A 3-dimensional approach to technical analysis
Cycles - Structure - Price projections
"By the Law of Periodical Repetition, everything which has happened once must happen again, and again, and again -- and not capriciously, but at regular periods, and each thing in its own period, not another's, and each obeying its own law ... The same Nature which delights in periodical repetition in the sky is the Nature which orders the affairs of the earth. Let us not underrate the value of that hint." -- Mark Twain
A Review of the Past Week
The bears got another sound thrashing, this past week, as the bulls stampeded and sent the SPX and other indexes to new highs for the year. The Dow Industrials did not make a new high, but broke out of its down trend decisively recording a weekly gain of 290 points. The advance/decline and new highs/new lows indexes fully supported the move, sending the McClellan oscillator to its highest level in 20 weeks. Although it is in an up trend, the NASDAQ is under-performing and a long way from making new highs. If this relative weakness persists, it could be potential trouble down the road.
The generally accepted reason why the market performed so well is that the election results were to its liking. I choose to think that the more abstract cause is that the10-year cycle has now decisively turned up, driving prices higher.
Current Position of the Market.
SPX: Long Term Trend - The long term trend turned up in October 2002 in conjunction with the 12-year cycle. It is now reinforced by the 10-year cycle. A top is likely in 2005.
SPX: Intermediate Trend - A strong intermediate buy signal was given this past week.
SPX: The Short Term Trend continues to be up.
Because of market volatility, the short term trend is better analyzed on a daily basis. This is done in our daily market updates and closing comments.
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The Short Term Trend is being monitored continually through daily Closing Comments.
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There is one cycle which could soon put a damper on the rally. The 9-month cycle normally has a span of 38 to 44 weeks. If my calculations are correct, this means that we can expect the next low to be between late December and mid-January.
Based on a structural analysis of the SPX, it looks as if we are currently in wave (3) of the move which began at 1060 in August. It also looks as if we are about to complete minor wave 3 of this wave, with 4 and 5 to come. This analysis is shown graphically in the charts section, below. The third wave of a move is normally the strongest wave and this would explain the current strength of the market. It would be much better if we could complete (4) and (5) before the 9-month cycle causes a price retracement. This would give more lasting credibility to the up trend.
In any case, a downturn is nearly always preceded by divergences in momentum, A/D and NH/NL indicators. These are not yet evident. In an up trend, they normally appear in the fifth wave. How much weakness is caused by the bottoming of the 9-month cycle and, especially, how much strength is generated when the up trend resumes will tell us a great deal about the viability of the long term trend. Neither the Dow Industrials nor the NASDAQ is expected to reach new highs until after the next intermediate cycle bottom. But it will be essential that they do so afterwards.
Cycles and Psychology
Some day science will investigate the cause of cycles and their effect on world events and human psychology. For now, we can only speculate on the former and observe the latter. The major cycles have the biggest impact on the human race and it is obvious that investors are affected psychologically by cyclical forces. The 4-year cycle is one of the best examples of this rhythmic pattern. Not only does the stock market sell off like clock-work every four years, but an economic slowdown -- and often a recession -- is associated with the bottoming of this cycle.
The 4-year cycle is now past its half-way point and it will put increasing downward pressure on the stock market as we move into 2005. For now, the 12-year and 10-year combination still have the upper hand and the 9-month cycle will add its upward push after it has bottomed. But at some point next year, the opposing forces will come into equilibrium and then the decline into October 2006 will begin. This is the long term scenario which will need to be monitored.
Oil, Gold and the Dollar
Crude oil has sold off after reaching 55 which was the P/F projection determined by the accumulation pattern that had developed between 26 and 32. In reaching this projection, it also formed a 5-wave pattern which took nearly a year to complete. This may or may not be the final high for oil, but it should be at least an intermediate term high which should preclude higher prices being reached in the near future. The current pattern calls for a maximum retracement to 44/45.
The recent weakness in the dollar is resulting in higher gold prices. The commercial gold traders covered some of their shorts this past week (not a significant amount) which indicates that they might be expecting slightly lower prices in the dollar and slightly higher prices in gold.
I am including a daily and an hourly chart of the SPX in order to demonstrate my interpretation of the current structure. Please keep in mind that this draws from, but is not a strict interpretation of, the Elliott Wave Theory.
The intermediate and long term up trend resumed in earnest this past week with several market indexes reaching new highs for the year and clearly demonstrating that the intermediate term consolidation which started last March is over. If the 9-month cycle, which is expected to make its low between late December and mid-January, does not bring about too much weakness, then the positive trend is expected to continue into about mid 2005.
The NASDAQ is not leading this move, but following, and this could be a concern if it fails to make new highs in the next few months.