ThxPORTAL - My OnlinE InvestmenT ProgresS

By Gary Grimes
Wed, 08 Jul 2009 16:30:00 ET
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Wave patterns are like beautiful women, classic cars and great art – you know them when you see them.

EWI analyst Jeffrey Kennedy drives this point home during his live Elliott wave trading tutorial. It's my favorite of his tips for trading with Elliott waves.

"Trade the pattern not the count," Jeffrey says.

If you don't recognize a pattern at a glance, don't trade it – plain and simple. After all, your wave count can be wrong; the pattern cannot.

Does that mean you must know the exact wave count at a glance, as well? No. Simply spotting a pattern you recognize is where you should start.

Jeffrey scans hundreds of charts, clicking through them one by one, spending mere seconds with each. If he doesn't spot a pattern he recognizes, a click of his mouse takes him to another potential opportunity.
Does price action look extended or choppy? Is it trading in a channel? Is it forming a wedge or triangle shape? These are some of the signals Jeffrey's looking for. Each could help him identify – at the quickest of glances – whether price action is impulsive or corrective. This is the first critical step, Jeffrey says, to spotting high-confidence, Elliott wave trade setups.

That brings us to the following chart. Do you see a pattern you recognize? I do.



Look at the downward price action; the moves look decisive, almost in straight lines like impulse waves. Now look at the upward moves; they look indecisive and choppy like corrections. There's also one down move that is clearly longer than the others – that's almost certainly a third wave of some degree.

At just a glance, here are a few things we can determine:

* This is a bearish market pattern, because downward impulses are interrupted by upward corrections.
* The price action from September to November seems to be a pretty clear wave 3 down, followed by waves 4 up then 5 down, completing what appears to be a larger degree wave 1 in early March.
* Wave 2 follows wave 1, so the upward move starting in early March is most likely a larger degree wave 2.
* Wave 3 follows wave 2, so that's what we can expect next.
* Wave 3 is never the shortest and often the longest of all five waves, so we can expect the next impulse move to take prices to new lows.

You see, with just a quick glance, we've put a finger on the pulse of the market. Negative psychology pulls prices down, and brief reversals of mood result in upward corrections – this appears to be a long-term bear market.

If you can gain this much insight simply by glancing at a chart, just think of what else you can glean by spending more time with it. Look at this pattern within a longer time frame, and you can determine the degree of trend (this one appears to be primary). Formulate Fibonacci price and time targets, and you can be confident about when and where prices will most likely turn.

There are literally hundreds of things you can do with a good chart, but none of them mean much unless you can first identify a pattern you recognize.

"The stock market has now fulfilled our forecast made back in February for a rise to 9,000-10,000," says Robert Prechter. In The Elliott Wave Theorist, he now sees increasing risk.

"The rally in the S&P since March has been one of the faster ever, rising 50% in five months, and rapidly carrying the S&P to the lower end of our general target zone of 1000-1100.

"At the same time, optimism has finally reached 'Primary degree' levels. The daily sentiment index recently reported 88% bulls among S&P traders, a reading equal to that on October 9, 2007, the top day of the 'Cycle B wave' when the Dow made its all-time closing high of 14,164. Higher readings are possible, but we are no longer compelled to wait.

"In falling from 14,198 to 6470, the Primary wave covered a large amount of territory: 7728 points. The Fibonacci 3/8 retracement level is 9368, while a 5/8 retracement would carry to 11,300.

"The Dow has essentially achieved the first of these retracements levels. Indeed, at this point, the Dow has also achieved a Fibonacci 3/8 retracement, creating a Fibonacci 50% gain in a Fibonacci 5 months. It would be a nice place for the rally to stop.

"Given that stocks remain in the largest-degree bear market in nearly 300 years, it is not a good idea to bet inordinately on the upside. We should not ask more of the 'stock market gods' than they have already granted us.

"The prudent thing to do is return to a bearish stance now that prices have reached the first Fibonacci retracement level. Investors should continue to keep the bulk of their wealth in case and the safest possible cash equivalents, in the safest institutions.

"If you actively invest in the stock market with money you can afford to lose, it's time to return to the short side. It may be early in terms of both time and price, but that's the cost of insuring that don't miss profiting in the next wave down."

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Sprott Comment July 2009

In the major global stock market indices, from the US to Europe to Emerging Markets, you contend that we are in a Primary Wave 2 up, and that the really nasty selling panic will ensue in the next downdraft of Wave 3, which will carry substantially below previous lows of March 09. Yet, hard global economic data (monthly industrial production, leading indicators, consumer sentiment) point to recovery globally by the end of this year. How does your Wave Principle square with the hard economic data, which indicate that even a retest of March 09 index lows is highly unlikely, let alone a collapse beyond them?

Answer:

That's exactly the kind of thinking that gets most investors buying at tops and selling at bottoms. The reality is that "fundamentals" -- such as the strong economy -- LAG the stock market (and its technical indicators), not lead them. How else do you explain the fact that the DJIA topped in July-October 2007, in the midst of "goldilocks fundamentals"? Or that it bottomed in early March, when "fundamentals" were horrible? The list of examples goes on and on. That's why our April Elliott Wave Financial Forecast warned: "Primary wave 2 up is now unfolding, as the March 25 Interim Report communicated. Be prepared: In its final weeks, the advance will re-ignite some of the zaniness of 1999 and 2007... By the end of wave 2, many market followers and economists will proclaim that the bear market is dead and the boom is back. For those who felt trapped in stocks during Primary wave 1, wave 2 will offer a respectable place to exit. But we know from past experience (and the chart on page 2 of the March 2008 issue) that many will hold out for even higher prices, hoping to 'break even.'"