Several weeks ago, when everyone was happy and euphoric, the talking heads in the media stated that a 5%-7% normal correction would be a good thing. Do you remember what I told at that time? Let me put it to you this way: The stock market isn’t Burger King and you don’t get to order up a correction “your way.” I told you when the correction did come, it would wipe the smiles of euphoria and complacency right off their faces. We can never know if the time window will validate, but as it turned out we got everything I anticipated and then some.
Suddenly we have a condition with emerging market fears as the VIX starts to climb as though it were measuring the flu. Right now, the market has a serious cold, which is borderline on turning into something more. First, we had a market that wouldn’t stop going up. Now it’s starting to become a ski slope, and suddenly the question is whether this correction will end before the end of the Winter Olympics. As you know, the games of Sochi haven’t even started yet.
So the next question you might be wondering about is how far we are to the end of this leg? The ES doesn’t register, but we have almost perfect calculations in the Dow E-mini YM. The first leg off the high is 361 points and the big move down is 939 points. That means the third wave or C leg measures a 2.60 extension of the first leg, which you see on the chart as AA and 260AA. Since the secondary high is so close to the high that low is approximately 261 of AA as measured off the high. That means we are either at a third wave bottom or the low if this turns out to be an ABC correction. In the very least, we should have anything from a relief rally to the end of this leg down. We are there in terms of sentiment as well. But the bounce on Thursday it did not have the feel of a washout. My calculations across the board were either not precise or short of the target. It also didn’t have the right “feel” of a low yet either.
Friday changed the landscape because the move lower finally gave us a miniature version of last June 24 when all equity markets finally felt like they were going down for the count and not coming back. After Thursday’s bounce attempt, Friday’s drop finally had the feel of the other shoe and now the calculations in the Dow validate it. When you get a 261 extension, you never know if it will be a third wave or the end of the leg. That remains to be seen and right now the move off the top qualifies as something more than the minimum level corrective leg. Any way you slice it, a 261 extension is always impressive but here is the rest of the story.
We have another humongous time window coming up in March, which also coincides with the 14th anniversary of the Internet bubble peak on March 10, 2000. This one is as big as the one that topped the 2007 five-year bull market. But if you remember, that top was preceded by a major drop in July and August, which turned out to be the peak in the Russell 2000. That was quick and brutal four-week drop, which is about the same period of time as this move. What ended up happening we all know is just as you as that correction ended by October they were euphoric all over again. One of two scenarios is likely to materialize here. Either we are going to recover quickly from this sell off and make a new high by March, which would mean we haven’t even seen the BEGINNING of the real selling yet. The other scenario is the market wastes a lot of time backing and filling to retest the upper portion of the range before we get another big leg down, which would create an inversion low in March that would setup another gigantic bull market rally.
So what we really need to be concerned with is how the bounce materializes. Will the bears replicate their behavior of every corrective wave since 2011 and just give up? Or will we have a buyers strike while bears hold firm and wait out the storm until the next selling wave hits?
It’s impossible to know that at this point but the higher probability is one or the other will materialize. One of the problems in determining what equities might do is the normal inverse relationship with the Greenback is not working right now because it has been a roller coaster as part of the time it has rolled with equities and the other part against it. Certainly we’ve seen the drop in the BKX which was something I warned you about as it was very close to some excellent Gann symmetry. The low in 2011 had a square root of 5.70 and it peaked at 574 days. The original high on January 15 was 570 days right on the button but it made a new marginal high 4 days later which ruined the perfect symmetry but in this case it has worked out because sometimes with Gann close is good enough. I don’t know that you could actually say that banks are leading to the downside but anytime they are getting hit it’s significant. If the market was dropping and the BKX wasn’t I could almost guarantee you this correction could be over right now. But it’s interesting the HGX is barely dropping and still close to the high. If there is anything that pours cold water on the potential of a massive 2 month correction it’s the behavior of the housing stocks which are holding up fairly well.
But at the end of the day we always gauge the strength of a move not so much by the drop but whether it gives us a dead cat bounce or not. That will be the story starting this week.