Too Much to Analyze

For the past couple of days market has been going sideways. Today's market action saw a very sharp decline in the VIX. This behavior might be positive in the short-term, but it definitely is not good for the long-terms prospects of the stock market. Sharp drop suggests that people were complacent through out today's trading, which does not bode well for the market. Overall, it seems like the market needs further sideways action to overcome the near-term oversold condition, and to complete the correction pattern needed before the next decline phase.


As I was reading through the news, pursuing through the charts, and analyzing the economic data, I came across multiple interesting topics to write about. These topics will be addressed over the next few weeks:

1. Copper: Is the chart showing an economic cliff?
2. Emerging Markets: Is the chart showing another credit crises brewing?
3. Global Stock Market Index: When will we get out of the 1.5 year bear market?
4. Gold: New highs in store?
5. Oil: Breakout or Breakdown?
6. Implications of Presidential Elections on the Stock Market: The Conclusion!!
7. AAPL: The Curious Case of Social Mood
8. Housing Market: Recovery Complete? Get ready for the next leg down?
9. Consulting Endeavours: Discussion of small business / small business investment analysis performed for clients. This discussion will help the blog readers in making educated business decisions.

Among all of the above topics, I will start with the concept of Head and Shoulders. And will use it as a segway into topics 1, 2, and 3.

HEAD & SHOULDERS TOP
 

The Head & Shoulders (H&S) formation consists of a left shoulder, a head, and a right shoulder and a line drawn as the neckline. It typically indicates a trend change. We have experienced several H&S completed at various degrees of trends prior to major tops, such as 2007 top, 2000 top etc.

The left shoulder is formed at the end of an extensive move during which volume is noticeably high.
After the peak of the left shoulder is formed, there is a subsequent reaction and prices slide down to a certain extent which generally occurs on low volume.

The prices rally up to form the head with normal or heavy volume and subsequent reaction downward is accompanied with lesser volume.

The right shoulder is formed when prices move up again but remain below the central peak called the Head and fall down nearly equal to the first valley between the left shoulder and the head or at least below the peak of the left shoulder. Volume is lesser in the right shoulder formation compared to the left shoulder and the head formation.

A neckline is drawn across the bottoms of the left shoulder, the head and the right shoulder. When prices break through this neckline and keep on falling after forming the right shoulder, it is the ultimate confirmation of the completion of the Head and Shoulders Top formation. H&S necklines can be down sloping or up sloping, depending to the severity of the trend.

Neckline Break: The head and shoulders pattern is not complete and the uptrend is not reversed until neckline support is broken. Ideally, this should also occur in a convincing manner, with a high increase in volume.

Support Turned Resistance: Once support is broken, it is common for this same support level to turn into resistance. Sometimes, but certainly not always, the price will return to the support break, and offer a second chance to sell.

Price Target: After breaking neckline support, the projected price decline is found by measuring the distance from the neckline to the top of the head. This distance is then subtracted from the neckline to reach a price target. Any price target should serve as a rough guide.

HEAD & SHOULDERS - THE REALITY

• All H&S patterns do not result in sharp declines. If a pattern is shorter in duration, it might just be a continuation pattern. On the other hand, if the pattern is longer in duration, it would suggest a market top is at hand.

• H&S patterns graphically portray the distribution that takes place at market tops, from stronger hands to weaker hands. Throughout this pattern, prices remain in a tight range because both buyers and sellers fight out for the true price of the asset. Typically, people who owned the stock since the bottom want to sell their positions and lock in profits. Whereas, those who initially missed the boat want to buy in. Soon thereafter, all the buyers are exhausted from the market place and only sellers remain. This lack of demand pushes the market down to the next level of support because the volume needed to drive the stock prices higher is absent. As a result, the right shoulder is usually lower than the head. Finally, when the market comes back to the neckline for the 3rd time in the right shoulder, it breaks below the neckline. This break often results in a sharp decline of prices.

In the next article we will be analyzing the impact of the H&S formation in the Copper chart (as of today) and its probable consequences on the global economy.

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IPM Time Line

 

Latest IPM Model update was sent to subscribers over the weekend. Following is the projected trajectory of the Market. This diagram along with the exact IPM model turn dates will help one to identify the trun points and their implication in terms of market.

 

  

Market structure was explained in the last post. It will be very inetresting t see how the market behaves in the next few days.

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Post Election Market Structure

Today I had three options to write on:
1. Conclusion of the Stock Market and Presidential Elections series
2. Apple: The perfect case for social mood analysis
3. Market structural analysis and IPM

After careful consideration, I have decided to write on the market structure because it appears that we are very close to a market turn. IPM Model subscribers already know the turn date and they should be ready.

We will analyze charts of SP500, Nasdaq and DJIA, to get a better understanding of the market.

After going sideways in July, markets rallied strongly till September. After September markets started creating divergences. By the time October top came (as predicted by IPM model), only DJIA made a new marginal high. This behavior is classic truncated top behavior.

DJIA

Since October top markets have declined very sharply and in clear 5 wave fashion (shown above), with a slight possibility that instead of 5-wave decline we are seeing 1, 2 and i, ii, which will be followed by a strong wave (lower possibility because the IPM turn date is very close).

Nasdaq

SP500

The 1/2, i/ii case is only a high probably through the SP500 charts because wave 4 is overlapping with wave 1. But we have seen this in past and therefore, it should not be considered a concrete evidence that we will further decline in wave 3 immediately.

In the big picture, 5 wave decline means two things:
1- The primary trend is now down, as confirmed by the 8/4 test (market has declined about 30 points from the point of completion of 8/4 test).
2- We should soon see a bounce in the market after completion of the 5th wave (which might have completed already).


It is so very interesting to see how the Elliott wave structure, elections rally and the subsequent decline, 8/4 test completion and other market matrix measures came to get aligned with the upcoming turn date. This shows us that neither markets are random, nor are they news driven. Markets path is predetermined by some other power (nature/God/social mood). No matter what one might call it, markets are very intriguing.

Please note that the upcoming rally will be short-term in nature because after a 5-wave decline, we typically get 3-wave counter trend rallies. As a first signal that the market has bottom for the short term ( ~1 week), market will rally above 1385. However, one should use this opportunity to identify a sweet spot to short the market because we will soon decline into the next turn date. A rise to new high above 1464 will invalidate further decline scenario. Therefore, as mentioned in the comments section of the last post, please use specific triggers to identify trade entry and use risk management to avoid significant posses if the market does not go in your direction immediately.

Based on the Elliott eave analysis, market should rise to around previous 4th wave area i.e.  around 13150 to 13250 in DJIA and 1420 to 1435 in SP500. This is typical retracement area for 2nd wave.

The decline which will follow this rise will govern the nature of market action over the next year or so. If the market declines very sharply and the negative breadth increase to suggest that we are in the 3rd wave, this would mean that the big decline has started and one should get ready for serious losses. On the other had, if we only see a 3 wave decline into end of November (from October top) then that would suggest that we still again rally. In both cases, there will hopefully be a substantial Santa Clause rally either to new high or to lower high.

We will keep the subscribers informed about the important turn dates so that you can prepare for upcoming market turns.

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Implications of the Presidential Elections

As mentioned in the last post, last 3.5 years saw doubling of the stock market prices i.e. from 6500 to 13000 (DJIA). Under such circumstances and keeping in mind that humans have a short memory span, it was very difficult to beat the incumbent President in the Presidential Elections. We can also say that Mitt Romney chose the wrong time to participate in the elections. 

Yesterday’s elections were a clear representation of the optimistic social mood. Everyone knows that the last 2 years have not resulted in any productive legislation, but even with such a bad record voters voted to keep the status quo. This voting behavior highlights how people think and how they perceive the stock market as the barometer of the health of the economy. In any case, yesterday's results will have far reaching implications for the entire country.

FUNDAMENTAL/POLITICAL ANALYSIS

We all know that during the last 2 years, when House was occupied by the Republicans and Senate was led by the Democrats, we did not see anything constructive in Washington. We only saw political point-scoring and bickering over critical issues like budget. This situation is going to continue over the near future, which means that nothing significant will be done for the economy. Thus, we might soon experience the fiscal cliff, sequestration and/or budget cuts. All of these actions will be detrimental for the economic growth. At the same time, Democrats will push their agenda for the tax hike which has been a contentious subject for Wall Street. In short, status quo is a bad omen for the American economic outlook.

SOCIO-ECONOMIC PERSPECTIVE

As far as the stock market is concerned, the optimistic social mood was the key driver behind President Obama’s success. However, as we all know that after a sharp decline, markets typically retrace a big chunk of the initial decline. A similar situation happened in the U.S. markets i.e. after the great crash of 2007-2009 market retraced almost 90% of the decline. The only problem is that this rise was subconsciously attributed to the sitting government, whereas in reality the market rally was not a function of actions performed by the President but was a function of time i.e. it was supposed to happen. In any case, people started feeling optimistic about the market and hence voted for the person, under whose tenure the market bounced back.

As mentioned previously, Voting/War is the final manifestation of the social mood (happen towards the end e.g. wars typically happen near the end of the bear market). It will be appropriate in Elliott Wave terms to find out after 2 years that the stock market topped in October 2012 (right before the 2012 Presidential Elections, which were won by the incumbent President and soon after the QE Infinity announcement by the Federal Reserves).

TECHNICAL ANALYSIS

• Since Elliott Wave analysis measures social mood in terms of the stock market, it is currently suggesting that we are starting a protracted decline phase, given that we do not break above October 5 highs. Detailed Elliott Wave analysis will be presented later. 
• Please also note that the Global Dow, unlike DJIA, is well below its April 2011 and March 2012 highs. This divergences between US and global markets, is another very dangerous sign for the market in the near future. 
• Finally, completion of the 8/4 test means that we are about to embark on a prolonged downtrend. 
• IPM model will help keep you informed of upcoming turn dates, so that one can take advantage of trading opportunities. IPM Model predicted the October top in September and has had an accuracy rate of ~92% over the past 3 years. IPM Model updates are available at subscription. 

CONCLUSION

After exhaustive analysis of social mood extremes, future decline potential and market trajectory reasoning, a very interesting conclusion is reached. Details will be provided in the next post. But in short, humans are supernaturally forced to make detrimental decisions, at the most critical junctures of time. And I think we just made one such bad decision (I hope that I am wrong !!) 

Stock Market & Presidential Elections 2012

Our lives and our decisions are governed by our moods. We live as per our mood (socialize if we are happy, stay introvert when depressed), we eat according to our mood (spend when we think we have money and are happy, or sleep with a just Ramen noodles when we are tired or are not affluent), and spend what we feel like. In short, our actions are governed by our mood swings. In the same respect, we vote as per our mood i.e. if we feel good, we vote for the incumbent. On the other hand, if we feel bad, we register revolt through our vote. In other words, voting is the best representation of the collective social mood of a society.

Another way to analyze the social mood is through the stock market, because Stock Market is the barometer of the broader social mood. When market rises, optimism increases and when it declines, pessimism saturates. This cyclic behavior is so common that it gave way to the contrarian trading strategies. This is because society’s collective optimism peaks near the top, while collective fear peaks at the bottom. Although there are many ways of measuring the sentiment, this article will address the relationship of people’s vote and the broader social mood.

At this point it is clear that both Stock Market and Voting exhibit social mood. The only caveat is the delay between the social mood exhibitions through the Stock Market VS Voting. If one wanted to assign a timeline to social mood exhibition, Stock Market would be the first responder, while geo-political events will be the last responder. This is because the social mood pushes the society to take actions in accordance with the broader social mood. These actions range from Voting out the incumbent leader to starting a War with another country. The interesting to keep note of is the fact that this social mood change is typically displayed through the stock market price pattern.

Now, if we look at the current situation from the stock market perspective (shown below), it is very clear that the market has been rising under President Obama’s administration. In fact the market has more than doubled under Obama since March 2009.

DJIA: 6500 ==> 13500

Gold: 900 ==> 1800

Oil: 35 ==> 90

This stellar stock market and commodities market performance along with the latest consumer confidence reading (consumer confidence is touching 4-year highs) and the low VIX numbers, clearly suggest that the social mood is very optimistic. Although we know that these 100% gains are a factor of prior market collapse, the short-term memory of the populous will allow these gains to work in the favor of the president. 

In past, when mood has been this optimistic, we have rarely seen an incumbent losing the elections. In other words, no matter how bad President did during his tenure, he has done enough good to keep the asset prices afloat, avoid a second recession and bring back optimism among the masses about the future of the country. Therefore, from a stock market and social mood perspective, President Obama is the favorite to win today’s presidential elections.

However, if the President loses today, it would mean that elevated stock market prices are not the sole representation of the Social Mood. And that people do take into account their personal situations when dealing with things like elections.

Next Post: Implication of Election results on the Stock Market (An Elliott Wave perspective)

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Market Analysis & 8/4 Test

Friday saw a sharp decline in the markets, as expected from the IPM Model forecast, which stated that markets should continue to decline till next turn date. Markets topped in October, and started to decline while most of the people were expecting a rise into the elections. If market continues to decline over the next week, people will start attributing this decline to damage caused by Hurricane Sandy. However this might not be the case, in fact this decline might suggest that market is expecting a Obama Win in the elections (another blog post will be published).

Since one needs to analyze the market from a holistic perspective,  Market Matrix helps in analyzing the market in terms of Sentiment, Market Trend, Elliott Wave structure, Technical Indicators, and Leading Markets. Market Matrix takes on even more importance when taken in conjunction with the 8/4 Test. Currently, Market Matrix is neutral while 8/4 test is signaling a sell signal. This is very ominous development for the market.

8/4 Test is a unique method developed by Understand, Survive and Thrive, to determine when we have seen a significant trend change. Friday's market decline has brought the market very close to generating a Sell Signal. The 8/4 Test has perviously signalled larger trend changes. For example, a 8/4 Sell Signal was generated before following declines:

May 2010       SP500: 1164 ==> 1004     -     13.8%
May 2011       SP500: 1330 ==> 1264     -     5%
July 2011       SP500: 1326 ==> 1076     -     18.9%
Nov 2011       SP500: 1216 ==> 1160     -      4.6%
May 2012      SP500: 1365 ==> 1265     -      7.3%

Median Decline: 7.3 %, Average Decline = 9.9%
Prob (Decline) = 0.9

Expected Decline = 9.9 *.9 = 8.96%


8/4 Signal is composed for 4 steps:
1- Decline / Setup: This step involves initial decline to a proprietary Moving Average (8)
2- Test: Initial decline is followed by a rise to a faster proprietary Moving Average (4), but does not make a new high
3- Failure: Market starts a sharp decline
4- Breakdown: Market breaks below the M.A. (8)

We are currently at the fourth step. Once this step is completed (Decline below 1406), we can see sharp decline. Based on expected decline of 8.96%, market can decline to low 1300s. Please note that this is a statistical calculation, and will be refined with the latest IPM data)

Interesting Observation:
The market top was forecasted by the IPM Model even before the 8/4 Setup was initiated. Current 8/4 test suggests that the decline we are witnessing right now will be deeper then expected. Although we can see a brief rally within next 2 weeks (as per IPM update sent to subscribers), market will not start a bull market after elections have been completed. Instead we could see a lower low or a double bottom at the next IPM Turn date (will be sent to subscribers).

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IPM Forecast Reviews

After a month of starting the IPM Subscription service, it seems appropriate to review the model's predictions and evaluate them per actual market behavior.

PREDICTIONS SUMMARY

September 16, 2012 – IPM Analysis:

"According to the IPM model, the next turn date is scheduled for October 12, 2012 (+/- 4 days), and this date should correspond to a market top. As we know that markets have risen very sharply recently. This sharp rise has pushed various technical indicators in the overbought region. Since no market goes straight up and the next top date is projected after 4 weeks, market might go sideways for a week or two. This sideways action could start next week."

What Actually Happened?

SP500 touched 1465 on 9/14 and then declined to 1430 over the next couple of weeks ==> 35 point decline

September 30, 2012 – IPM Analysis:

"According to the latest IPM model run, the next turn date is scheduled for October 12, 2012 (+/- 4 days), and this date should correspond to a market top. Since the market has declined over the last two weeks, it has undone some of the over-bought conditions and has reduced excessive optimism. This condition along with the fact that early September rally was accompanied by strong internal market strength, suggests that we are poised for further gains. Next rally would create the necessary market divergences to result in a market top."

What Actually Happened?

9/28/2012:  SP500 = 1436           (Bottom) ==> Rise of 30 points

10/18/2012:  SP500 = 1463         (Top)      ==> Decline of 60 points as of today

This was a truncated top (A classic occurrence at the tops of greater importance)

October 14, 2012 – IPM Analysis (Document will be uploaded in November): 

"It seems like the market has setup itself for a nice rally. With top Fortune 500 companies about to report in the coming 2-3 weeks, it is highly likely that we will some gains. Furthermore, past 4 weeks of sideways market action has undone the over-bought conditions and has reduced excessive optimism. Another scenario to keep in mind is that the market will top out during the latter part of the turn window i.e. by 10/18/12. This will start a sharp decline to new lows and might continue till Nov XX, 2012 turn window."

What Actually Happened?

10/12/2012: SP500 = 1426            (Bottom) ==> Rise of 40 points

10/18/2012: SP500 = 1465            (Top)      ==> Decline of 60 points as of today

11/XX/2012: SP500 =                   (Bottom)

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Package A ($15 / month) :- 1 IPM model report per month. Find out the next turn date (not find out whether it will be a potential top or bottom). Report is sent over the 1st Weekend (Saturday / Sunday) of the month.

Package B ($28 / month) :- 2 IPM model reports per month. First report will highlight the market turn date during the 1st weekend. 2nd report will be sent out over the 3rd weekend of the month with updated model output based on model re-run. Both report will highlight whether the next turn date is expected to be a Top or Bottom.