How To Really Time The Turns On The SPDR S&P 500 Trust ETF

| About: SPDR S&P (SPY)


An analysis of the trend in the SPDR S&P 500 Trust ETF.

Can the market really be timed?

What size of decline should we expect for the next bear market.

There is a bear market coming. Or so we keep hearing. It might start tomorrow or maybe next year. Or was it the year after next year? Anyway, I think we can agree at some point in the future there will be a bear market, and those that are calling for it will tell us they were right.

But what we really want to know is when it will start, and from where.

Of course, no one really knows this, but by applying the Elliott Wave theory to analyze the stages of the trend, I think we can get pretty close. I can already hear the fundamental analysis purists groan, but the last author to call for a 'ruthless bear market' using fundamentals went on to say the SPX could continue to rally for the next 'several months or a couple of years'. I've heard fundamental calls for a market crash for years now. This is not an attack on them, but my trading style requires me to time the market a little better than that.

Elliott Wave is not antiquated mumbo jumbo like many think. It is a technique used by all the big institutions. UBS's 40-page technical outlook uses Elliott Wave and Fibonacci on nearly every page (and did correctly call the SPX correction to the low 1800s, albeit in H1 2015 rather than H2). I have seen similar documents by Goldman Sachs. Paul Tudor Jones and Peter Borish used Elliott Wave and fractal theory to call the 1987 market crash.

The problem many have with Elliott Wave is its subjectivity. There may be rules and guidelines, but it is rare to get two Elliotticians to agree on a 'count'. Robert Prechter - co-author of The Elliott Wave Principal - successfully called the 1987 top, but has had a very patchy success rate since.

My record is not without bad calls, but on the bigger picture, and on the SPX, I have predicted the major turns well. In November '13, a 2150 target was called from below 1800 and in February '15, I called '2140-50 holds for 1800'. Granted, these are cherry-picked, but only to prove that Elliott Wave does work. Try making those calls using fundamentals.

A quick guide

The Elliott Wave Theory was developed by Ralph Nelson Elliott in the 1920s. He defined trend (or an impulsive) as a 5-wave move, and a correction as a 3-wave move. Each wave has a different characteristic and fundamental backdrop.

There's a lot more to it than that (the Elliott Wave Principal is 180 pages on PDF), but for the purposes of this article, let's keep it brief. This is what a basic trend sequence looks like:

Click to enlarge

Analyzing the SPDR S&P 500 Trust ETF (SPY)

Applying Elliott Wave to the SPY chart below isn't really too hard. Using the template above, it should be fairly obvious where the labels go.

Click to enlarge

Source: Prorealtime

So why do so many Elliotticians get it so wrong?

Perhaps they have drawn the wrong trend channels, or they are to myopic and try to pick off exact turns using smaller time frames. When I called the SPX drop in February '15, I had to endure 6 months of up and down before the actual decline; plenty of time for me to doubt my view and tinker with a winning trade.

But usually it is because Elliotticians have a strong view of what they think the market should do and let bias guide the count rather than price action. This isn't too dissimilar from what I see some fundamental analysts do. They focus on data, which fits their bias and ignore the bigger picture.

Hopefully, it is clear from the chart above that the SPY is in wave 5. Wave 5 is the last wave in the trend and usually less powerful than wave 3. The usual backdrop to a wave 5 is positive news flow and investor optimism. For a top to form, the last bears must give up hope and turn bullish. I don't think this has happened, yet. In fact, if my read of sentiment is right, I would say there is widespread pessimism and investors are looking for safety rather than growth and momentum. For this to change, we would need a substantial rally.

Upside Targets

Wave 5 is often equal in distance to wave 1, especially when wave 3 is the longest (it was).

If you were to measure wave 1 in points, you would expect approximately $55, giving a $235 target. If you measure in percentage, you would expect approximately 80%, taking SPY over $320. That's a big difference. Thankfully, we have the lower time frames to help us out.

Within our large wave 5, we expect 5 smaller waves. Markets are fractal and the same sequences repeat through each time frame. 5 waves up in a trend sequence, then a correction:

Click to enlarge

My arrows are a rough guide. Not all trend sequences are so clean and we may repeat something like the rally from Oct '14. This was again in 5 waves, but a much weaker ending diagonal pattern. The key point is that the market should go higher; $235 looks like a minimum target, with potential for $250 and above.


I said earlier in the article that wave 5s should have a backdrop of good news and strong fundamentals. Do we have that? We hear a lot of analysts saying the market will go down because of x, y, and z, but is the data really that bad?

I'd say judge for yourself. JPMorgan's 2Q 2016 Guide to the Markets is full of hard data. No narrative, no bias.

I think it supports the wave 5 idea.

Downside Targets

How 'ruthless' is ruthless?

When the rally from the '09 lows reverses, it must be larger than either the '11 correction or the '15-'16 correction. That is all we know.

It would be usual to retrace 50%-61.8% of the entire up cycle, but since we do not know yet where that ends, we cannot do that calculation. $155, at the breakout point of the '00-'07 highs, is also a logical target. When the first part of the correction completes, it gives clues and targets for the remaining parts and we can be more accurate as more information reveals itself. Context will also be important. What exactly is driving price? There will be bad news, but are we talking meltdown or just weakening fundamentals?

There is a $33 minimum for the correction. It is very likely to be more, but no one can say for sure. Let's work with what we know.


This article is a very basic introduction to the concepts of the Elliott Wave. If you want to further research the techniques, there are a lot of free resources on the internet.

By using Elliott Wave on the SPY, we can conclude:

a) The rally from the '09 lows is in the final stages, but is likely to continue to above $235.

b) The subsequent bear market will have a minimum $33 decline.

I suggest all investors should have an open mind, not only to the possible moves the market can make, but also to the techniques that can predict them.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in SPY over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.