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Advanced Technical Analysis

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Summary:


Prices broke through the 4/21 lows impulsively, invalidating the triangle count we had that called for the E wave to end above the 4/21 lows. Internals still remain poor but there were some small non-confirmations of PM price lows: advance/decline, up vs down volume, and short term momentum (MACD, ROC) were not confirming the lows, suggesting some degree of bottom may have been found. What degree however cannot be stated with confidence. Despite this, and because the major waves down and up from the annual highs have been seemingly of the 3-wave (corrective) sort, we think the most valid interpretation remains of some sort of large 4th wave triangle taking shape. Instead of the E wave of this triangle ending as we had anticipated, it seems that a more reasonable interpretation is that the C leg of this triangle is forming. If this count is valid, new lows beneath today's lows will be seen in the next several sessions but they will stay above the 3/24 lows. A move below the 3/24 prices invalidates any triangle interpretation and calls for the much more bearish interpretation that suggests the wave (II) rebound ended on the 4/5 high and a very bearish wave (III) is underway well below the 3/24 lows. Yesterday's price action added some weight to this assessment. There are a number of technical and Elliott wave reasons why this bearish interpretation remains lower probability (see below for a full explanation), but we should note that yesterday the Philadelphia semiconductor index (SOX) did move below its 3/24 lows. To the degree that the SOX is a harbinger for the larger technology sector (and thus the market itself), this is inauspicious for any bullish triangle interpretation. For now we'll simply have to trade on a shorter time frame while the intermediate term clears itself up. No trade setup for today, but it is possible that an internal 4th wave correction started from yesterday afternoon's lows, as a clear 5 wave impulsive move up from those lows could be seen on very short term charts. We'll have to wait and see how far this bounce goes to determine not only the short term horizon but also the potential for the intermediate term bullish and bearish case.


Background


One of the cardinal rules of Elliott wave theory is the distinction between impulsive and corrective waves. All other Elliott wave analysis comes from this first distinction: is movement in trend impulsive or corrective. To review, impulsive waves take a 5-wave form, with three impulses (labeled 1, 3, and 5) in the direction of the major trend, and 2 corrective waves (labeled 2 and 4) against that direction of trend, with the entire wave labeled 1-2-3-4-5. Corrective waves take a 3 wave form with 2 impulsive waves (labeled A and C) in the direction of the correction, and one corrective wave (labeled B) against the trend of the correction. All impulsive waves are 5-wave movements and all corrective waves are 3-wave movements.

When one looks then at the pattern of the markets' price on a chart, the first attempt is to determine which waves are impulsive and which waves are corrective, and then, from that, determine if the dominant trend is bullish or bearish on the time scale you are looking at (e.g. one could be bullish on the hourly chart but bearish on a daily or weekly chart. In our application of Elliott wave theory, we start with the largest degree of trend in which we can confidently identify the dominant trend and then proceed to smaller and smaller degrees of trend (say from daily to hourly to 34 minute to 21 minute charts) in an attempt to confirm that the larger degree of trend view is correct or not.

We bring this up for a few reasons. Since the highs registered in the NDX in January and the SPX and INDU in March, determining the intermediate term (multi-week) trend has been very difficult. Indeed, if you have read our pieces regularly you know that we have routinely said that "another few trading sessions should clear up the intermediate term trend". We said that a month ago and have been saying it ever since. So what gives? All those sessions of price data and no confident view of the intermediate term trend?

The difficulty in determining the technical trend over these last few weeks stems directly from the complex mix of impulsive and corrective waves that the price pattern s has exhibited in both directions. Just when we can see a clean impulsive move up, say, the market then turns down and traces out a clean impulsive move down. This mix of impulsive up and down moves (along with their corrective down and up brethren), has made a confident intermediate term view (and sometimes short term as well) hard to come by. All that is to say: this market has not clearly established a trend yet at the intermediate term (multi-week) degree. Traders call this range bound trading. In Elliott terms, it is called a complex pattern.

What we can be reasonably confident about is that, particularly for the SPX and NDX, the moves down from the highs in March and January respectively show both overlap and 3-wave moves on the daily charts. For the SPX, this is fairly easy to "see": there are no clean 5 wave impulsive moves down that can be seen on the daily chart that would suggest that the larger degree of trend (which has clearly been up since October 2002) has changed and that the dominant trend is now down. Indeed, the move down from the March 5th highs to the 3/24 lows looks very much like a "3" and should be considered first and most probably to be a corrective wave. The complexity part of this analysis comes in on the subsequent move up, from the 3/24 lows to the 4/5 highs. This too is best seen as a "3" and should be considered corrective. And finally, to add even more complexity to the analysis, the move down from the 4/5 high to yesterday's lows is highly overlapped as well, again suggestive of a corrective move and not an impulsive one.

This series of corrective, overlapping waves from the 3/5 highs in the SPX (and to a greater or lesser degree the NDX and INDU as well) argues then that some form of corrective large degree "triangle" is taking shape. [You'll recall that triangles take a 5-wave form but instead of the 5 waves being a series of 3 impulse waves (1,3, and 5) connected by two corrective waves (2 and 4), the five waves are labeled ABCDE with each of those legs of the wave taking a 3-wave form]. Indeed, we have been using the "bullish triangle" count for some time now despite the fact that important support levels have failed to hold prices on a few occasions now. Triangle counts in Elliott wave terms are notoriously difficult to interpret while they are underway, precisely because of the complex, overlapping and often contradictory signals that are given by the developing triangle pattern. It's the technical equivalent of the three blind men and the elephant: where one Elliott wave practitioner sees something entirely bullish in the pattern, another can see something very bearish and still another see no trend whatsoever. It is interesting to note that, among very seasoned Elliott wave practitioners, there are currently divergent views on this market: some are calling for new annual highs and some are calling for the resumption of the bear market that started in 2000. And these conclusions from folks who have been applying Elliott wave theory for 10 years and more.

The main reason we bring this up is because a triangle interpretation is still possible and indeed is still the preferred, "cleanest" interpretation, despite the fact that our yesterday's note said that a triangle would be invalidated by a move beneath the 4/21 lows. The triangle interpretation that we showed in yesterday's note had the final E wave of that triangle completing above the 4/21 lows. Because prices went below the 4/21 lows yesterday, the leg we had identified as "E" was wrong. However, that does not change the fact that the SPX has still traced out an overlapping, 3 wave structure of prices from the 3/5 highs. A triangle interpretation is still possible (indeed, it is still the preferred interpretation given the price pattern); the E wave we had assumed would end above the 4/21 lows is in fact the C leg down of that ABCDE triangle, with the D leg (up but below the 4/5 highs) and E leg (down but above whatever lows are registered in this current C leg) to go.

Yesterday's price action then suggests the following two scenarios: a larger degree bullish corrective 4th wave triangle starting from the annual highs that is taking longer time and wider swings in prices to trace out than we originally estimated. Or a more complex, rare, and potentially very bearish pattern that says this year's highs in the market were a very important top, the 3/24 lows to 4/5 highs a wave (II) retrace, and a bearish wave (III) down below the 3/24 lows is underway. As we stated above, some well respected Elliott wave practitioners have concluded that both are possible. The Demark trend exhaustion indicators we also use have not given a clean trend exhaustion signal on either the weekly or daily charts for the indices either, so that indicator also does not clear up the intermediate term view.

What all of the above means to strategy is that we must simply narrow our trading horizon until such time as the intermediate term trend becomes clearer. No triangle pattern of any degree would be valid if prices in the three indices moved below the 3/24 lows. Such an event would force us to accept the more bearish interpretation that the highs put in early in the year were very important tops. We would note parenthetically that yesterday the SOX (semiconductor) index did just that, closing below (well below) its 3/24 lows. To the degree that the SOX is a harbinger of sorts for the rest of the technology sector (it certainly "lead" the NDX by forming an important top on 1/12/04 vs the NDX's important top on 1/20/04), we must be wary that the very bearish scenario described above could very well be operative. We simply cannot confirm that however, until the other indices break below the 3/24 lows.

For now then we should focus our technical trading calls on the shorter term (multi-day instead of multi-week), until such time that we can establish a better confidence level in the intermediate term trend. Now on to the specific indices.



Highlights:



S&P 500 (SPX)



The SPX went cleanly through the 4/21 lows that needed to hold for the E wave triangle interpretation to remain valid. At this stage, as the above explanation suggested, there are two operative counts, neither of which can we be confident in for the intermediate term: a large 4th wave (bullish) triangle is forming from the March highs that is in its C leg and could complete around the 1103/04 area (+/- a few points) before heading higher in a D wave and then lower again in an E wave before finally ending and moving to new annual highs. The other interpretation suggests that the 4/5 highs were the wave (II) highs and that a very bearish wave (III) down is now in force. If so, prices should easily move below the 3/24 lows on their way to at least below 1075 and more likely to the 1030 area before we can expect a real multi week bounce. Until the 3/24 lows are taken out (1087) we cannot confidently state this bearish case is operative. Indeed, the cleaner interpretation of the technical indicators calls for the more bullish triangle count. But only prices can prove that one or the other is operative. Below the 3/24 lows is bearish, staying above them and finding solid support in the 1103 area and then moving impulsively higher is bullish.

Though it looks like some degree of bottom was struck on the yesterday afternoon lows 1108.02 (we would note that this was the exact closing price on 3/26). In all likelihood, it was an internal 4th wave low that should hold below 1117-1120 resistance. If prices move above 1120 into the 1122-1132 then it will become likely that a complete 5-wave impulsive wave down from the Tuesday highs was completed at 1108.02. The 1122-1132 area will then act as stiff resistance no matter which scenario is unfolding: the bullish 4th wave triangle or the bearish wave (III) down. Prices should help us understand in the next handful of sessions what the short term and intermediate term trend are shaping up to be: bullish or bearish.


The Nasdaq 100 (NDX)


The NDX too fell through our cited potential support level of the 4/21 lows. And like the SPX, the triangle count remains valid though tweaked a touch. If the 4th wave triangle count is still operative (and the bulk of the technical evidence suggests it is the better interpretation for now) then the current C wave down that started at the 4/5 highs should end somewhere near the 1390 area (+/- 5 points). If the more bearish wave (III) down interpretation is operative then the 3/24 lows will likely be taken out in short order - within the next week or so. [Note that the SOX did just that yesterday and the pattern in the SOX is somewhat similar to that in the NDX].

Only a move below the 3/24 lows would confirm the bearish interpretation. And only a move that holds in or near the 1390 area and then bounces strongly and impulsively would confirm the bullish 4th wave triangle interpretation.

For now, the short term looks like some sort of bounce from the afternoon lows is expected. The degree of which is uncertain right now. If resistance at 1445 is not exceeded then the 5th wave down that started at Monday's highs is still unfolding. If 1450 is exceeded on any bounce then 5 waves down from Monday's highs could be complete at yesterday's lows and a more substantial bounce could then be expected. How far that bounce carries and in what form will help us determine how it fits into the above bearish or bullish intermediate term interpretation.



Dow Jones Industrials (INDU)


The INDU and the SPX are tracing out much the same pattern: either the bullish 4th wave triangle is forming from the March highs that will complete its C leg in the 10109 area (or possibly the 10217 area) and then turn decidedly higher or the bearish wave (III) is underway that will soon slice through the 3/24 lows of 10007.

The INDU pattern from the March highs is somewhat different than that of the SPX, and importantly so. The SPX pattern from March high to low looks like a 3-wave move on the daily chart. The March high to March low on the INDU looks very much like a 5-wave move, which has much more bearish connotations. Indeed, in our reference above of the seasoned Elliott wave practitioners, those that are highly bearish point to the INDU and the March high to March low wave as being a clean and clear "5" and thereby signaling a major trend change. In reality, though it looks more like an impulsive "5" than a corrective "3", it can be interpreted as both. Only a move soon below the 3/24 lows would "prove" that it was a "5" and not a "3". Subsequent price action in April however has not been at all clear: if the March INDU high to low was a clean 5, then the wave action in April would likely have been much more cleanly bearish. It has not been so, again complicating the picture.

A bounce that stays below 10352 will suggest the 5 wave impulse move down from the Tuesday highs is still underway toward lower numbers. Any material move above 10360 will suggest that 5 down from the Tuesday high is complete and then we'll need to see just how far that bounce goes to understand which of the bearish or bullish intermediate trends is operative.

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