Saturday, January 23, 2010

Welcome Back to Financial Thunderdome.....Two Man Enter, One Man Leave, Two Man Enter, One Man Leave....

For those of you who don't know what I'm talking about when I mention "Thunderdome", check out this 8 minute clip of the classic movie "Mad Max Beyond Thunderdome". The financial markets appeared to have formed major tops and have now reversed in a huge and power wave [3] or C. If correct, it's about to get crazy ugly and nasty. Watch the clip and you'll see the parrallel between Thunderdome and what we're about to enter in the financial markets....

Okay, enough silliness, let's get down to business. The market is breaking down at numerous levels. So many that I'm not going to discuss them all here, but will illustrate the ones I feel most significant. First, let's take a look at the weekly S&P cash index wave count to get a clue as to the bigger picture, and where we're at right now as I see it:

As you can see, with last week's decline it has created the wave Z of [2] or B top. Meaning that a huge and monstrous wave [3] or C is at its very early stages right now. Both 3rd and C waves are very powerful and deliberate waves, so it's of little importance at the current time which one we've started. But the above chart should give you an idea of the magnitude of the decline we're about to embark on. So now let's look at an S&P daily chart that shows up close what happened this week:

This week's decline took us to about the same levels we were at on October 14, 2009. So in just 3 days, the S&P knocked out 3 months of progress! That's amazing, and is just another sign that the trend has changed from up to down. What's also signficant about this chart is that we easily broke right through 1115, which was the upper channel that held the market for several weeks, and even broke and closed beneath the important 1100 level as well. This is huge. It shows that a lot of folks are throwing in the towel who would have normally offered some kind of resistance at these levels. With that said, we still have the all important 1082 level that has really given the bears problems the past few months. Remember my chart from a few weeks ago citing key levels to be broken (click here for chart). So, will the S&P break and close beneath this level to basically put a nail in the coffin for the bullish case? To help us with this answer, let's look at how the short term wave count is unfolding right now with the 15min chart below:

As you can see I modified my 15min chart S&P count to the much more aggressively bearish counts I had on the Nasdaq and Russell. Friday's continuation and acceleration of the downtrend has forced me to alter my count this way. It appears that a series of 1s and 2s have unfolded which when complete, should lead us to some sideways down action as we get a series of 4s and 5s unfolding which should happen next week. With this count on track, it seems like it should be no problem at all for the S&P to break and close beneath 1082 some day next week. In my view, that will leave little doubt at all that a major top is in and the big daddy wave [3] or C decline is underway that should last many months. So, now let's look at the RSI momentum indicator on the weekly S&P chart:

Here you'll notice that the RSI momentum trendline that has held this market up the past 10 months has been significantly broken. Now this isn't an hourly or even daily chart, it's a weekly chart. So this is a very reliable indicator that the market's momentum has now turned south. The only thing I see as a potential warning sign to the bearish case is that we had a decline nearly identical to this one a few weeks ago as you can see in blue circles on the chart. Last time it led to the market reversing the downtrend and rallying to new highs. A red candlestick to new lows next week will negate this similarity. Now let's look at the RSI divergences on the weekly chart:

Take a look at what the RSI did leading into the March 2009 low. The S&P made a new low, but the RSI did not. This bullish divergence eventually led to the 10 month 72% rally we've just encountered. Now look at the recent behavior of the RSI and S&P. We now have the exact opposite occuring. The S&P grinded out a new high while the RSI did not. This bearish divergence was confirmed with a turn and close lower this week. This is signficant on a weekly chart, and combined with the other plethera of evidence suggesting a top is in, it adds even more importance to this indicator. The last divergence led a 72% move in the market, will this current divergence do the same to the downside? or more? Lastly, let's look at the VIX real quick:

The VIX did the 2nd option I mentioned in last week's post (click here for entire post) in that the market kept falling lower and the VIX kept surging higher, forbidding it to fall and close beneath the upper bollinger band (red circle) which would trigger a buy signal. This is due to the huge amount of fear and put buying sparked from enormous complacency in the market's rally up to this point. Once the VIX does close beneath that bollinger band, it will signal that the short term decline will likely end very soon and the market will rally. I expect this to happen when the first large wave 2 is ready to get underway. But that hasn't happened yet, and the wave structure suggests the market will subdivide lower next week to break new ground to the downside.

As for the AUD/USD and the GBP/USD, the pairs should work themselves lower to at least one more new low. The stops remain the same as recent updates with the GBP/USD stop at 1.6295 and the AUD/USD stop at 0.9285.

See you all next week!



John said...


Thanks very much for your analysis! I'm curious whether you would consider using for instance, a chart of the $SPX from the October 2007 high to the March 2008 (wave 1 of 1 of c) as a template for this possible 1 of 3 of c?

John said...

Todd, thanks very much for your comments and insight! Have you considered using the $SPX daily chart from approx. Oct. 2007 thru March 2008 as a template for the move beginning last week? Do you think they might be similar? Because we may be beginning 3 of c, might the fall be more abrupt?

Todd said...

Hi John, yes we can use the prior wave structure as templates moving forward, but I'd use them more as guidelines, or something to be very speculative when predicting minor tops of countertrend rallies.

And you're right, this wave 3 or C should be much more powerful and abrupt than the first wave down, so it's quite possible, although not required, that rallies will be short in both time and price. Because of this, it may be hard to get new short positions during this wave once it gets rolling.

If you have any charts you'd like to send on anything you might be analyzing, I'd love to see what you have. Just email them to me at


Dave427 said...

Tood - I enjoyed your analysis and esp the comment about market complacency during the March till now rally. Was this rally mainly fueled by big banks using thier TARP funds to invest instead of loan, thus the complacency by "normal" investors? I am wondering if the Brown win in Mass was an indicator of shift in socal mood, showing that the people are fed up. Also, last week there was a fashion show in Paris where they presented their "apocalyptic" line - Precther says when fashion beomces "dark", the mood is down. Anyway, thanks for your insight!

Todd said...

Hi Dave, I would say that is part of the reason for the rally during that time as banks haven't really been lending much money, only hoarding it when they get it from the Fed as it tries to inflate the financial markets. In doing so, it battered the dollar and caused equity prices to rise artificially on dollar weakness. That's my take.

I think Prechter would agree with you on the Brown shocker in Mass last week. People ARE fed up and revolting against those in power. It seems everything Prechter has predicted would happen has happened, except for the stock market falling hard. But that may be underway now.