Can The Bears Come Back Roaring?

April 20, 2020
Elliot Wave Technical Analyst & author @ Elliott Wave Trader

I know the title may sound unusual and almost unrealistic to those following the media cycle. With unemployment skyrocketing, GDP projections in the tank, bankruptcy expectations running sky high, and the average person on Main Street struggling terribly, how is this action even possible?

So, before I outline my analysis, which is actually rather simple right now, I want to re-post something I sent out on Thursday night to the members of ElliottWaveTrader.net. While I think it is important for people to understand how the market works, it took me many years before I was actually able to internalize this message:

“Before I took off for the last days of the Passover, I tried to explain to you that we are in a battle ground between 2700-2900SPX. And, the last two days has certainly seen the market swaying back and forth within this region, with emotions running wild on both sides of the market.

But, as I also tried to explain, you may want to let the bulls and bears settle this and just watch from the sidelines until a victor emerges. And, even as I write this update, the futures are still well within the region of battle. Keep in mind that should we see a full 5 waves up, we will “likely” see a wave ii retrace right back to where we are now later this year for you to add long positions, should you desire to do so.

But, what I have seen more of lately than probably any other time since we opened our doors at Elliottwavetrader (and mostly from our newest members) is the skepticism towards the market rally purely based upon “beliefs.” Many of our EWT analysts have written about this over and over during the last week, yet so many continue to forget the primary truth in the stock market: PRICE IS KING.

If you are fighting the market because you think it is wrong or you think that it should be doing something based upon your belief, then you may end up hurting your account. When the market does something bullish, you need to respect that. And, should it turn down and do something bearish, then you will need to respect that too. But, please realize that neither of those statements are qualified by news or beliefs. They are simply based upon objective standards.

If you believe that the current news or events are going to hurt the economy, then you could very well be correct. Will it cause bankruptcies to surge? Sure. Will it cause higher unemployment? Sure. Will we see a negative impact upon GDP? Sure. But, you also have to ask yourself what any of this has to do with the stock market?

Please remember that the economy is not the same thing as the stock market. In fact, some of the worst economic news came out in 2009 (unemployment rising, GDP dropping, bankruptcies surging). Yet, it was also during this same period of time that the market had already bottomed and proceeded to double off the March 2009 lows despite the continued poor economic numbers. Try to remember what your mindset was at that time, and consider whether you are repeating prior bad decisions.

Now, I am not saying that we have certainly bottomed. It is still possible we will see another break down towards the 2060SPX region, as I have outlined over the last week. However, what I am saying is that until the market tells me that is going to be the case, why would I question the market which has been doing everything it needs to do to maintain a bullish bias. Have we even broken any support? Of course, that can change within a week’s time. But, thus far, it has not.

Personally, there have been times when I have looked at an Elliott Wave analysis I have done and said to myself “that really looks impossible.” And, when I do not believe what my eyes are telling me, then I have often lost major money-making opportunities due to my “beliefs.” So, it took me many years to abandon my feelings about what the market “should do,” and accept what is being presented before my eyes as “what is.”

Now, I am not saying this is easy. And, many of you will reason with yourself that “this time is different.” While the events can certainly be different, and almost always are different, is the stock market reaction what you would expect? While you are absolutely entitled to your beliefs, please ask yourself if your beliefs have been helping or hurting your account throughout your investing career?”

So, I am sure many of you are now scratching your heads and trying to understand how it is possible that the economy and the stock market are not one and the same. Well, I wrote this quite some time ago, and it will hopefully open your eyes to the true chain of causality regarding the stock market and the economy:

The common perception in the market is that the news causes changes in market psychology and fundamentals, which then causes changes in stock prices. But I believe that the correct, more consistently applicable premise is that market psychology and sentiment are the causes of news events and changes in stock prices, whereas fundamentals are purely lagging indicators, and the result of psychology and sentiment changes.

Bernard Baruch, an exceptionally successful American financier and stock market speculator who lived from 1870-1965, identified the following long ago:

“All economic movements, by their very nature, are motivated by crowd psychology. Without due recognition of crowd-thinking ... our theories of economics leave much to be desired. ... It has always seemed to me that the periodic madness which afflicts mankind must reflect some deeply rooted trait in human nature - a trait akin to the force that motivates the migration of birds or the rush of lemmings to the sea ... It is a force wholly impalpable ... yet, knowledge of it is necessary to right judgments on passing events.”

During his tenure as chairman of the Federal Reserve, Alan Greenspan testified many times before various committees of Congress. In front of the Joint Economic Committee, Greenspan noted that markets are driven by "human psychology" and "waves of optimism and pessimism." Ultimately, as Greenspan correctly recognized, it is social mood and sentiment that moves markets. I believe this makes much more sense when deriving the causality chain.

During a negative sentiment trend, the market declines, and the news seems to get worse and worse. Once the negative sentiment has run its course after reaching an extreme level, and it's time for sentiment to change direction, the general public then becomes subconsciously more positive. You see, once you hit a wall, it becomes clear it is time to look in another direction. Some may question how sentiment simply turns on its own at an extreme, and I will explain to you that many studies have been published to explain how it occurs naturally within the limbic system within our brains.

When people begin to turn positive about their future, they are willing to take risks. What is the most immediate way that the public can act on this return to positive sentiment? The easiest is to buy stocks. For this reason, we see the stock market lead in the opposite direction before the economy and fundamentals have turned. In fact, historically, we know that the stock market is a leading indicator for the economy, as the market has always turned well before the economy does. This is why R.N. Elliott, whose work led to Elliott Wave theory, believed that the stock market is the best barometer of public sentiment.

Let's look at the same change in positive sentiment and what it takes to have an effect on the fundamentals. When the general public's sentiment turns positive, this is the point at which they are willing to take more risks based on their positive feelings about the future. Whereas investors immediately place money to work in the stock market, thereby having an immediate effect upon stock prices, business owners and entrepreneurs seek loans to build or expand a business, which takes time to secure.

They then place the newly acquired funds to work in their business by hiring more people or buying additional equipment, and this takes more time. With this new capacity, they are then able to provide more goods and services to the public, and, ultimately, profits and earnings begin to grow - after more time has passed.

When the news of such improved earnings finally hits the market, most market participants have already seen the stock of the company move up strongly because investors effectuated their positive sentiment by buying stock well before evidence of positive fundamentals are evident within the market. This is why so many believe that stock prices present a discounted valuation of future earnings.

Clearly, there is a significant lag between a positive turn in public sentiment and the resulting positive change in the underlying fundamentals of a stock or the economy, especially relative to the more immediate stock-buying activity that comes from the same causative underlying sentiment change.

This is why I claim that fundamentals are a lagging indicator relative to market sentiment. This is also why fundamentalists can be left holding the bag at the top of a market, when the news and fundamentals look the most attractive, right before the market begins to dive, as sentiment turns in the opposite direction well before the fundamentals, just like it did at the bottom.

This lag is a much more plausible reason as to why the stock market is a leading indicator, as opposed to some form of investor omniscience. This also provides a plausible reason as to why earnings lag stock prices, as earnings are the last segment in the chain of positive mood effects on a business growth cycle.

So, rather than following the common methods for predicting the stock market, we utilize Elliott Wave analysis to gauge market sentiment. And, coupling it with Fibonacci Pinball, we have developed an objective framework through which we view the market action.

For those that want to learn more about our method, you can read a bit more detail in this six-part Elliott Wave Intro Series I wrote some time ago:  

https://www.elliottwavetrader.net/elliottwavetheory/librarylisting.php

In the meantime, everyone seems to be scratching their heads and wondering why we are hovering just below 2900SPX when everything seems so bad based upon the economic view point. Well, that is because the economy and the stock market are not the same entity.

From our vantage point, we outlined our expectations to our members that the market was likely bottoming in the 2187SPX region weeks ago, with the bottom actually being struck at 2191 – within 4 points of our target. Our initial expectation was that the market would rally from that point to the 2600-2725SPX region. But, once we moved up into that region, the market structure presented much more bullishly than we had initially expected, which caused us to modify our target for this rally to the 2890SPX region.

So, as it stands right now, the 2700SPX region is what we will be keying on for the next few weeks, since we have reached the 2890SPX target. As long as the market is able to maintain over the 2700SPX level on all pullbacks henceforth, it has an open path back up towards the 3200-3300 over the coming several months.

However, if we see a sustained break of that 2700 support region, the structure will turn much more complex, and will even open the door to the lower low that everyone seems to be expecting. This is the guidance the market structure is providing to me at this time, and as the structure continues to develop, we will glean more guidance from the market itself rather than the news cycle as interpreted by the pundits.

Lastly, I want to remind those that read my analysis that it is based upon probabilities, as there is no such thing as certainty within non-linear environments such as the financial markets. The majority of the time, the market provides us with a relatively clear path and provides us strong goal posts as it moves through its structures. But, none of my analysis is meant to be seen as a certainty. Yet, those that have followed me for many years know how well we have done in the markets we track utilizing our objective methodology.

See charts illustrating our wave counts on the S&P 500.

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Avi Gilburt is a widely followed Elliott Wave technical analyst and author of ElliottWaveTrader.net, a live Trading Room featuring his intraday market analysis (including emini S&P500, metals, oil, USD & VXX), interactive member-analyst forum, and detailed library of Elliott Wave education. You can contact Avi at: info@elliottwavetrader.net.

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