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For the last 4 weeks, media pundits and market commentators have (rather tiredly in my opinion) prattled on about shares “getting ahead of the fundamentals” and how the market should “pull back”. Needless to say, they were all wrong; however, if they keep sticking to their guns, eventually they will be right. Pure genius.
Shares are, by their nature, leading indicators of economic data, so they will ALWAYS get ahead of the fundamentals. Share prices represent businesses, their revenue and opportunities in real time. Economic and fundamental data represents information that has been gathered, compiled and reported - and that takes time. Additionally, markets never go up in a straight line so they will ALWAYS pull back at some stage. The point that all the commentators have failed to get right and the most important (in my opinion) is WHEN!
Looking at Elliott Wave on the S&P 500 (SPX.CBOE) I’d like to suggest that the final wave is about to hit some serious resistance and a pullback may occur within the next 20 points or so. Of course, signal bars and a valid entry criteria will all need to be observed and triggered before a position is opened, but the current structure should put all those currently long (myself included) at battle stations!
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Elliott’s Theory suggests that if wave 3 is less than 1.618% times greater than Wave 1, then Wave 5 should equal a proportion of the range from the start of the count to the end of Wave 3. Those proportions are shown in the diagram above.
If you look below, you can see that this is my proposed scenario on the SPX. Wave 3 was indeed less than 1.618 times greater than Wave 1 and, as such we should see Wave 5 conform to a proportion of the Wave 0 – 3 count. Note that the wave count for 1 to 2 has been altered from the original ProfitSource algorithm, this allows me to override the ‘forced’ count determined by the software and apply my own reasoning.
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By using the wave extension tool we can then begin to create a series of potential turning points for the market, based upon the range created by the distance between the start of the count and the end of the third wave .The first point will be 61.8% of the range, the next 100% of the range and the next 161.8% of the range. Should the market extend further, then the count will have to be accepted as incorrect and revised. Either way, a proficient trader will not be concerned. You should always wait until a confirmation trigger or pattern is activated before taking on new positions as no one system is infallible. In the next image, you can see the wave extension tool in action and the first resistance point is illustrated:
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Of course, should this level break, Elliott’s theory would suggest that the next resistance level will be 100% (or equal to) the 0-3 range, a further 120 points higher.
The pull back is inevitable, the real questions are when and how far will that pull back go? Although I have not addressed the latter point in this article, Elliott analysis provides a framework from which any trader can begin to build and execute trading plans and systems.
Stay Sharp,
John Jeffery
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