BI-WEEKLY MARKET RECAP and TECHNICAL PERSPECTIVE

By: Larry Katz

June 11, 2001

Capsule

Short-term indicators remain mixed with the Arms indexes very bullish while most of our short-term sentiment indicators bearish, while the balance of the indicators are neutral. The most likely outcome is continued choppy trading within a trading range until either sentiment improves or the Arms indexes ease. A move below the May 22 low would most likely improve the sentiment indicators while a move back above last weeks high would move the Arms indexes back towards neutral. The short-term rally in the binds looks to be close to over and a modest decline is close at hand. How that decline unfolds will be important for the medium-term. We do not think the post May 18 correction in the XAU has run its course but it is getting closer. Further weakness or sideways behavior is still ahead but once complete a move towards the May high is expected.

Elliott Wave and Fibonacci

The S&P completed intermediate wave 3 of primary wave 3 at either the March or September 2000 top. Primary wave 3 began in either 1980 or 1982. Intermediate wave 1 ended in 1987 as did Intermediate wave 2, with intermediate wave 3 running for nearly 13 Fibonacci years. The decline into March 22 on the S&P was wave “A” of a larger corrective pattern from the 2000 top and the current rally is a “B” wave related to that rally. Since it is our view that the post 2000 decline is a fourth wave from 1982 it is possible that the pattern could very well unfold as a triangle. At this point this is purely speculation, but it is a possibility that we will watch for once wave ‘B” runs its course. While it is possible based on both the daily and weekly charts to count the rally from April 4 as a third wave from March 22 we go back to the fact that the rally from March 22 to March 27 on the hourly chart is a clean three-wave pattern and as such it is next to impossible to count it as wave 1 and as such has to be counted as an “a” wave (see the detailed count and chart in the May 14 report). As such, our preferred count is that the March 22 to May 22 rally was a three wave pattern completing wave “a” of a larger a-b-c of wave B from March 22. While it is possible that what we saw in May was it as far as wave “B” is concerned it is our view that the May 22 peak completed only wave “a” of the pattern and the current decline is wave “b” of “B”.  And once complete we would expect wave “c” to unfold and carry the S&P above the May 22 peak. While it is possible that the May 30-June 1 low did in fact complete wave “B”, the rally from that low was corrective not impulsive and that makes it much more likely that the rally into June 5 is all or part of a smaller “b” wave within the post May 22 “b”. The June 5 high stopped right at a .618 retracement of the decline from May 22 to May 30 (June 1) and was a clean three-wave pattern. Thus it is possible that this rally did in fact complete wave “b” or X from May 22 with the post June 5 decline the beginning of wave “c” or a second three from May 22. However, the decline from June 5 is so far corrective as well and has also stopped right near a .618 retracement of the rally from May 30 to June 5. This leaves open the possibility that the decline into Friday is a “b” or X weave from May 30 and as such would allow for a rally back above the June 5 peak to complete a more complex pattern from May 30 (June 1) prior to wave “c” from May 22 getting underway. However, the bottom line to all of this short-term uncertainties is that the decline from May 22 has not yet run its coursed and once the rally from May 30 completes, and this may involve a move above the June 30 peak, a move back below the May 22 low is expected. The alternate count allows for the possibility that wave “B” to unfold as a triangle. In this case a move below the May 22 low would not be in the cards but further sideways price action would. The DJIA may be counted as having completed its post 1987 Intermediate wave 3 advance at the January 2000 peak. If that is the case we would count the decline into March as wave “A” of Intermediate wave $ and the current rally wave “B”. wave “b” could in fact move into new high ground as part of an irregular correction. The other possibility is that the January 2000 high completed minor wave 3 of Intermediate wave 3 and that the decline into March was minor wave 4 from 1987 (for a detailed discussion of this pattern we refer you to the April 30 bi weekly report archived on the web site). In fact, it is our view that this is a very likely count and at this time we are approaching the DJIA with this count in the forefront and a modest new high in the DJIA is expected. Unlike the S&P, the rally from March 22 to March 27 on the DJIA can very easily be counted as a five and as such we are also counting the rally from April 4 to May 22 as wave 3 from March 22. Wave 2 from March 22 was in irregular with wave “b” gong into new high ground on April 2 and that also supports the fact that the April 2-April 4 decline was a five on the hourly chart. Wave 4 from March began on May 22. The decline into June 1 is best counted as wave “a” of 4 and the rally from June 1 as wave “b”. Wave “b” may have ended on June 5 but as is the case with the S&P, June 5 may have only marked the peak of wave “a’ of “b” and that would allow for a move back above the June 5 high to complete wave “b” and set the stage for wave “c”. Wave 4 can either be a flat or a triangle. If it is a flat then a move below the June 1 low would be expected to complete the pattern. If it is a triangle then we should hold above the June 1 low. Either of those patterns would satisfy Elliott’s rule of alternation with wave 2, which was an irregular. Therefore, a move above the May 22 high would either indicate that wave 5 was underway or if the pattern is not impulsive, that our count was wrong. The bottom line for the DJIA is that wave 4 is most likely not complete and whether the DJIA is to move above the June 5 high or not a move back towards or through the June 1 low is expected before wave 5 gets underway. The decline from March 2000 on the NDX basis the monthly chart is so far anyway a three-wave pattern. The rally from the April low has so far not even come close to a .383 retracement of the post September decline. As such it is possible that the rally from April 4 is a fourth wave from March of 2000. At this point this is not our preferred count as we are approaching the rally from April 4 as a large “b” wave related to the March 2000 decline. However, it is certainly a possibility and one we need to be at least cognizant of.  The rally from April 4 to May 22 on the NDX is a very corrective looking pattern. There are any number of possible wave counts from the April 4 low. The simplest of counts is that the entire pattern was a double or triple three. We can also count the NDX as having completed a simple a-b-c with wave “b” a triangle from April 20 to May 18 followed by a “c” wave thrust to new highs on May 22. The decline from May 22 to may 30 is a clear three-wave pattern on the daily chart and that fact alone eliminated the possibility that the rally from April 25 was a “b” wave of an irregular from April 20. It is possible that the May 30 low did in fact complete all of the post May 22 correction and that the May 30-June 7 rally is the first wave of a new leg in the post April 4 advance. However, that rally was confirmed as a completed wave on the daily chart Friday and as a corrective pattern on the hourly chart. It is possible that the May 30 low completed an X wave and that this rally is the beginning of an “a” wave of a second three but it is equally likely that the rally from May 30 is all or part of a ‘b” wave from May 22 of a larger “b” or X wave from April 4 and for now that is how we are approaching the pattern. That said we can not yet be sure whether Thursday completed all or only part of the post May 30 advance and whether the decline that began on Friday is a smaller “b” wave of “b or the beginning of “c” from May 22. This should clear up soon but there is still a bit of room on the downside to allow for this to be a small “b” wave from May 30 and a shot back above last weeks high. Support: S&P; 1258-1260, 1245, 1212-1216, DJIA; 10,900-10,920, 10.840, 10,650-10,675, NDX; 1838-1843, 1770-1780, 1700-1715. Resistance: S&P; 1273-1277, 1298-1302, DJIA; 11,020-11,030, 11,100-11,120, 11,250, NDX; 1913, 1933-1936, 1975-2000. Trend changes for the next two weeks are as follows: June 12-13, June 15, June 19 and June 21-22. All are important.

Bonds

The decline from October 1998 to January 2000 on the bonds is a five-wave pattern basis daily, weekly and monthly charts and is either wave 1 or A of a larger pattern to the downside. The rally from January 2000 to March of this year is corrective and is either a second or “b” wave from October 1998. This pattern is most likely complete and the bonds are either in weave 3 or “c” to the downside and are ultimately expected to move well below the January 2000 low. In either of these two counts the bonds need to decline in five waves. The alternate count is that the rally from  January 2000 to March is the “a wave of a more complex corrective pattern from January 2000 which may turn out to be a triangle. The ultimate result would be a move below the January 2000 low but that would follow a large sideways pattern. The rally from May 17 is a clean three-wave pattern, which stopped right in the window of the decline from May 4 to May 17, a decline that can very well be counted as a five on the daily chart. That said we could be on the verge of entering wave 3 of iii from the March 22 peak. The alternate count is that the decline from May 4 is not a five but a “b” wave from the late April low with the rally from May 17 part of a developing “c” wave. The daily range oscillators are beginning to turn down from high neutral levels. The daily trend oscillators are positive and short-term momentum is neutral to slightly positive. The weekly range oscillators are at mid neutral levels but still weak and not close to oversold. The weekly trend oscillators are negative and medium-term momentum is also negative. Long-term momentum has turned down and is negative. Market Vane moved up to 47% bulls from 43% two weeks ago and Consensus Inc. reported 40% bulls up from 37% two weeks ago. These are low neutral levels and are supportive of higher prices. However, the ratio of assets in the bull and bear bond funds in Rydex are at very negative levels and are bearish. Sentiment on balance is neutral to slightly positive but nothing excessive. Support: 99 16/32-99 20/32, 98, 96 19/32. Resistance: 101 0-2/2-101 10/32, 102 28/32-103 02/32. Please note that the above price projections are based on a constant bond chart and not any particular futures chart. Currently, the constant chart is tracking the September futures almost perfectly. Short-term both price structure and the indicators are mixed. We can name a case for further gains and just as easily a case for lower prices now. As such we are going to remain in the neutral camp for a while longer. Medium and long-term we remain bearish.

XAU 

The rally from April 3 to May 18 unfolded in a clean five-wave pattern on the daily chart. We can count this rally as either a “c” wave from October 25, a third of a third from February 14 or as a third wave from October 25. If the first count is correct then we would count the entire rally from October of last year as a completed a-b-c and argue that the decline from May 18 is correcting that entire advance. If the second count is correct then we would count the post May 18 decline as a fourth wave from February. If that is the case we need to hold right near the current low as that was the area of a 50% retracement of the rally from April and that is about as far as a fourth wave should retrace. If the last count is correct then the April low ended an irregular correction from late December, Under this count we should also hold near the recent low as the decline from May would still have to be counted as a fourth wave. The most bullish of counts is that the XAU has been tracing out a series of 1’s and 2’s from last October and once this correction runs its course we could be entering a third of a third acceleration. A lot is going to depend on how the market  does this coming week. Short-term (daily) momentum remains under pressure and has not turned up. However, both medium and long-term momentum remain positive. Even so, until we see some improvement in short-term momentum we are hard pressed to make a bullish case right now. Sentiment is improving but still has a way to go before becoming positive. There is important support at 56.50 and then near 53. Resistance will be found at 60.30 and near 63. The bottom line is that we do not see enough to suggest a rally from current levels has any staying power and we would expect that the correction from May 18 is not over. We remain neutral on both the short and medium-term and long-term we remain bullish.

Indicator review

The market came into June where it left May with the DJIA, S&P and NYSE Composite showing little net change. Over the past two weeks the DJIA off by just over 120 points, the S&P by 13 points and the 6 points or all by just around 1%. The DJIA, which was a bit stronger for most of May did show a bit of relative weakness beginning in early June but nothing serious. Breadth has held up a littler better the past two weeks with both the daily and weekly A/D lines showing modest gains. The former made new 18-month highs while the weekly A/D line is at new highs However, from the March 22 low we have only had 6 trading days out of 55 where we had better than 2 to 1 positive breadth and none since mid May. So, while breadth has been positive it has not been notably strong. Price/volume relationships have been flat to negative with the latest rally into last weeks peak on sharply declining volume.  The daily new highs have been good but they did peak on May 17 and we do have a small divergence in place as the S&P moved higher on May 22. The new lows have been expanding on declines but from a very low base and at this time are not a serious problem. The Russell 2000 is up about 3 points over the past two weeks but it is up.  The short-term is neutral but close to turning down. The medium-term is neutral but with a positive bias. The Value-line has lost about 6 points or ½ of 1% over the past two weeks but that is better than the DJIA and the S&P. The short-term is neutral but close to turning down. The medium-term is neutral but with a positive bias. The NASDAQ Composite has lost about 36 points or 1 ½ % while the NDX has lost about 64 points or 3.3% over the past two weeks. The short-term is neutral but weak and the NDX looks like it may be putting in a right shoulder of a head and shoulders top going back to April 20. However, these are hard patterns to anticipate so we would not act on it until it is confirmed. The medium-term is neutral. The DJTA is also lower by just under 2%. The short-term is neutral but close to confirming a top. The medium-term is neutral. The DJUA and UTY were hammered the past two weeks with the bulk of the losses occurring last week. They are oversold on a short-term basis and that could set up for a bounce but they are negative in all time frames.

Momentum

The breadth oscillator is neutral having relieved its overbought condition from mid May. The volume oscillator moved to the low end of oversold and is beginning to move up. It is slightly positive. The 3-day oscillator is neutral but begging to weaken. However, it did move above the +600 level last week and that usually is good for some further gains on a very near-term basis. The McClellan oscillator is neutral but has moved back below zero turning the summation index lower. The 10-day and open 10-day Arms are at very oversold and bullish levels. The five-day Arms is neutral but closer to oversold and the 21-day Arms is slightly oversold. The new 10-day Arms is neutral. The daily range oscillators are neutral but high neutral. The daily trend oscillators are negative. The NASDAQ McClellan oscillator is on a sell signal and bearish as is the 3-day oscillator. The weekly breadth oscillators are turning down from overbought levels and are slightly negative. The weekly range oscillators are neutral. The weekly trend oscillators are positive. The technical barometer has improved and is closer to neutral

Sentiment

The sentiment composite moved up one notch but at +7 is still slightly on the negative side. Investors Intelligence reported a modest increase in bulls to 48.5% and a sharp drop in bears, to 30.5%. The bearish percent is the lowest since early February while the bull/bear ratio is the worst since mid March. Market Vane has moved up to neutral after being positive or near positive for several months. Consensus Inc. meanwhile has turned negative with the 4-week moving average at its most negative level in over 2-yearssurpassing its peaks seen in September and January of last year. The American Association of Individual Investors (AAII) reported a small drop in the net bulls but the indicator remains negative. NYSE members remain firmly on the buy side and this measure of smart money is positive. The insider sell/buy ratio has eased and is back to neutral but only by a very slight margin. The commitment of traders report (COT) on the S&P futures showed another increase in the net short position by the commercial hedgers and another increase in the net long position of small traders, which is very negative. The CBOE put to call ratio is borderline neutral. The OEX ratio is neutral but a hair from bullish. The Rydex ratio is close to its May peak and negative. The asset levels in Ursa and Arktos remain are bearish and not far from their level seen in late January. The VIX, QQV and VXN are at or near their lowest  levels of the year and are very negative.

Summary and Conclusion

At the may 22 peak we were facing a very weak technical backdrop. Most of our momentum oscillators were overbought and diverging while a number of sentiment indicators had reached very negative levels. This combination is normally a very negative one. Over the past two weeks the market has corrected but at the same time given the technical backdrop in early to mid May we would have to say that so far anyhow the market has held up quite well with losses of  under 3% for the DJIA and 4% for the S&P.  We would have to view the decline so far as more of a sideways affair than anything else. Most of the momentum indicators have worked off their overbought condition moving back to a neutral level. The big exception to this is the 109-day and open 10-day Arms which have moved to very bullish levels. We view the Arms, and especially the open 10 as very important indicators and at their current level they are extremely positive. My friend Mike Drakulich of the Wave Signals newsletter (he can be e-mailed at wave@pacifier.com) pointed out in one of his reports late last week that the open 10 had been this oversold only six times (readings above 1.27) since 1982 that the open 10 had moved that high. Those dates were May-June 1982, August 1982, October 1987, January 1991, October 1998, and March-April 2001. Going back further to 1970 we find four other occurrences. They are April 1970, November 1971, October 1974, and August 1975. so it is a rare event indeed to see the open 10 reach this strong of an oversold reading. Most of those dates post 1982 as Mike pointed out in his excellent report occurred at or very close to some important lows. The one exception was in June of 1982 but that was not far off either. Pre 1982 all four occurrences lead to good rallies, however some were only short and medium-term affairs. Specifically the November 1971 and August of 1975 led to further gains but in both instances also to big tops. The November 1971  low was followed by the “nifty-fifty” rally and late 1972-early 1973 secular top while the August 1975 event was followed by the 1976 top. The latter led to six years of down to sideways market. However, the most important thing to realize is that other than June of 1982 when the open 10 got this oversold the downside risk was minimal and we did get a good medium-term rally at a minimum. While there are no guarantees of course, historically this indicator is on the side of the bulls, at least on a medium-term basis.  So where does this leave us currently. Our short-term view has not changed. We feel very strongly that the position of the Arms indexes suggest that the downside risk from here is minor. On the other hand, a number of our short-term sentiment measures are still in very poor shape. Most specifically the Rydex ratios as well as the volatility indexes. The VIX, QQV and VXN in spite of last weeks decline moved lower. The VIX in fact moved to new lows for the year in spite of the fact that the averages did not move to new highs. The QQV and VXN are above their late May lows but only by a hair and are still well below their readings seen in late January-early February. Could they go lower from here? Of course they can, we have seen the VIX in the high teens as it was in early September of last year. However, a move from 21.41, where it closed last week, into the high teens is not much of a job and could occur on a challenge of the May high. What we see then is the potential for a trading range to develop with the Arms indexes supporting the downside while the sentiment measures keep a lid on the upside. In Elliott wave terms, a  triangle may be in the making. Thus for the short-term we are going to remain neutral. There are two other possibilities on how the pattern may play out. The first is that the market sells off now to complete the pattern from May 22 by moving below the May 30 low. This would likely improve the sentiment indicators enough to allow for a more meaningful rally on the upside and given the position of the Arms would most likely be very short lived. The other is that the market ignores the sentiment for a while and rallies strongly. This would relieve the oversold condition on the Arms, could very well set off more negative momentum divergences and move the sentiment indicators to an even more negative levels.  The first scenario would in all likelihood set the stage for a solid medium-term rally while the latter would most likely set up for a bigger decline.  As it is right now on a medium-term basis we remain neutral until the market breaks one way or the other. Our long-term view has not changed. Some averages such as the DJIA have a shot at new highs but any new high should be viewed in the context of the completion of a long-term bull market. Others such as the S&P and the NASDAQ are in bear markets with the post March-April rally a bear market rally and nothing more. Long-term risk is high and we remain bearish.

QQQ traders are flat. Make sure to call the early morning hotline for any changes. Rydex switchers are holding a 20% Precious Metals and 10% OTC position. Make sure to call the Noon Pacific hotline for any changes. The morning hotline will be on a 7:15 AM pacific.        

The hourly chart of the S&P above shows the two possible counts from the May 30 low as discussed in the Elliott Wave section of the latter.

The chart below is a weekly chart of the XAU showing a couple of the possible  counts discussed in  the report.

The chart above is a ail chart of the NDX showing a potential head and shoulders top developing. The neckline has been approached on three occasions and has so far held up well. This is obviously becoming important support and is coincidently just above the gap from April 17.  

The char below shows the two counts on bonds from the March 22 high. The more bearish count showing a series of 1’s and 2’s calls for an almost immediate acceleration to the downside. The alternate count allows for a move above the May 4 high to complete a more complex second wave