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
Current Position of the Market.
SPX: Long-Term Trend - We may soon know whether or not the top of the 4-year cycle bull market has been made.
SPX: Intermediate Trend - The intermediate trend will soon enter a time period during which a reversal is likely. This could lead to a decline that will finally break out of the long term up channel.
Analysis of the short-term trend is done on a daily basis with the help of hourly charts. It is an important adjunct to the analysis of daily and weekly charts which determines the course of longer market trends.
Let's look at some of the major cycles affecting the market currently.
The 12-year cycle bottomed in conjunction with the 4-year in October 2002, and the 10-year made its low in August 2005. These two major cycles are still in their up phase and continue to support the long-term market uptrend, but it is likely that the 4-year will be exerting more and more pressure as we approach October 2006. Judging by the action of the market, it looks as if it made its peak in May and caused a sharp initial downturn because it was assisted by the 9m cycle which made its low in June. The test of the lows in July was the result of the bottoming action of the 10-wk cycle. Since then, it has been a tug-of-war between the cycles still rising and those in a downtrend, with those rising having a slight edge. But this may soon come to an end because of what lies directly ahead.
The 4-yr and the 12-m cycles are ideally due to bottom in October. The next 10-20-40wk combo is also due about mid-October. So it would seem that the number of up-days left is limited before a reversal takes place.
The straw that will break the bull's back may be the 6-week cycle. It is currently rising, and was the cause of the latest rally. But when it reaches its peak -- ideally around 9/8 -- and rolls over. it may start a decline which carries into mid-October.
Before going further, I want to post a weekly chart of the SPX on which the lows of most of the cycles mentioned above have been marked. What was written above is an interpretation of this cycle map and what it represents for the market.
From a strictly cyclic point of view, the above analysis is probably correct. But using only cycles as a tool can be inadequate. This is where technical indicators are helpful, and we'll look at those in a minute, but let's take this opportunity to observe that on the above chart, things continue to move at a snail's pace with the SPX still basically trapped in the lower confines of its rising uptrend channel. This observation in itself would tend to justify the above analysis. If all cycles were supporting one another, we would have a strong trending market as we did from 2000 on down, or from 2003 on up! Since we don't, we can assume that there are conflicting pressures taking place.
Let's now look at the daily indicators to see if there is any hint that our assumption is justified, and that a downward re-adjustment is likely.
The daily chart of the SPX shows that the short-term support mentioned in the last newsletter did hold, and that a rally ensued. As mentioned above, this was caused by the 6-week cycle, but it did not provide much improvement in the daily indicators. The momentum index (at the top) remains overbought, while the bottom A/D oscillator actually looks a little worse than it did 2 weeks ago. This is the MACD of the daily advance/decline ratio. It is very similar to the McClellan oscillator and it is interpreted the same way. Currently, it is making a succession of rising bottoms and descending tops and nearing a decision point whereby it will have to break through one of the trend lines.
The price has been moving in a fairly shallow channel since June 14, when the 9m cycle made its low. If you compare this channel to the longer trend one on the weekly chart, you can see that I have drawn a mid-point parallel in red. For now, the SPX is trading in the upper part of this channel. If (when?) it moves through the red line into the lower section, it is likely to keep going and break below both short term and longer term channel lines in the same move.
You will note that I have also drawn corresponding channels on the indicators, along with the same red line which divides them into two equal portions. The A/D indicator has failed to move out of its lower half while the short-term price uptrend has extended itself. This is not a sign of gathering strength, but rather of developing weakness in market breadth.
I tell my subscribers over and over again that technical analysis is a study in probability. First, you see something appearing on the horizon which becomes more and more discernable as it comes closer. When close enough, you are able to convert the probability into near-certainty, or to dismiss it as inconsequential. Right now, the cycles analysis makes it more and more probable that some sort of an intermediate low will take place in October, with the 4-year high -- in retrospect -- having occurred in May. Over the next two weeks, the daily indicators will get a chance to validate this scenario, or to dismiss it.
The hourly charts are always capable of giving us more information. Here I compare the SPX to the NDX on a short term basis.
Let's talk about the SPX first. The low point on the chart marks the low of the 10-week cycle. The secondary low is that of the 6-week cycle, which is now almost halfway through its span. The channel lines represent the price trends, and the ubiquitous red line, the mid-channel line. The thing which stands out right away, is that the SPX is losing its upside momentum. The new trend channel is going up at a less steep angle than the one from the lows of the chart. If this persists the next few days, it will indicate that the uptrend is weakening and that deceleration is taking place. Since this is a prelude to a reversal, it tends to support our scenario that prices are about to roll over. But this is only an early sign and it is not yet conclusive.
The NDX has changed its well-established pattern of being weaker than the SPX and has begun to move in tandem with it. I mentioned in the last newsletter that the QQQQ -- a smaller replica of the NDX -- had made at least a temporary low at 36 by filling a Point & Figure target. If my cycle analysis is correct, I would expect the QQQQ to go back and re-test its 36 low as both indices roll over into October. If the NDX progressively grows to out-perform the SPX, it will mean that another good uptrend should soon follow.
And finally, let's look at all the markets. I think you will see that a loss of upward momentum is beginning to appear in more and more indices.
Cycle analysis suggests that the first phase of a sell-off from May 8th to June 14th could soon be followed by a second one lasting into about mid-October.
More evidence of this scenario should come over the next two weeks.