One idea I seek to impart in my teachings is the importance of keeping our minds open to data that do not support our decisions. ‘The Psychology of Intelligence Analysis’ points out one drawback of our brain’s use of mindsets: once we have made a decision, it takes a lot more effort to change our minds or to even take notice of events ‘prejudicial’ to the decision reached. Yet it is critical to a discretionary trader’s success to keep an open mind.
The current S&P structure is at a cusp. Keeping an open mind will allow us to take advantage of the opportunities created by the market. There are 3 possibilities. Here are the scenarios in my order of probabilities, with the most likely first.
- A 1966 to 1982 type market (See Figure 1)
- A deflation type market (see Figure 2)
- A continuation of the bull market - for why this is unlikely, see Figure 3.
In Figure 1 we have a Yearly chart of the DJIA. Notice that at this stage we have not even exceeded the 1937 to 1942 pullback (52.55%). We need to see acceptance below the Maximum Extension of the 14198 to 7197 range to negate this scenario i.e. see acceptance below 5795. If this scenario proves correct, the sideways market should end no later than 2017.
Given that the 60-month bull market is still intact, this is my preferred technical analysis scenario.
FIGURE 1: 1-Year DJIA
Figure 2 shows the deflation scenario confirmed on acceptance below 5795. This calls for the bear market to end around 2025 (see Figure 3) around DJIA 760.
FIGURE 2: DJIA 1931 to 2007
Figure 3 shows the stats pertaining to bear and bull markets since 1802. I am treating the DJIA high in 2000 as the orthodox termination of the bull market that began in 1982. If that is the case, in 2000 we ended a bull market that lasted for 18 years and gained 14.8% (adjusted for inflation). Such a bull market is unlikely to have a mere 8-year correction. For this reason, I rate the resumption of the bull market before 1911 an unlikely event.
Statistically, the minimum correction for scenario one (sideways) would be 11 years i.e. the correction would end in 2011. In the case of scenario two (deflation), the minimum correction would last to 2018.
FIGURE 3: Bear/Bull Stats
I started this piece by saying we need to keep an open mind. So what benchmarks do I need to see to define which scenario is likely to be taking place?
The key will be the DJIA’s Failure Zone (33% to 67% in Figure 4). If this sideways market is to fail, it will fail there (see Figure 4). Another benchmark will be the Xmas Rally. According to MRCI’s seasonal charts, the 2nd week of December should be a low; this low is to be followed by a rally to the last week of December.
If we do get such a rally, the volume per bar will be instructive in telling us if there is to be a failure. If we see lower volume per bar up, then we can expect the failure to occur; equal or higher volume than the down leg will confirm scenario one.
Stay tuned.
FIGURE 4: Failure Zone DJIA
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