Stock Market Bottoms

Dot Com Aftermath

To the left is a chart of the end of the dot com collapse.  Although these are charts of the S&P 500 index, many, many technology companies either met their demise, or were left a fraction of their former selves.  As witnessed by this chart, they took the broader markets and the economy down with them.  The downward trend was broken, and the markets then charged upwards and onwards in 2003.

Financial Crisis

2008 was a bad year for the U.S. economy, and global markets, as seen by this chart of the S&P 500 index. Interwoven with the weekly price candles are three moving averages. The blue line is the 8-week, or 40-day moving average, the red is the 20-week, or 100-day moving average, and the green is the 40-week, or 200-day moving average. The bottom came in March of 2009, and, once more, the markets were headed higher.

Now

Presently, we are teetering on the brink of a double-dip recession, with the fate of the Euro zone in the balance.

I invite you to study the first two charts very closely to see if you can identify something that would uniquely indicate a bottom in the market.  Once you have done that, take a look at the current chart to the left.  Do you see that same indication in the third chart after 2009, also?

The answer would be yes.  It occurs when the 50-day moving average crosses the 200-day moving average from below, and the trend in the price candles is rising.  (I  have to add the last part about the rising price candles as the 50-day did cross the 200-day for a three week period in April of  2002, and that, clearly, was not a bottom).  We also saw it, again, in October of 2010.

Here we have two major bottoms in the past decade, or so.  It has been my contention that once the price candles drop through the 200-day moving average, we should stop out of our long positions until the market has bottomed.  Yet we are told there is no telling when to get back into the market, or that we are likely to get in at the wrong time and out at a worse time.

Whether the bottom is the reversal from bear market to bull market, or if it is the bottom of a correction, the likes of which we experienced in 2010, it is a reliable and tradable indicator.  Now you know what to look for before putting new money at risk in these volatile markets.

Are you convinced?

My Recent Trade



Click To Enlarge

Context
This post attempts to answer the question, can the technical indicators be used to time the market?  The Elliott Wave Theory tells us what the overall fractal patterns followed by the markets look like.  The fact that it is some sort of fractal means we can verify where in the pattern we are, by looking at it in the context of the shorter time frame and the longer time frame.  We can view the indicators in that context. One dip, or one rise in the market does not a trend make.  When we see a series of higher highs and higher lows, we have an uptrend.  When we see a series of lower highs and lower lows, we have a downtrend.  That means we can't know the top until, at least, we see another lower high, and we can't know the bottom until we see another higher low.  Rather than try to explain what I mean, let's look at the trade I made at the end of July.

Going Down
First, the RSI indicator at the top of the chart peaked out at the beginning of July as evidenced by the lower high two weeks later.  So did the price candles, the MACD in the section below that and the stochastics in the section below that.  I should have bought (the inverse fund) when the price crossed the green dotted line which represents the midpoint of the Keltner Channel from above.  Instead, I waited for the price to drop below the blue line which represents the 40-day moving average (circled in orange).  By this time any conceivable uptrend had been clearly broken.  Even without any knowledge of the Elliott waves, it would be clear to most people the market was headed lower.

How Far?
At that point in time I had no target price.  I knew fair value based on the historical average annual earnings was  850.  The Point and Figure chart (also found on StockCharts.com) indicated a bottom at 1140.  The Fibonacci ratios associated with the Elliott Wave would suggest a bottom around 1190.  There is nothing in the indicators, initially,  that suggest how much down-side to expect.  On August 9 we had a big bounce, then another drop  on August 10.  I was happy with my gains at that point and exited my position.

Too Early
Had I played the downturn at the beginning of July, I would have been on the right track, but the lower high near the end of July would likely have been sufficient to cause me to start to lose money, even though the longer trend was still down.  I make it a policy to exit such a position when I start losing money.  If the trend resumes in my favour, there is nothing to say I can't take the position again, perhaps even at a better price!

Momentum
The reason I believe we can rely on these indicators is because this "toing" and "froing" in the market is caused by momentum.  The momentum is caused, not by events that happen, but by people's perception of the events that happen.  These optimistic and pessimistic moods take a while to develop and then, to run their course.  Generally, it is not the value of the indicators themselves which I rely on, but the trend in the indicators.  The indicators have since taken a positive shorter trend, but I don't trust it as long as the moving averages are inverted with the 40-day beneath the 200-day and prices lower still.

Comments?