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June 30, 2003

The Matrix
by David Petch

The matrix recently had a sequel at the theater. The original is about people who are kept from reality by having their senses bombarded with virtual reality through holographic images. It appears the same will be occurring over the next 1 ½ years. I will do analysis on the XOI and XNG next weekend……too many charts made their way into an analysis that was supposed to include them. For XOI and XNG, both are undergoing corrections right now, so not much to comment on except the position of the correction. A lot of the bears are out now touting that the markets are going to be tanking very hard. On the same token we have Kramer and Kudlow on their soapboxes proclaiming the next bull market is here. How about if the next 1 ½ years has a bit of both for everyone. I could quote articles on how pricey real estate is, how expensive stocks are, etc etc, but the market does not listen to anything but itself. The market right now is very much driven by technicals, so the quiver better be full. The US dollar index, HUI and S&P will be examined here. There are two types of charts presented here:

1) Bollinger bands (BB) are set to 21,34, and 55 (Fibonacci numbers) colored red, blue, and green, respectively. Full stochastics have settings based on the best fit to the index under study. Daily and weekly charts are presented on the above. Bollinger bands reflect the standard deviation (SD) of a market move. Usually two SD's are used. Statistically, most items under study will be confined to a 2 SD move. Patterns that reside outside of their BB's for any significant period time will usually result in a visit to the bands opposite it (a reversal).

2) Elliott Wave analysis. Elliott Wave analysis provides the ground floor in technical analysis to zero in on what portion of the pattern is developing, and what to expect for retracements. Channels, trend-lines, pattern structure, and Fibonacci are the core elements of Elliott.

Brief Elliott Wave Information

One Elliott wave tip I should pass off comes from a 1996 futures article from Glenn Neely. Hi s 1988 book "Mastering Elliott Wave" stated that all impulsive waves must contain an extension of the impulse wave. The article clarifies this point by him stating ….."The trending wave (either 1, 3, or 5) that transverses significantly more than the other two is called the extended wave (price extension); the trending wave that traversed significantly more in time is called the prolonged wave (time extension); the trending wave that possesses significantly more subdivisions is called the subdivided wave (complexity extension). NeoWave (Neelys enhanced version of Elliott) demand that every impulse pattern possess at least two of the three above rules of extension. Failure to meet that requirement indicates the pattern is not impulsive - it is that simple".

The second bit of information is regarding waves 2 and 4. One of the fundamental rules for constructing an impulsive wave are differences between waves 2 and 4 in its construction. This rule is called the rule of alternation. Waves 2 and 4 in the same degree should have alternation in as many ways as possible based upon the five items below:

a) Price (the distance covered in vertical units)

b) Time ( the distance covered in horizontal units).

c) Severity (the percentage of retracement of the preceding wave) (applicable only to waves 2 and 4 of an impulse pattern (all Impulse variations).

d) Intricacy (the number of subdivisions present in a pattern).

e) Construction (one pattern may be a Flat, the other a Zigzag etc.)."(Glenn Neely "Mastering Elliott Wave" (1988, page 5-5).

There are literally thousands of rules in Elliott wave, so mentioning them all is impossible. All of the information is in "Mastering Elliott Wave".

US Dollar Index

The first chart shows the US dollar Index. The BB's since the decline show all three compressed on the downside, with a ribbon formation on the upper. The stochastics set at 55,21,55 have just crossed, indicating that the prices are likely to stay around here for awhile. Also not that there is a triangular channeling of the oscillator waves since September 2001. The chart suggests a rise to the upper portion of the channel with a move back down prior to initiating a 1-2 year partial retracement of the decline. The second chart show Elliott Wave analysis of the decline since the end of April. The third chart shows Elliott Wave analysis of the decline since May 16. An impulsive wave completed on May 16, with a corrective wave pattern developing since. The black lines on the side of chart 2 show the Fib retracements of the decline since April 23. We are still below the 50-61% retracements that wave 2's will typically reach. The count on chart 3 puts the current wave in c.(y).[a].2. The wave here could take another 2-3 months to develop, pending how the market movements affect everything. Wave [a].2 was a complex correction with the final wave being a zigzag. (5-3-5).

Gold BUGS Index (HUI)

Since this is of most interest to most from an investment perspective, most time will be focused on this section. There are a total of four charts. The first two show the HUI with BB's and stochastics for daily and weekly. The last two charts are Elliott Wave analysis showing longer and shorter-term wave counts. One important thing that should be mentioned regarding weekly stochastics is that oversold conditions usually occur with the stochastic moving averages staying overbought or oversold for the duration of the bull or bear move. The weekly oscillator is overbought, but since this is a bull market move, this fact is not important. The %K and %D lines are separating, indicating a move will occur at a lower degree. The BB's on the lower line to signal a larger degree move down require the sequence of the 55, 34 and 21 MA's to be on top of each other (green, blue and red). The daily stochastics are still bullish. Opposite to the US dollar index, the HUI has a triangular channel forming with an upsloped bias. After this move is complete (4-6 months from now) I believe this will be the final move up in the first impulsive wave of this bull market, and we will have a retracement to some degree. The upper BB's ride the move up, indicative of the HUI momentum. When the S&P 500 index is shown next, an appreciation of why the potential exists for an 8-12 month correction in the HUI with an S&P advance possibly exists. The first Elliott Wave chart shows the HUI pattern longer term. There are three possible patterns here that exist, and all have the same probability of occurring. The first one is the preferred shown in colour. This count suggests we have completed wave 1 of 5 for the next leg up. The alternate count is that we are in the leg down (wave E.(4) prior to the final move up of the pattern. Running triangles are very bullish, with the final move being between 161.8 to 261.8% of the widest leg of the triangle. This was mentioned to be in the range of 240-300 last time. One item that lends support is the pattern circled in yellow. This is an elongated flat, which usually occur as one leg of a triangle. The other alternate count that fits with this is that the move up from November 2001 is purely corrective, and that we completed wave [W], we are in (E).[X], with [Y] to follow. These possibilities will be narrowed on post market action when the pattern completes. The market direction is up, that is the only important item to focus on. What happens post-pattern completion is semantics right now. If the move up is corrective, then the correction back down to 150-200 from a high of 300 could be expected. This would be very bullish, given the fact the markets final corrective price level was higher than the low it placed earlier. The other alternate count with the running triangle indicates wave (5) will start at a higher price level. The preferred count suggests we are already underway. The preferred fits with the time levels of the stochastics, but nothing is for certain and the pattern development should be followed.

S&P 500 Index

The first two charts for the S&P show the BB's and stochastics. The weekly stochastics show that the BB's are in a downward pattern based with a ribbon-like formation for the upper bands. The stocs stayed oversold for the move from 94 on, with a hint of an eventual decline by the sloping down trend from 98-2000. Recently the S&P oscillator crossed over, will probably curl back down, but now for awhile. The bottom formation of this stochastic is messy, but we do have a clear breakout of this pattern.  The daily stochastics show red lines marking market bottoms and the green lines mark market tops (as shown on other daily patterns). The S&P finally gave a buy signal earlier this week with the %K crossing over the %D (blue line going under the green line). The BB's for this move up rode the pattern from the near beginning, which was mentioned to have unknown future implications. This could be a confirmation of the weekly stochastics pattern that a larger degree S&P correction lies ahead of us in 2004. This is the Presidential Cycle, and we have the chances of getting a really large market move. How low does the S&P go? Shorting for a longer period of time is relatively safe at this juncture. The final chart shows the S&P count with the alternate shown in circled grey. The preferred count was completing [w], with [x] currently in play, with [y] to follow. The length in time of [w] suggests that [x] and [y] will be of similar duration combined, or by a Fib percentage. If true, double combinations as we have here should not be retraced more that 80%, which would put maximum downside to 840ish. The right hand side of the Elliott Wave chart shows the possible %Fib retracements of the move up from March of this year. 840 is the lowest expected drop, with a more likely move to 880-920ish, prior to the final leg up to complete this wave in late August to early September. The alternate is that we completed the move up and will head down now until mid-October. The very bearish scenario is we correct down to 600-650 on the S&P. Whether the pattern corrects this low, or goes down to 840 has yet to be seen. A move down to 800 would increase the likelihood of a drop to 600-650. This is a "see as you go" thing right now and it is best to be flexible with the pattern development rather than state this is what the wave pattern is and that is that. Doing so will force counts that will lead to errors in market calls that can be unprofitable.

Summary

The US dollar index is going to be at current levels for 2-4 months, with the HUI staging a 4-6 month rally and the S&P index falling after August (or now, pending how the pattern develops) into October to December (again, pending when the decline leg kicks in). Next week the XOI and XNG will be updated. I have not looked at the wave pattern for the past few weeks, so a good bottle of Merlot will be in store to examine the count. So, what happens this week? The technicals on the US dollar are neutral for the next while, with no major downswing anticipated unless there is some shocking news. The important thing to remember is that most of the big money in any bull market is made near the end phase, not the middle. Gold will likely move to $500-800 and sit there for years, prior to near the end phase a 3-4 fold explosion in price occurs just like 1979-1980. The time frames for completion are 8-10 years from now, so patience is required, and money can be made trading the gold bull. We are currently in an up-leg with a minor correction occurring right now. There will be a point 4-6 months out when one may consider lighting up their positions and maybe putting on the nose plugs and buying exchange-traded funds. The bull market lasted a long time, and bear markets only end when certain valuations usually come into effect. Being a value investor would keep most people out of making the major coin in the market tops. Sentiment indicators are good for giving a qualitative measure of a market top while technical indicators (not always) will give the quantitative measure of market tops (several indicators should be used to show confirmation).

David Petch
TreasureChests.info

Treasure Chests is a market timing service specializing in value based position trading in the precious metals and equity markets, with an orientation geared to identifying intermediate-term swing trading opportunities. Specific opportunities are identified utilizing a combination of fundamental, technical, and inter-market analysis. This style of investing has proven to be very successful for wealthy and sophisticated investors, as it reduces risk and enhances returns when the methodology is applied effectively. Those interested discovering more about how the strategies described above can enhance your wealth; please visit our web site at http://www.treasurechests.info.

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