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This may sound unseasonable. Most market commentators are beginning to come around to the idea that the current pullback was an expected correction and things are going to waltz along as before. I’m not so sure. From a macro economic perspective (and despite the rise in bond yields) I think it is fair to suggest that there is only a 55/45 percent chance of avoiding recession in the US. And every day the housing slump continues that number gets closer to 50/50. A consumer-led recession in the US will affect the world economy. Since Australia’s recent phase of economic expansion has been fueled by an export boom, the worldwide slump will no doubt be felt here.
Leaving the economic arguments to the side, let’s have a look at some longer term technical perspectives that suggest that the July top on the Dow Jones 30 was the top for the year. Should the market unfold in accordance to Elliot theory as illustrated below, we will see the onset of nothing short of a two-year bear market retracing to around 7400. Of course, this is one of many possible numbers with no guarantee that the market will correct. It is just one potential ‘roadmap’ to use as a guide.
Chart 1 – INDU Monthly Bar Chart
click chart for more detail
If a ‘normal’ scale was used, the early waves would seem irrelevant and could be overlooked in our count. In order to avoid this, a logarithmic scale is usually applied to longer term technical analysis. The waves of the current ‘five’ (motive pattern) have been labeled. Should agreement be reached that this is the correct count so far, we can determine when and where Wave 5 should end.
One simple way of trying to identify the high of Wave 5 is to take the total price movement from the beginning of the count (770) up until the high of Wave 3 (11750). This price is then projected forward from the end of Wave 4. Fibonacci ratios of the projection are used to forecast the high of Wave 5. The most important Fibonacci ratio is 61.8%. A projection of 61.8% would give us a Wave 5 high of 13982 points. The Dow thus far has topped at 14022 points.
As mentioned before, this is one of a number of different ways of calculating the end of the motive pattern in Elliot analysis. For a further example, Wave 5 should also be a 162% extension from the beginning of the Wave 4 low in 2002. This would project a Wave 5 high of 14564 points. Time projections (too complex to investigate here) suggest that Wave 5 should have peaked in mid June to early July. Things are certainly looking ‘toppy’.
Regardless of the correct count, or even the next probable count, a trader should make decisions based on a solid trading strategy. As always, longer term forecasts and longer term analysis are better guides for investing and sector choice than day-to-day speculation.
Stay sharp,
John Jeffery
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