The Tycoon Report

The Candlesticks and Wave Analysis as Part of Your Personal Financial GPS

How’s your financial GPS these days? Do you feel as though you’re swimming in a pool which has no edges, and the sky is overcast so that you can’t see the sun and therefore you can’t determine which way is North? Do you use Japanese Candlestick patterns and Wave Analysis to help you to spot the price position of the major Indexes within the big picture?

In a nutshell, here’s what’s going on: First, think of the ocean. There are waves of all sizes in the ocean, from the very largest to tiny little ripples that you can hardly see. All of them are in motion, all the time. All of them have an effect upon each other. Each one is accompanied by its own private tide, pushing and pulling on it. Small waves gather together to make bigger waves, which are just larger editions of smaller ones. The form is the same; only the size (i.e., the “degree”) is different. But “underneath the skin,” they’re all the same.

The stock market moves ahead in five major waves, in zigzag fashion. In a rising market, Wave Number One is an upwave. Number two partially “corrects” Number One, downward. Then Number Three moves up and away smartly. Number Four partially corrects Number three, downward. And then Number Five rushes on to the finish line and the ultimate high. We assign numbers to the upwaves and letters to the corrective waves. Corrective waves comes in threes – “a, “ b,” and “c” (in a rising market they would be down, up, down, respectively). (It all works the same in a declining market, but in reverse). All of the three components of the corrective wave series “a,” “b,” and “c” have to finish their jobs before price action can return to the main trend. Ralph Nelson Elliott discovered the existence of these waves about 75 years ago, after years of studying price charts. It wasn’t an “invention;” it was a “discovery” of something that was there all the time, and still is. It was he who devised the system of numbers for price action in the direction of the trend and letters for corrective moves.

Early 2000 was marked by the end of a long major uptrend. A whole gaggle of those fifth waves of varying degree all coalesced at the same time, producing a monster wave, something like the “bathtub effect” which occurs when an incoming tide pushes water into a bay which is landlocked on three sides.

And then the tide changed, as it always does, and water rushed out of the stock market “bay” or “bathtub.” That fast-moving corrective downwave was an “a” wave, which bottomed in 2002 and 2003. Since corrective waves come in threes and work in zigzag fashion too, that “a” wave was followed by a “b” wave, which of course was an upwave; and that’s the one which peaked in October 2007. It wasn’t part of a new bull market; it was simply an enormous bounce. Now we’re in a “c” wave (the last of a three-wave corrective series), which of course is a downwave, and it’s a big one. It has a long way to go, both in time and in the damage that it will do.

That’s the big picture. Remember that big waves are made up of smaller ones of varying degree. A somewhat smaller wave within that monster “c” wave in the stock market indexes made a bottom on March 6. It had been running in the same direction as that “c” wave, which was Down. That smaller wave was named “Primary Wave 1,” because it was pretty high in the pecking order. Its own private tide stopped running on March 6. It’s dead. Now another private tide has come back in, pushing Primary Wave 2 which, in turn, is pushing prices up. That’s where the stock market is today.

Sooner or later, the “bathtub effect” will catch up to this Primary Wave 2. It, too, will come to a top and die when its private tide stops pushing it higher. At that point a new private tide will begin, this time to the downside. We will call it Primary Wave 3, and stock prices will fall when it takes over.

There’s this to understand about third waves: they’re “doozies.” And in this case, there will be two of them running along together at the same time: Primary Wave 3, and its bigger brother, that “c” wave we mentioned above - because “c” waves, being the third of a series of three waves (i.e., a-b-c) are also third waves. Double whammy.

So that’s where we are right now: in Primary Wave 2, an upwave. We’re living right smack in the middle of it, so we have to live with it and recognize both its op.tunitie.s and its perils.

We called the end of Primary Wave 1 and the beginning of this Primary Wave 2 to the day: we issued a special letter to friends on the evening of March 6 that the Candlestick bar price formations of that day, together with the Indicators which are part of our “Candelaabra” technical analysis system, were broadcasting warnings of a possible major reversal of trend. Indeed, that came about two trading days later when prices took off like a rocket. Subscribers who climbed aboard early and who have stayed with the program should have done very well to date.

Now that (hopefully) you know where we are in the big scheme of things, it is well to bear in mind that the smaller waves which are hiding inside Primary Wave 2 are always at work, poking and pushing and tugging within their own spheres of influence. They will result in ups and downs in prices, until finally the last drop of Primary Wave 2’s tide comes in just as everyone is in a euphoric state and everything looks rosy, but the tidal flow will come to a halt and then everything will reverse.

How far away is that? We’d all like to know the answer to that question. We know that the severe downturn which began in October 2007 is liable to a correction of some sort. We also know from history that one of the termination points of a retracement is a price level which is 38.2% of the previous major move. On that basis, this Primary Wave 2 would rise to about 1014 in the S&P 500 and to about 9413 in the Dow Industrials. It’s a long way from those numbers right now. It may never get that far, or it might go higher.

How do things look right now, today? Well, the good profit news from Wells Fargo apparently instilled an optimistic spirit in some investors’ minds, and thereby sparked a very nice broad-market advance two days ago. If the other major banks – and nonbank companies – report good profit news of their own during the rest of this week, we could see another burst of buying.

Apart from that possibility, the momentum from March 10 is leveling off. The price bars are beginning to take on the look of a “rounded top.” Visually, it’s quite striking. It reminds me of the “swoop” from the “o” to the top of the “r” in the “Lord & Taylor” logo. (The ladies may pick up on this quicker than the gentlemen). Pretty or not, it means that the rate of advance in Index prices is slowing down. Also, some of our favorite Indicators are packed together very tightly, in the manner in which we display them in Candelaabra; and usually they can stand that compression only so long before they repel each other, whereupon prices decline. Further, we see a divergence between Index prices and the “RSI,” which is one of the Indicators which we follow. We take that as a bearish signal.

I see variations of the Candlestick “Evening Star” pattern beginning to form across the Indexes. The “Evening Star” is a bearish signal.

The bottom line for today is that, barring profit reports which set the market on a giddy course again, I think the chances are good that Index prices are coming into a short-term top.

William Kurtz April 15, 2009 http://www.candlesticksonsteroids.com