Many of us have been expecting a stock market crash for some time, but the reports of its death have been greatly exaggerated – at least since February. While I believe that scenario will come to pass, in the meantime the rally continues, but on weak internals.
And there are stark divergences between the major US indexes. The Nasdaq and Russell 2000 – which are at the far end of the risk spectrum – power into new all-time highs, The more earth-bound Dow and S&P trade under their January tops. That is a significant divergence.
I still maintain that we are in a second wave rally and the Dow/S&P January highs are the final fifth wave of the entire post – WW2 bull market. But rising second waves are bull traps where conditions appear even rosier that at the January highs.
Consider this: We are facing tariff wars that show no sign of resolving, and the North Korea peace overtures are being seen as a done deal. Recall the chart I showed recently that over the years, North Korea has made similar moves – and all occurred at or near major market highs.
So on many measures, bullish sentiment remains sky-high as is normal in second waves of a major bear trend.
Another measure of risk-on/risk-off that I track is the chart of HYG the Junk Bond Index. These bonds are issued by the riskiest companies and trade more like equities than investment-grade bonds. Here is the daily chart
Since January, it has been forming a lovely five-wave wedge/triangle and last week, has pushed up to test the upper wedge line. Isn’t this a little surprising since a large chunk of these bonds are issued by US shale oil producers and the crude price has recently dropped by a huge $7 off its 22 May high?
In the next few days, we will have several potential market-shaking events from China trade deals to the next Fed interest rate meeting to the Trump/NK summit.
There are several options now for HYG (and shares) to take, of course. One possibility is that the outcome of all of the above events is seen as ‘bullish’ and stocks rally next week. But that would put in the final high. HYG would push up past the upper wedge line (to above the wave 1 high?) – and then swiftly reverse, which is typical EW action following a thrust out of a triangle (which should be a fourth wave).
In this scenario which I favour, the MSM headlines would be hailing the new market highs – and that would be our sell signal. And my wave 5 would move above the upper triangle line.
Last week, the VIX Fear Index rallied – and then fell back again to near historic lows as complacency took the upper hand. And that condition is a perfect backdrop for a reversal.
Here is the Dow
The market has pushed above my upper pink tramline but on a momentum divergence. And this would be a perfect setup for formation of a classic ‘overshoot’. If the market reverses and closes below that line, it would be a signal to expect a hard down and put in the wave 2 top which would kick off a hard wave 3 down.
Here is the S%P
where the market has just moved up to its pink upper triangle line. An ideal scenario next week is for the rally to push up past it to the Fibonacci 76% area around the 2800 area and then reverse on a momentum divergence to form an ‘overshoot’.
We shall see.
The cattle are flying!
I imagine there are very few UK based traders not in the meat business who trade Live Cattle futures on the Chicago Mercantile Exchange. This is a venerable contract that is well traded by US specs – as they have for many years.
But we brave souls in the VIP Traders Club certainly are!
And here is why:
Prices collapsed this winter as farmers placed a large number on feed to take advantage of the then high prices of over 120 cents. But as ever, the cure for high prices is high prices and vice versa, so that as the market formed a base this spring between 102 and 108, the cure for the low prices was low prices.
And late last month, I noted the excellent five down Elliott wave pattern to the 17 May low on a huge momentum divergence. This is my ideal setup for a reversal, of course. And I got my low risk signal a few days later and pounced.
At yesterday’s close the market had pushed up to the wave 4 high – a typical target.
So now we have a no-risk trade as we use my Break Even Rule. But if this market pans out the way I believe it is capable of, large profits await.
As a tailwind, the US is entering its annual BBQ season…