Friday, July 30, 2010

MTU Weekend Ed. - The Bull Trap Continues (7/30/10 Close)

Bottom line –
Three top scenarios have emerged following market actions over the past week (Chart 1).

The most likely scenario (grey labels), in my view, suggests a continued rebound moderately beyond the June high (1131.23 in SPX) before a fresh sell-off to levels below July lows (1010.91 in SPX) begins. The wave structure in stocks, and price actions in the VIX and the US Dollar index support this scenario.

The second most likely scenario (blue labels) allows for a stronger rebound (a deeper upward retrace), to around 1170 in SPX, before a fresh sell-off to levels below July lows commences.

A lower probability scenario (red labels) has Tuesday’s high (1120.95 in SPX) hold as minute wave [ii] of minor wave 3-down and calls for an immediate sell-off ([iii] of 3-down) to new lows. Keep in mind that lower probability events do occur some times.

Thus, the bull trap (led by a second wave rebound) continues.

Details -

[Grey Labels] Minor wave 1-down ended early June as a leading diagonal. Minor wave 2-up is tracing out a lengthy expanded flat with [c] of 2 being an ending diagonal. Friday’s low should hold under this count and 2-up should end at levels moderately above the June high.

There are a couple of things going for this count in terms of its wave structure. First, the ratio between [a] of 2 and [b] of 2 is within the typical range of an expanded flat. Second, while a leading diagonal (1-down) should often see a deep retracement (2-up), it seems that what price has failed to achieve (in a P3-down environment) is compensated by the amount of time wave 2-up has taken up to develop – this is a feature familiar to E-Wavers.

Price actions in the VIX and the US Dollar index appear to support this scenario as well.



One count identifies a triangle (b) wave in the VIX (Chart 2) – if this count played out, a final post triangle thrust lower in the VIX would accompany a final upward stretch in stocks.

The pull-back in the USD index has finally entered the upper-end of the text-book target zone (Chart 3) following an extended fifth wave. There’s room on the squiggles to allow for a final downward thrust in USD, which would accompany a final upward stretch in stocks.

[Blue Labels] Minor wave 1-down ended in early July as a larger leading diagonal. Minor wave 2-up is tracing out EITHER a complex double three OR a zigzag with an extended “zag” (see the Friday rebound portion of the squiggle count on the Wilshire 5000 in Chart 5 below.) This count allows for a deeper upward retrace to around 1170 in SPX, before a fresh sell-off to levels below July lows (1010.91 in SPX) commences.

The wave structure in the 10-year Treasury yield support this count (Chart 4), with the caveat that bond market technicals tend to dislocate markets more often than not in the current QE-prone environment.

[Red Labels] Minor wave 1-down ended in late May and Minor wave 2-up ended at the June high. The early July low is [i]-down of 3-down and Tuesday’s high (1120.95 in SPX) marked the end of [ii]-up of 3-down. A powerful [iii]-down of 3-down is in its early stages.

Chart 5 offers a squiggle count on the Wilshire 5000 index under this interpretation.
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