Wednesday, April 14, 2010

S&P Made 3 Waves up, Probably has Further to Rally, then Perhaps a Major Top

S&P Cash Index

So the S&P didn't read my post yesterday to know that it was overbought and should fall soon. But that's okay, I'm not offended. The extension and strength of the rally suggest it's a wave iii instead of a wave v that I suggested yesterday. This allows for another down-up sequence before a top. With options expiration coming this Friday, it shouldn't be difficult for us to accomplish that.

MACD Histogram

Above is a daily chart of the S&P cash index with the MACD histogram. The histogram shows us the divergence between the moving averages it charts (not shown). So a healthy and strong uptrend should be accompanied by the histogram increasing as well, which would indicate the moving averages are trending strongly upward. When the histogram moves in the opposite direction as price, it MAY signal an exhausting trend. In the above chart you can see that since March, price has charged aggressively higher while the histogram has declined and now gone flat. So momentum behind the push higher has waned. Now this is not a timing indicator since it can continue to exhibit this diverging behavior for a long time, but when I see stuff like this I know it's a bit late to jump on with the uptrend and that I should be looking to get short.


Above is a daily chart showing the RSI, another momentum indicator. Here you'll notice that the RSI is well into overbought territory and is the highest it's been for the entire rally from March 2009's lows. Again, this is not a timing indicator, but it does let us know when momentum is running out, or in this case, extended.

I can go on and on with these momentum indicators and fibo retracement levels and other stuff, but we've been grinding out these indicators for several months only to be faked out time and time again. The market will roll over when it's ready. The key for me is to stay mentally focused and disciplined to keep my eye on the target, and that's for a very large wave [3] or C decline to occur soon. Once it gets rolling, we'll know, and we can then make sound decisions to increase our profit potential. Patience is key.

Three things stand out to me currently that now have my attention at looking for a larger top than previously expected:

1) The RSI is at such a high extreme that it leaves the implication that perhaps this upcoming top will be larger than what I've been expecting. The extreme overbought nature of this market is astounding, and may lead to just as an astounding decline.

2) I have three friends that have retirement accounts that they manage themselves but they are far from economic or finance savvy at all. They missed most of the entire decline in 2007-2009, but have been cashing in on the big rally from the March 2009 lows. They know my very bearish long term position, along with Prechter's, for a major top and they know that I've been wrong as well recently. But today was the first day that all three of them boasted to me about how financially savvy they are, and how much money they've made on this rally, and then preached to me about how to trade the markets, and laughed about how wrong I've been for a "major top". For non-financially savvy folks like this to be boasting about how financially savvy they are and then rub in my face how right they've been screams at me that this rally from the March 2009 lows is in its latter stages. Optimism, even at the micro-levels, is at a real extreme. Pay attention to it.

3) And lastly, let's not forget the reliable VIX indicator. Yesterday the VIX confirmed the sell signal which means sometime in the next few days we should have a top and reversal. Considering all the momentum and sentiment extremes that exist at the moment, it's quite possible that a much larger top may be forming than originally expected.

We've been faked out several times for "the top" to register in the past, but that doesn't mean we should ignore signs of a major top being in from now on. Again we are approaching what appears to be a major turn in the market to the downside. We don't have to catch the absolute top tick, there should be plenty of time to make a well thought out disciplined approach to maximizing profits if "the top" does occur.

Let's see what happens in the next 1-4 days.



jxxd said...

Rationale #2, non-saavy folks, is in my 25 years experience highly reliable and actionable anecdotal information coming after such a long and large rally. I feel fortunate to know this. A real-time stock market chat board I'm on is made up mostly of largely defeated bears with some recently, and relativeley ebullient bulls.

moola said...

IS THIS IRRATIONAL EXUBERANCE OR WHAT? I Gave up and go long tomorrow.Moola

Todd said...

Interesting JXXD, thanks for sharing. The optimism is coming through on TV and in written journalism as well. But I thought my group of friends was quite unique, much like your forum, and probably a bit more reliable since it's first hand unfiltered data..


Todd said...

Yeah Moola it's quite ridiculous but I'm holding short for the near term pullback at a minimum. But I have a feeling it might develop into much more.

jimbo said...

They absolutely killed Precther on CNBC lst week

agnes said...


What do you mean when you write we are in for a "more" important top?

Some months ago, you were talking about P3 now?


Todd said...

Hi Jimbo, thanks for posting that because I would have missed it otherwise. I used to watch FastMoney everyday when Ratigan and Mackey were on, but now the show is crap in my view with perma bulls doing cartwheels all day on the show.

This is unusual for Prechter to go on here because he's said many times he doesn't like getting into shouting matches with people so he usually only does interviews if he's the only one on. Perhaps his subscriptions have tapered off a bit so he's spreading his wings into areas he normally doesn't go into.

And I'm actually glad those guys on FM are laughing at him and blowing him off because that only strengthens his case in my view. The FM crew preaches to the mainstream masses, and if they were scared or on board with Prechter, that would be concerning. But their blind optimism and dismissal of Prechter's caution is encouraging for the bears. I watched FM the past few years and no one was calling for a major top and decline and most of the time they spent the whole show talking about stocks to buy as the market descended lower. Big bears Fleckenstein, Nourial Roubini and Doug Cass always get a lot of crap from the FM crew. During the last big decline, some of the FM crew were bearish and expressed caution here and there in the short term, but no one on that show prepared us for the magnitude of what 2007-2009 gave us, NO ONE did. But Prechter did give us the play by play on it from start to finish. Prechter should have asked them where the fu$@ they were in October 2007 when people should have been extra cautious, not throwing "Fast Money" at their buy recommendations? Why doesn't the Fast Money crew run down the list of stocks they recommended to the public to buy during that time and compare them to Prechter's recommendations? FM missed the last top, so I don't expect FM to give us the scoop on a major top this time around either.

Thanks for posting that video! Good stuff.


Todd said...

Hi Agnes,

The past couple weeks I've been expecting a modest correction downward followed by another surge higher to niew highs that should finish off wave [2] or B. But with the extreme measures reading on this rally at this point, I'm now thinking that it's more likely that wave [2] or B will top now. So instead of just a correction coming before new highs, I think the upcoming top might be the start of wave [3] or C.