicators -- so I suspect we'll see a sharp correction into the 1335-1342 zone, and then another leg up before a more meaningful decline.  

It's a very tough call, though -- I'm sure now you can see why.

In conclusion, where the wave counts and indicators agree is that the rally is now getting quite stretched to the upside, and the risk for long positions continues to increase substantially.  However, just in case I haven't driven this next point home enough over the past few weeks: until the market starts printing some closes beneath its major trendlines, there is no confirmation of any significant trend change.  There are more hints and allegations, but in the end, sometimes the market just doesn't care.  Trade safe.

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