When 2014 got off to a weak start, everyone wondered what could have possibly changed in just a couple of days to suddenly alter the market's mood. The truth is that a massive Bearish Butterfly harmonic pattern, which began at point X back in October 2007, finally made contact with the top of its PRZ #1 at 1849. Market participants went home that evening with a big smile on their faces, looking forward to ushering in the new year. What someone forgot to tell them, however, was that PRZ stands for Potential Reversal Zone. Sure enough, the potential for a reversal was realized weeks later to the tune of 120 points that finally ended in February 2014, upon reaching the median line of the black Andrews Pitchfork.
Chart 1 below tells the whole story.
From the February 2014 low, impulsive action developed in the form of the 5-wave structure that ended in mid September. This was as close as the index had ever gotten to the top of the pitchfork since the start of the rally in October 2011 (labeled point C and wave 2). The ensuing sell-off went on to back-test PRZ #1, finally ending in mid October and relinquishing control back to the underlying bull market.
The rally from the October 2014 low up to point D unfolded as a terminal diagonal that brought wave 3 to a completion. Wave 4 would then get underway, with wave a' stalling at the bottom of the pitchfork and wave b' bouncing back towards the median line. Finally wave c' took charge and headed down to PRZ #1. Boom!!! Correction over. A 'textbook' zigzag.
Chart 1. Massive Bearish Butterfly. The corrective action in October 2014, and again in February 2016, aimed to back-test PRZ #2.
Why this history lesson? Because if you live in the financial Twittersphere, EVERY MARKET HICCUP IS A BIG F------ DEAL!!! And I tell you it's not. In reality, market participants inhale and exhale, and hence the market. There's no way to inhale without exhaling first, making pullbacks necessary and a fact of life.
The Pause That Refreshes
Fast forward to the present. On the heels of the gigantic move that's unfolded since February 2016, it's time for the market to pause and exhale. This came in the form of a sideways movement that began on August 15th. This sideways movement is best interpreted as an Elliott Wave FLAT pattern (a-b-c) that ended at Thursday morning's low, as depicted in chart 2. Also highlighted in the chart is the ensuing relief pattern expected to end on Friday somewhere in the vicinity of 2182. This relief pattern is also a FLAT, and it implies more corrective action ahead. In effect, this sideways pattern is a double top, a precursor to further pullback.
Chart 2. A sideways FLAT (a-b-c) is the market's way to correct in terms of both PRICE and TIME. But the relief bounce is implying more corrective action ahead, aiming to cover more PRICE territory.
How do we ascertain whether this double top will fail or succeed? We do so by studying the ensuing relief pattern. Given its FLAT nature, we know with a high degree of certainty that more downside action is to follow in the coming days because a FLAT is not how a new trend begins, or an underlying trend resumes. In fact, a FLAT is one way a trend pauses to breathe. Eventually, the double top will confirm, and when it does, our sights will be set on the 2143-2138 area.
Notice that chart 3 is a close-up view of chart 1. The red zone is that same PRZ #3 - EXTREME that was reached in 2015 ahead of the August 2015/February 2016 bear market phase. Having gone through it and held above it for 8-9 weeks, it's time to back-test it. This is no different than what happened in October 2014 with respect to PRZ #1.
Chart 3. A double Top has its sights set on the red zone. What is this red zone? It's the massive Butterfly's EXTREME PRZ depicted in chart 1.
We rely on Tom DeMark's Sequential and Combo indicators to gauge the market's exhaustion level. As far as the $SPX is concerned, a weekly-timeframe TD Combo 13 Sell count was registered the first week of August. The same goes for the $DJIA, whose TD Sequential 13 Sell count came the week of July 11th.
The $NDX registered a daily-timeframe TD Sequential 13 Sell count on August 12th, and so did the $SOX on August 19th, just two days ahead of the exhaustion gap on August 23rd. The $SOX also registered a TD Combo 13 Sell count on August 15th, four days ahead of the TD Sequential 13 Sell count. Finally, the $DJT registered a TD Sequential 13 Sell count on July 14th.
All sell signals remain intact.
To Raise or Not To Raise
Pundits continue to debate the probability of the Fed raising rates again soon. Toss aside the financial media and take a look at the chart of the $BANK index below. What is it saying? In the face of weakness across all major indices, $BANK continues to forge ahead, its sights set on the Butterfly harmonic's PRZ #1, at a minimum.
Chart 4. $BANK seems to be telegraphing an imminent rate hike.
Peter Ghostine (@peterghostine)
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