Saturday, 12/28/13 update

Short term ES count

Sunday, 12/22/13 update

The ES appears to be in the 5th wave of an impulse up off the late August lows.  If so, then a correction of some significance should be in the cards some time in the next month, but not before a continued push to more new all time highs.  A possible target is at ES 1856.00 where wave 5 of the impulse will equal wave 1, as in the below chart.

There are two questionable areas in the long term count, both are highlighted in yellow on the 1st (daily) chart above.  The first is the rally sequence from June through mid-September in 2012 which is labeled as Minor Wave 1 (red).  That sequence can be labeled as a five wave impulse, but it's a bit awkward, especially at the beginning of the sequence where there was a lot of see-saw action.  The second is the correction labeled as Intermediate W4 (purple) in August of this year.  It is quite a bit more shallow and of short duration as compared to Intermediate W2 (late March to early June, 2012) - i.e. it's not proportionate.  Not saying that it absolutely has to be proportionate, but it is out of the norm.
An alternate to that count that addresses those two issues is below.  Look familiar? It's a rework of the hyper-bull count first proposed on Dec 1st.  So this would be a possible alternate count that is in play.  And if so, it portends quite a bit of bull market yet to ensue before a significant long term top: Inter W3 top followed by Inter W4 and W5 into a Major W3 top, that followed by a Major W4 and W5 into a Primary Wave III top, that followed by a Primary Wave IV and V into a very significant Cycle wave top.

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It's been my experience that a systematic approach to trading is the one that works best.  I'm an adherent of the methods developed by Richard Dennis, a very successful commodity trader who did quite well in the 1970's & 1980's.  His approach is described in the book "Way of the Turtle" by Curtis M. Faith.  Personally I believe this book should be required reading for anyone involved in futures and options trading.  His approach had two primary components: a tested trading system and a set of money management rules.

The money management component is just as important as the trading system, but it is the trading system that is of interest here.  A good trading system is based on a means of entering and exiting trades that is clearly defined and that yields an excess of winning trades over losers.  The conditions upon which a trade is entered and exited is established by extensively back-testing the associated rules.  Those rules are thus determined in advance and must be adhered to - any variance from the rules introduces a variable that hasn't been back tested and thus affects the probabilities, and the goal is to trade a system which has been demonstrated to yield a higher probability of profitable trades.  The great thing about this approach is that it removes emotion and opinion from the process.   It moves the trading effort from gunslinger mode to cool headed poker player mode.  Of course, if you'd rather be a gunslinger, go for it babe - I hope it works out for you.  

One final note on this subject.  I've traded a number of systems using the "turtle" method.  None is perfect, but they don't need to be - they just need to possess a demonstrated "edge" - i.e. historical excess of winning trades over losers.  The problem is that in each of these systems there seems to be a point where the edge evaporates.  Why?  I'm not exactly sure, but I believe it's because the only way to guarantee that a given system has a permanent edge is to test that system against a database that is 100% comprehensive - i.e. that is complete from the beginning of time until the end.  Obviously impossible, at least for us mere mortals.

Sunday, 12/15/13 update

The overlap of the 1774.50 Nov 7 high this week has ruled out the hyper bullish EW count discussed as a possibility in the last couple of weeks.  That leaves two alternates on the table.  The 1st (Alternate #1 below) needs a 5th wave to complete Major W3 of the bull market from the Oct 2011 low, which of course would be followed by a Major W4 & W5 before the significant long term top of Primary Wave III.  The 2nd (Alternate #2) has that Primary Wave III top in place as of Nov 29 high at ES 1812.50.  The Primary Wave III top, whenever it occurs, should lead to some fairly impressive bear activity in the form of Primary Wave IV.  Primary Wave II lasted 7 months and dropped roughly 22% (peak to trough) in the ES, and Primary IV should be roughly equivalent.

Alternate #1

Alternate #2

The short term will tell the tale between these alternates.  Equities look poised for an oversold bounce off last weeks lows.  If that bounce develops into a more sustained rally that results in new all time highs, than the activity of the last two weeks can be viewed as a flat type correction and Alternate #1 is likely in play.  If however the market rolls over after a brief and shallow uptick and collapses below last week's lows then the pattern since the Nov 29 ATH can be labeled as a series of nested waves 1 & 2 and Alternate #2 becomes the preferred view.

Sunday, 12/8/13 update

So far the short term scenario proposed for the ES/SPX in last weekend's update is playing out.  The ES appears to have found a bottom in the recent corrective sequence at 1777.75, and has put in a rally that has the look of an impulse since that time, although there have been only three legs to that rally into Friday's close.  The 1777.75 low on Wednesday did not overlap the assumed 1st wave high of 1774.50 in the pattern from the 1640.00 low of early October, so the premise of an extended wave 1 followed by shorter waves 3 and 5 remains intact.  Also, wave 4 in this pattern, which just concluded, is a flat and thus alternates with the 2nd wave zig-zag structure.  So assuming that the rally from last week's low continues to all time highs, then it would be a 5th wave in this scenario.  Since wave 1 exceeds the length of wave 3, then the maximum allowable travel for this 5th wave is the 72.75 point travel of that 3rd wave.  So measuring from the wave 4 low at 1777.75, the lid on the sequence is at 1850.50.   
If the market rallies past the 1850.50 limit, then last Wednesday's low is most likely a 2nd wave in a developing extended impulse from the 1736.50 low of Nov 8.

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The news of a 7.0% unemployment rate on Friday sparked that day's rally.  But what are the implications for Fed policy?  Bernanke and other Fed governors have said that their goal with all the QE's has been a7% rate, now that we appear to be there, does that mean that the Fed will start pulling in the reins?  The implications are potentially ominous, not only for US equity values but for the economy as a whole.  The party on Wall Street has been reliant on the Fed Reserve punch bowl to some extent, what happens if they take the punch bowl away?   But equally as concerning is the effect on the economy of any Fed tightening.  If the Fed stops pumping out cash by means of buying Treasuries and MBS's the inevitable result has to be an uptick in interest rates.  Naturally this should result in a drag on the economy to some extent.  But more importantly the effect on the Federal budget could be profound and very damaging.  If interest rates move toward their post-WWII norm of around 6% the US Treasury will see an increase in it's interest payments in the $400 billion/yr range - a major dent in the Federal fisc.  Unless the rest of the Fed budget is reduced to the same extent - fat chance!! - this will necessitate an even higher level of borrowing which in turn leads to ever higher interest expense.  A problem anyone who has ever gotten into debt trouble with their personal finances is familiar with (yes, I've been there) - it's a spiral that feeds on itself and usually can't be solved without some pain.  Also, increased Treasury borrowing coupled with a withdrawal by the Fed from the market for that borrowing is bound to crowd out the private market, thus putting a damper (or worse) on economic growth.  Of course, slower economic growth means less tax revenue and higher deficits and even more Treasury borrowing.  This is not a pretty picture.
My guess is that Yellen, with her dovish monetary inclinations, won't pull in the Fed's ears.  This means there would most likely be some serious inflation in the offing, which again would lead to higher interest rates with the same outcomes. 
All of this translates to the same place as far as prospects for US equities :  down.  But the market hasn't shown the inclination to head that way in any serious fashion as of yet.  The trend is your friend, and right now the trend remains up.

Sunday, 12/1/13 update

 EDIT 12/2: At the end of the post, re: short term count, Minute W3 traveled 72.75 points, not 34.75, so that would be the max for Minute W5 in that count 

Since the 2008 economic troubles the printing press at the Fed has been running to the point of overheating, and the result is a river of US $'s far in excess of what is needed to support economic growth.  One would expect that funny money to show up in consumer price inflation, but the CPI has been relatively tame.  Of course, that's assuming that the government reports are not doctored, which could well be a bad assumption.
But using that assumption, where's the cash going?  I've been researching that question, and the answer is complicated.  For one thing, the international reserve currency status of the greenback muddies the picture - it's clear that some of this gusher is coursing overseas and causing higher prices elsewhere.  That appears to be the new primary export commodity for the US : inflation.  Other parts of the answer get into an esoteric discussion about bank reserves and so on.  But part of the answer is most probably a fairly obvious one:  US equities.
So we cranked up the printing presses to solve the problems created when the housing bubble burst, and in the process are pumping up the stock market.  So is a bubble in equity prices developing?  Quite possibly the answer is yes.  If so, is there an EW count of the action that evidences a developing bubble?  There certainly is.

In this count the real difference from other bullish counts being tracked on this site is the count from the Minor W2 low in Nov 2012, which has the ES only completing Minor W3 & W4 since that time with W5 in progress.  This would mean that to complete the entire move since the Mar '09 lows there needs to be an Intermediate W4 & W5 to complete Major W3, which in turn will be followed by a Major W4 & W5 to complete Primary W III, which will be followed by a Primary W IV & W V before a significant long term top occurs.  So quite a bit of room yet to run.

On the short term, there is a way to count the pattern since the Oct 9 low that shows 5 waves complete into this last week's highs.  However, that count (in the ES at least) is a little awkward in spots.  The count in the hourly chart above is another possibility, with an extended 1st wave for the pattern followed by a much shorter 3rd wave with a wave 4 in progress and forming a flat.  This makes a certain amount of sense as the whole structure is itself a 5th wave - so selling pressure is possibly compressing the structure as a top is approached.  Two things need to occur for this count to adhere to EW rules and thus be accurate:  Minute W4 cannot drop below (and thus overlap) the Minute W1 high of 1774.50, and since Minute W1 is longer than Minute W3, then Minute W5 cannot exceed the 34.75 point distance of Minute W3.
EDIT 12/2: Minute W3 traveled 72.75 points, not 34.75, so that would be the max for Minute W5 in this count