Broken Stepping Stones

Jan. 11, 2016 10:18 PM ET
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Contributor Since 2008

Markets collapsed and the 'Bull Flag' failed to result in the usual 65% probability of a follow-thru rally.

<< Bull Flag Setup:

>> Bear Campaign Part II:

The 35% Failure Rate won this time around. And the medium-term contrarian traders now have 90% probability of achieving a red 1-2-3-4-5 meltdown.


Medium-Term Battleground:

>> Bearish View:

>> Bullish View:

For TA Traders; it is just a matter of which bread-and-butter pattern is going to win. The bears have a distinct advantage because of the vertical drop which seldom will be retraced by more than 61.8%.

However, this Wide Trading Range, since August 2015, became an extremely volatile one; and thus there usually are monkey wrenches lying around for the less observant analysts. Meaning is that high-probability TA and/or EWA don't work well in this type of environment when majority of market participants are trading the markets based more on day-to-day sentiments glued to their TVs/monitors for newsflashes that the major networks, such as CNBC, are dishing out on a regular basis.

Thus, even minor news can become major trading vehicles by hyper-active scalpers since even just a comment or two by some authoritative figure(s) can result in 200 to 300 points rally (or selloff) on Dow Jones. Easy money for intraday traders hard to find during less turbulent times. Too easy to make mountains out of molehills in a highly volatile environment. Bigger news such as the most recent N. Korea Nuclear Test and China Selloff became harbingers of Doomsday to come.

>> Nuclear Tests:

There were more than 2,000 nuclear tests in the past decades - perhaps more than enough to wipe out the human race if detonated on populated areas - but markets did not collapse based on the Armageddon Scenario or M.A.D. Principle.

>> Shanghai Index:

Shanghai Index collapsed 73% in 2007/08 and the major networks did not notice since they were much more pre-occupied with the 2008/09 Great Recession. Likewise, SnP500 was rallying vertically in 2013, and thus not appropriate to highlight that Shanghai Index had fallen 69.91% by June 2013.

Now that the US markets got caught in a never-ending labyrinthine nowhere land; a frog leaping out of it's puddle can create major ripples as far as the news networks and their regular hyperfalutin media-centric analysts are concerned.

Carnival time !!!


Long-Term Battleground:

>> Bullish View:

>> Bearish View:

As far as the long-term charts are concerned; things are now moving ever so slowly after the highly volatile vertical rally from October 2011 has finally succumbed to Divergence Sell Signals. And thus, the much anticipated blue iv-th wave correction becomes a major pre-occupation for medium-term EW'ers who would want to find it's bottom run in order to take advantage of the v-th wave rally with 90% probability of happening.

Bullish view presumes the iv-th has already completed. And a v-th wave lasting 10 months or so is already in progress.

Bearish view says it is just the beginning of a long process of digesting the HUGE 99% iii-rd Wave Profits that may last 6 to 9 months (or more). Will the iv-th wave be a Flat, a Zigzag, a Triangle, or a Complex Combination we will find out later rather than sooner.

Who is right?

Who knows?


Trading Strategies:

Basically, I don't like trading the final run of a third wave on very short-term basis since they usually result in multiple whipsaws. And definitely, I dare not trade their fourth waves since iv-th waves or 4-th waves are far harder to analyze than the rest of a i-ii-iii-iv-v or 1-2-3-4-5 pattern (except in few cases such as the tiny bull flags in Oct/Nov and in Nov/Dec 2013 when the upside momentums on the weekly and monthly charts were still pretty strong).

This is the biggest Cyclical Rally we ever have in more than a decade. Thus, I decided to keep trading the short-term using the daily charts as primary instrument even when momentum of longer-term charts left so much to desire for. But that doesn't mean whipsaws can be avoided. Whipsaws will always be present, more often on fourth waves, even on a long-term monthly chart iv-th wave --> only BIGGER and more punitive for short-term traders - on the daily chart.

1.) For Daytraders:

A 4th wave up on the daily chart is expected. With today's inverted hammer bar --> this is bullish for candlechart trading. But remember that the 3-rd wave can go down much further if a frog suddenly leaps out of a puddle or some monkey wrench got thrown into the markets by practically anybody. Buying above today's high is the usual entry. Hard stop loss is below today's low. Take no prisoner(s).

2.) For the ZBT Trade; the previous two ZBTs proved very successful:

>> SnP500 Blow by Blow:

Thus, I recommended buying a pullback down like what I did back then on the two previous occasions. Accumulating more positions on this big dip on the daily chart can be the better strategy for positioning purposes. But be sure to abandon the trade if the Weekly Bearish View transformed into a Complex Spiral Meltdown.

3.) For the Inverted Head and Shoulders Traders:

Pattern now deteriorates for the worse. A breakdown below the Major Right Shoulder Support is the usual 'Abandon Ship' strategy. Better luck next time.

Or to possibly minimize potential losses, wait for a minor a-b-c rally on the daily and weekly bearish views before getting rid of long positions. But if a Complex Spiral Meltdown happens, losses can get far worse than what they are now.

4.) For the Head and Shoulders Traders:

The Minor Head and Shoulders was very successful back in July to August 2015. Downside target is much bigger this time with a HUGE Head and Shoulders to boot.

But covering some shorts on a red 1-2-3-4-5 on weekly chart is the prudent strategy most often used by medium-term traders. With extremely volatile trading range; who knows what kind of monkey wrenches might got thrown into the matrix once in a while? A bird on hand is better than two in the bush. Thus, taking some profits right into the extended 3-rd wave on the daily chart might as well prove the better trading strategy in this highly unpredictable trading environment. If the vertical drop got retraced by much more than 61.8%; then there is 70-80% probability the Huge HnS is not going to happen.

5.) For the Typical Medium-Term Traders; this run down is another opportunity to accumulate positions in addition to the August 24th buys. As long as the trading range remains intact, no brainer to buy the dips but be sure to protect positions against possible Spiral Meltdown. Take partial profits on run ups for 'Peace of Mind'. Or use partial profits as 'warchest' to give SnP500 wiggle room to the downside to avoid unnecessary costly whipsaws.

Myself: The YM swing trade of Jan 6 proved to be a failure as the markets kept plunging with no letup hitting my hard stop loss in no time. This is my second losing swing trade since August 2009. The first one was during the vertical drop in August 2011 when the markets suddenly cratered due to the EU Debt Crisis. I usually play 2 to 3 swings every year. Last year was the most prolific with 4 successful and 1 scratch trade --> with the smallest %profits per run due to the very tight trading range in February to July 2015.

Bought another YM today using intraday a-b-c down on 2584 tick chart. Tick charts are favorite among expert and master traders since they are less hard to analyze specially during night runs. Stop loss is today's low.

>> SnP500 Intraday View:

>> YM Tick Chart View:

Don't do this if you are not well versed in trading the markets on intraday basis - trading them can easily wipe out capital in no time for newbies. I prefer using SSO during trending markets - such as from October 2011 to February 2015. But once consolidation ranges become the norm; making money becomes much harder. In this environment, it is not advisable for newbies to keep trading except for small bets just for experience sake. Losing money can oftentimes be the better teacher for aspiring traders.

Good luck and happy hunting.

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