Weekend Update 11/13/10

Smells like a paradigm shift is in the works.  For some months now the drivers of the markets followed on this site have been the mid-term Congressional elections, a weak US$, low interest rates, and a strengthening but still anemic economy.    A strengthening but anemic economy still appears to be the case,  but the other factors are in flux.  Obviously the mid-term elections are history so that driving force is gone.  The two key factors IMO are the US$ and interest rates, which are closely related.
On interest rates, long rates (30 yr US Treasuries) appear to have bottomed.   Shorter rates are still low, and the Fed is busy trying to keep them suppressed with the QE2 liquidity injection plan.  One has to question how effective QE2 will really be, the more liquidity in the economy the greater the inflation risk.  A perception of inflation risk will lead to a demand for higher risk premiums, i.e. interest rates, on debt instruments.  In addition, this last week an auction of 30 yr US Treasuries did not get good demand, so we may also be seeing the start of hitting the bottom of the barrel in available funding for US debt.  That's ominous.  All of this combined spells the definite possibility of much higher interest rates across the board for US$ denominated debt instruments.
Higher interest rates will lead to strength in the US$.  And, in point of fact, the DX (US$ futures) appears to have bottomed, at least for the time being.  A chart of the DX shows a clear a-b-c move down since highs in early June.  In turn, the "C" wave  of this move shows 5 waves complete at its early November lows. 

The thing to watch on this daily chart is the upper channel trendline.  A daily close above that trendline would confirm a change to bullish in intermediate term trend for the US$.  At Friday's close that trendline was at 79.09 and declining at the rate of roughly .09 per day.

EUR/US$
The EUR is showing the flip side of US$ strength.  It topped on Nov 4 and has been in a steady decline since.  In addition to US$ strength the EUR is being further weakened by economic concerns in the EC block countries of Ireland, Spain, Italy and of course Greece.
From a technical standpoint the EUR generated a sell on the hourly Trend/Osc on Nov 5 and on the daily on Nov 9, so it is in a confirmed downtrend.

EUR Hourly Trend/Osc

EUR Daily Trend/Osc

From a short term trading standpoint, the EUR quite possibly put in a short term low on Friday and is in the process of a bounce.  This bounce is a good candidate for establishing a short position.  However, the Elliott count since the top is a bit awkward, so the initial wave (which would be Minor W1) may not, in fact, be complete.

ES
From a long term perspective I believe we're in an Elliott "X" wave separating a years long corrective sequence.  That X wave started at the Mar '09 lows and completed the "A" leg at this year's April highs.  The question right now is whether the "B" leg of that move was done at the early July lows or is still in progress.  Thus I have two intermediate term alternates at the moment.

Alternate 1

Alternate 2

Alternate 1 has Primary Wave B of Cycle X complete at the July lows. In the rally since then we have Intermediate Waves 1, 2 and finally 3 (purple) complete at Tuesday's highs.  That would leave an Intermediate W4 and W5 yet to go to finish Major W1 of the Primary "C" leg of the Cycle X wave.
Alternate 2 has Primary B still in progress with it forming a 3 wave flat type of structure.  In that context, the early July low marked the end of Major Wave A, and Major B finished at last Tuesday's highs.  We thus would be in the initial stages of what should be a sharp and deep sell off down to the July lows at a very minimum.
Alternate 2 would make all the perma-bears happy, but I believe it is the less likely of the two.  Alternate 1 fits much better with historical seasonal patterns, which are generally bullish at the end of the year, especially from mid-December through early January.  In addition, the very short term price pattern following Tuesday's highs has been very choppy and overlapping, more befitting the start of a sideways Wave 4 type correction than the start of a strongly impulsive 5 wave down move that would be expected in Alternate 2.  In Alternate 1,  the Intermediate W2 selloff in August was a zig-zag, so the projected current Intermediate W4 should be either a flat or triangle to meet the Elliott rule of alternation.  Flats and triangles are more sideways patterns than sharp sell offs, once again that fits with what's been seen so far since last Tuesday.
Finally, there is a 3rd ES alternate that I've not charted, and that is that the rally sequence from the late August lows was NOT complete at last Tuesday's highs and itself needs a W4 and W5.  This is a viable alternative but not as likely as the other two already presented IMHO.  Time will tell.

The very short term Elliott count since Tuesday is very murky due to it's choppy and overlapping pattern.  It can be labeled such that there is a 3 wave move done at Friday's lows which would complete an "a" wave of Intermediate W4.  But that labeling is not high confidence, there could easily be more selling left to complete this move.  However, next week is OPX which has been historically bullish.

GOLD
Recently a case for gold tracing out a large Minute W4 flat correction was presented on this site.  It looked like that possibility went out the window with the rally into Tuesday's highs which carried prices past a ratio of 1.382 times the maximum travel of the "a" leg of that possible flat.  However, Tuesday's highs at 1424.30 was only 10 cents shy of an exact 1.5 times the "a" leg, and the selling since then has been very sharp and impulsive as would befit the "c" leg of a flat.  So at this point the flat Minute W4 correction idea is not only very much alive but apparently in progress and in it's last stages.  Since last Tuesday's highs it looks like Waves 1,2 & 3 are done with Gold now in W4 of that "c" leg.  This fits with the idea of the EUR currently in a retrace to it's confirmed downtrend.

The longer term implications here fit with the themes presented earlier in this post.  Near term, strength in the dollar would have a negative impact on the price of gold.  But if inflation expectations really start intensifying one would expect the price of gold to climb long term.  Gold trades like a commodity, and in commodity markets the 5th wave of a move is generally the longest and most powerful rather than the 3rd wave as in equities.  If the above count is correct, we will be entering a Minute Wave 5 fairly soon, and that Minute W5 only completes minor W3 of Intermediate W3 of Major W3 of Primary Wave V.  So there's a long way to go for gold if this count is correct.  Which by the way would indicate some severe inflation on the horizon.
Thanks Ben.