Weekend Market Commentary: Let’s Look at Several Possibilities, Ranked From Least to Most Probable

A quick recap:

  1. I had been looking lower (here),
  2. Then I suspected we would rally (here),
  3. And then I worried that 4500 as resistance could lead to a drop (here),
  4. And since then I have looked at a couple of technicals that could support a bounce (here and then here).

So now what?

I will present 3 possibilities (2 bearish, 1 bullish), listed in order of least probable to most probable, in my present opinion.


The bearish possibilities certainly can be justified here:

  • Local price action looks like shit
  • “Don’t fight the Fed” is a reality we all must face, and they’re certainly jawboning hawkishly
  • The news flow (e.g., Europe, China, inflation) is not optimistic

A) Bear Wedge Possibility

This bear wedge possibility remains possible here. It is the most bearish possibility because it assumes that the highs are in. When I originally floated this idea, I did so because during the last rally, it seemed to me that sentiment was much, much too bullish and that not enough people were taking the risks we face seriously enough (for instance, the yield curve inversion). I now believe this is the least likely possibility, and I will explain more on why below. But, if the highs are in, if we are replicating the Dot-com top, and if we rally this week from these present lows, this structure remains possible. We would expect a 3-wave move for orange E of pink B before collapsing in a huge, multi-month (almost certainly over a year), 5-wave decline, a true bear market bloodbath.

SPY

B) Bear Zig-Zag Possibility

A simpler bearish alternative is a simple zig zag A-B-C here. We’ve just had a very sharp move down with no bounces, and if we keep going, we can generate a good target. It would give us equal legs down there, would close the SPX ~4000 gap and should give us a good, capitulation low. This pattern is bearish, but only temporarily so. It implies that this year has merely been a correction, after which the bull will resume.

That said, I have serious doubts about this. Believe it or not, Friday serves just about as well as a capitulation low, as we had a $VIX spike, put-to-call ratio spike and decent volume. But the biggest reservation I have for this is because of the number of Elliotticians I follow who are carrying this right now. Essentially every single one of them is carrying this or some close alternative to it. And whenever I have seen that, the pattern simply never works. This is absolutely the “bear alt” consensus out there. Because of that alone, I think it’s doomed.

That said, if we just keep dropping, that’s probably where we’re going to go.

SPY


Those aside, the bullish potential can also be justified here:

  • They like to shake out longs before huge markups
  • The Fed hasn’t actually done much yet, despite the jawboning
  • Sentiment is absolutely in the toilet (more on this below)

C) Bullish Inverse / (Macro Flat Correction Complete)

We can view the structure as a large inverse here. We can also count the whole structure as a “flat” correction (in Elliott Wave terms). Presented below is a variation of the same idea posted here. It’s elegant, and can be complete right this very moment. Labeled simply as a flat, we can look at it as below. We would want to have a good fib relationship between “A” and “C,” and we have exactly that:

SPY

Zooming way into the 1-minute chart, and you can see just how perfect the touch is here:

SPY

Quite the pretty picture.

Viewed as an inverse head and shoulders pattern, we can view it like this (and the inverse yields us a target):

SPY

Of the 3 options I have presented, this is my somewhat strongly favored view for the time being.

Other technicals may support a stop here, too.

While the recent drop looks like a straight line (no bounces) on the cash sessions, futures gives us one overnight consolidation, which gives us a clean 3-wave move with good fibs:

ES

As it stands now, the sharp move down is simply a 3-wave move lower with equal legs. For now, it only qualifies as a corrective move and not yet a full impulse wave (though two of its legs are themselves clearly impulse waves; the structure as a whole is not).

Furthermore, if we draw a trend line from the COVID low through the 2/24 low, we’re so far being supported right at that very line (the candle shadow on Friday tried to poke through, the body is right above it now):

ES

Another structure we can look at is a bullish wedge. I had been drawing this for some time in February on multiple instruments, and it’s clearest right now on $RSP of all things, so I’ll use that. An inverse is essentially a bullish wedge that has been vigorously retested:

RSP

It’s a beautiful structure, really. Support here could propel this to new highs very quickly. And by showing you $RSP, we can make another observation: it’s nowhere near as weak as the market cap-weighted S&P or the Naz. And that tells us something important: most stocks are doing pretty well, all things considered; tech is dragging us down. That means that maybe we’re not quite as bearish as things seem.


Sentiment

Now, I am inclined to the bullish view here, but it’s not just wishful thinking that’s making me do that. Yes, I have technicals that can support it, but I want to speak at length about sentiment here.

During the rally in March, I felt like folks were way too bullish, ignoring all risk, and interpreting the yield curve inversion as something to worry about much later rather than sooner. I thought that was fade-able sentiment. And so far that’s actually worked, but, as I mentioned the other day when I suddenly flipped and expected a rally, the AAII survey results were difficult for me to fathom. I very much mean that. And I have a way I can show you just what I think that historic result may mean for us. I can gauge sentiment on Twitter all day every day all I want, but that’s just a litmus test. A real, scientific survey is much more valuable to us and this one was a doozy. When I said it was hard to fathom, this is what I meant my by that:

The AAII survey has been conducted each and every week since the middle of 1987. It has over 1800 results in its history. If we take the worst 23 bullish percent surveys of those entire 1800+ total surveys, two of them are from these last two weeks alone. Are you hearing the gravity of that?

Visually, it looks like this:

AAII

I want you to study this with some care. You may notice something very peculiar about this chart. What happens when the bulls all disappear? Or even better, where are the absent bulls not? Isn’t it amazing?

The bulls don’t vanish 1) at (or even near) market tops, and, really weirdly, 2) they don’t even vanish in bear markets.

Waaat??

I know, right?

Hell, bear markets are characterized as much by fear as they are by un-dwindling hope, I suppose.

In the last 35 years, the bulls have left the most (these are the lowest 23 readings) right when they were needed most. So: they think they just got out at the top. This makes it especially possible here that we’re only just warming up for something big. I know. I know. It sounds dumb for me to say that. But you know psychologically that it makes perfect sense. Imagine no one being bullish for a big bullish move. You can see the cruel perfection in that.

And just like bulls can miss big bullish moves, bears are often destined to miss big, bearish moves, too. And I’ve got bears out here right now actually calling for a 5-8 year bear market. Right now this second. After whatTwo distinct lows? Ha! That’s confident. Too confident.

Price

In addition to sentiment, I want to talk about price. After all, if we’re going to have a big, bullish move, we need to address the elephant in the room: isn’t the market expensive enough as it is?. And I am torn on this, but I have a few things I can say.

When we look at long-term linear charts, they look completely stupid at this point. So, we move to log. And hell, those look dumb now, too. I can do two things here.

First, let’s look at something relative, like the Shiller P/E ratio:

SHILLER PE

As we can all see, we are approaching the Dot-com bubble top level. But, if you were in the mid 90s, you would have said, what? “Wow, we’re approaching the Great Depression top level.” Oof. And look just how much higher it went from there. So, people say it’s expensive here, and lots of people are also saying it’s the “biggest bubble,” but it’s not even that yet (on this measure). And so here we sit. What if, like the mid 90s, we think we’re near a top but instead of stopping at 30 and going to 45 à la the 90s; maybe we’re thinking 45 is the top but then we go to 60? How can we know? That would be the biggest bubble, yah?

One more thing is the shape of the Shiller. I don’t place total weight on this, but it’s an observation worth noting, I think. Notice that the run to 1929 was characterized by a big swoosh. And the Dot-com top the same? We have no such swoosh here today. Do we need a swoosh, too? I don’t know. Maybe we do. Right now we’re sort of stair-stepping our way up, with prices going up haltingly faster than inflation-adjusted earnings. But maybe we need to wait to see things get really out of hand in a big desperate swoosh. File this under to be determined.

The next point I want to make about price is really weird. I’ve used it before, people ignore me when I do it, but I think it’s perhaps among the most important things we can look at.

It can help to keep us sane.

Stop and ask yourself: why do first the linear, then even all the log long-term charts look so dumb?

Answer: money.

We’ve all seen this, right? That’s why the log charts look so dumb here. Now how can the observer try to comprehend exponential decay? We’re not equipped for it by nature. We’re linear by nature because we experience time as a steady arrow.

Well, fortunately, there is a hack we can use.

As it so turns out, precious metals just happen—in the long run—to capture inflation with perfection. Romans, as it turns out, paid roughly for bread about what we would pay, were we to pay for ours in gold. A 1950s U.S. quarter, in the 1950s, bought a gallon of gas. And, as it just so happens to turn out, the silver content of one of those quarters, will buy, what do you suppose, today? You guessed it. About a gallon of gas today.

And so we can try to calm our weary chart-gazing eyeballs by pricing the S&P 500 in gold. SPX/GOLD ratio cancels the dollars out, and we get a very interesting chart.

SPX-GOLD

If gold has, in the long run, captured the purchasing power destruction of the dollar, then, in a weird sense, the S&P 500 is worth now, about what it was worth in 1964. Weird, yah? Meaning: basically everything we see on the chart is inflation. I know, it’s wild if you haven’t given it a lot of thought before.

But, it tells us: the bizarre long-term charts we’re watching are an illusion. They are, in reality, actually sort of flat. And worse: we can go up about 146% from here before we hit the Dot-com level of inflation-adjusted S&P 500 points.

I know, I know. Trust me, I know how that sounds. Keep in mind: the S&P doesn’t have to do that by itself, but a falling gold price can help, too. That’s 146% if gold stays fixed. (Don’t even ask what happens if gold rallies).

Now there’s one more thing. Let’s draw a few lines on this chart.

SPX-GOLD

Remember when I said the Shiller chart might need a swoosh? Maybe this needs a swoosh too.

What this chart shows me is that 1) the Great Depression was one huge bear market, 2) the 1970s was another huge bear market, and 3) the Dot-com bust and the GFC combined was one big bear market. And it looks to me like the actual bull markets after these things bottom are 20-30 year ordeals. And our actual last bear market (on this chart) didn’t actually bottom until 2011. That may mean we’re only ten years into this bull, weird as that may seem. And I know it sounds weird.

At any rate, do with this whatever you want to do with it. But, to my mind, as expensive as things may seem, on this interpretation (inflation-adjusted S&P 500 points), we’re still far from Dot-com levels. If gold gets cut in half tomorrow, we’ll be there in a jiffy, but until that happens, we may still have a lot of room to run. Perhaps years. I don’t know. But I won’t dismiss that thought.


I only have a few more things I want to say. Just as the AAII survey coming out gave my bear wedge thought serious doubts, new economic data out this week added to those doubts. The bearish view that I was entertaining was predicated on the possibility that the crashing yield curve might mean we’re running toward a recession, but the data isn’t showing anything like that yet.

Jobs are still looking great here. And the LEI came in hot. That’s a terrific leading indicator. And it’s leading up. If the economy slowed, it could have just been for a sip of air. I don’t see enough recessionary forces. So, we will have to watch things. The yield curve inversion is a concern to me. Virtually every recession is preceded by one. But, not every inversion leads a recession.

And finally, our last worry is inflation. The thought here is: no soft landing. If the Fed really really has to fight that, then they could push us into a recession. But, I want to make a counter-point: remember the last couple of years (before the headline CPI was so hot) how every macro bear out there said the inflation wasn’t real, and that it was actually a supply issue, and thus, the reflation trade was fake and we were doomed to recess? Well, they’re not saying that now, and instead have switched to: the Fed fighting inflation will doom us to recess.

What if they were actually half right, originally?

What if the inflation was supply related like they thought? And so, sort of transitory? And so, the Fed maybe doesn’t have to push too hard, and so perhaps they won’t force us to recess?

I don’t know, but it’s something to consider. It is possible that peak inflation is behind us.

Chris Ciovacco has recently pointed out that the inflation data we’re seeing now has base effects from last April. When those roll off, even if we get a month-over-month number like we just got, the year-over-year will fall from 8.5% to 5.9%. Quite a drop. And if the month-over-month falls, the number will be even better. Maybe the Fed jawboned us through a major correction and we’re done now.

We will have to see.


I hope I get my power back on soon. Thanks for sticking with me. See you guys this week.


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