Trade Alert: S&P 500 - Setting Up For Downside

Posted by Brian Fletcher on 14/03/2019 0 Comments

The S&P 500 is approaching our target region before a turn down.

Upon completion to the upside, there are two potential downside targets. We favor the lower levels into the 2,200 region next.

For those seeking to exit equities and buy back 15% - 25% lower, in this article I discuss levels to exit and re-enter.

In my last article on the S&P 500 a month ago I showed three paths SPX could take to lower levels, and as we now know it chose what I described as the Alt. B count:

Alt. B – a direct move up to the 2,868 region. IF the 2,611 can hold, SPX can be forming a smaller abc structure that heads straight up to the 2,800 region, specifically 2,868, to complete all of the B wave more swiftly. In this instance, we will be looking for shorts for the blue C-wave down to complete all of Primary Degree Wave 4.

So where do we go now?

Since SPX failed to break support and has continued to grind up on weakening technicals, we are now looking for completion of all of the B-wave into the 2,867–2,877 region. The shallow B-wave, as shown on the daily S&P Emini chart below, shows the 1.0 extension at 2,877 where the overall .886 retrace fib has confluence in the 2,866 region. This was the region suggested as the Alt. B target in my article on February 14, 2019, and nothing has changed this perspective.

This will then leave two possibilities on the table, both that resolve down, as follows:

  1. An ABC pull back into the 2,516–2,438 region, which will be a wave 2 against the entire move up off the Christmas low, which will result in taking out the all-time high; or
  2. A fast and furious C-wave down to the 2,357–2,187 region to complete all of Primary Degree wave 4, before then heading to new all-time highs.

S&P 500 Daily Emini ChartS&P 500 Emini Futures Contract Daily Chart

While either is quite possible, once the upside completes, the downside pattern will provide additional clues as to which count is most likely playing out. However, in order for option 1 listed above to be more likely, the move up off the pre-Christmas low would look better if counted as an impulsive structure, and since it started with a 3-wave move instead, it counts much better as a wxy pattern. Said differently, while the move up has been a V-shaped recovery, it is still corrective. It is for this reason that we favor option 2, with the next major move down to be in the 2,200 region.

Both counts point down, but assuming we are correct, this next move will feel very much like a market crash. C-waves are notorious for their swift and dramatic nature, and since this C-wave targets a move down of over 600 points, it will exhibit crash like characteristics.

From an intermediate term perspective, the SPX is setting up for a minimum 12-15% drop, and more likely a 20-24% drop. This provides a wonderful opportunity for those who are currently long equities to exit and re-enter from lower levels. Even in the more innocuous option 1, as described above, it affords the opportunity to exit and re-enter 12-15% lower.

For active investors, traders, and swing traders, it provides an opportunity to short US indices on an intermediate term basis, and then toggle back to longer term long exposure on the pullback. Upon the completion of this move down, we are still expecting a Primary Degree wave 5 to much higher levels.

S&P 500 Monthly ChartS&P 500 Monthly Chart

To take advantage of the next move down, we will be looking to position our investors and subscribers into shares of Proshares TR/Short S&P 500 1x inverse the S&P500 (SH), and once we can confirm the S&P is commencing the 3rd wave down, we will be adding shares of ProShares UltraShort S&P500 2x leveraged short the S&P500 (SDS).

As I have described in several other articles, using leveraged ETFs can be lucrative, but if not properly entered and managed, can be hazardous to your account. We like to enter leveraged ETFs at points in the price pattern where the risk is finite – stop out levels are tight, and we focus heavily on confirmation of the downside pattern coupled with multiple timeframe squeeze indicators to confirm equities are in the heart of the expected move. We like to exit leveraged ETF positions in advance of the 4th wave. Since a C-wave's are always 5-wave structures, we would not want to sit through a wave 4 in a leveraged ETF. The leveraged ETF exposure will help to supercharge our performance during that portion of the move that happens quickly. Since C-waves are notoriously fast and furious, shares of SDS can provide some incredible performance during the exaggerated portion of the move.

Concluding Remarks

  • The S&P 500 is near completion of the move off the pre-Christmas low, and once complete is setting up for one of two potential downside target regions.
  • We favor the lower of the two downside target regions into the 2,357 to 2,187 region.
  • Assuming we are correct about the lower of the two targets, it will come in the form of a C-wave drop, which will occur in a fast and furious fashion and feel very much like a mart crash.
  • Upon completion, most long term investors will exhibit reluctance to go long, which is precisely when we will seek to exit shorts and toggle back to long term long equity positions in a host of ETFs and individual stocks offering the most upside potential.

On February 24th I wrote an article on Crude Oil, published here on Seeking Alpha, suggesting that a small pullback that remained over $51.23 would setup a very nice risk to reward opportunity with a minimum price target of $63, and more likely a move into the $69-$73 price zone. On March 8th crude provided us such a pullback and we announced in our live room for subscribers to go long CL futures, United States Oil Fund (USO) shares, or ProShares Ultra Bloomberg Crude Oil (UCO) shares at precisely the 50% Fibonacci retrace level that hit and held in picture perfect fashion at the $54.52 level. Futures are now $4 higher and shares of UCO are now 15% higher. Depending on what happens this next week crude may offer one more chance to board the proverbial bullish train before leaving the station.

This article is the first in a series of five articles I will present over the next 2-3 weeks that outline five different investment opportunities we see setting up in 2019, and how investors might approach these opportunities to achieve super-performance. We will be posting smaller time frame analysis, as well as entry and exit parameters to our subscribers in our new Seeking Alpha Marketplace service-The Active Investor.

Before reviewing the prospects on how to profit from the present crude oil setup, allow me to first take a moment to discuss how one would use Elliott Wave and Fibonacci analysis for crude, or other sectors, to place position trades while limiting downside risk. Elliott Wave analysis provides a method of charting the overall wave pattern of virtually any asset class. Some patterns present better risk to reward and higher confidence characteristics than others. As an example, trading corrective action in 4th waves or B-waves is very difficult on the smaller time frames. Whereas the extension levels and support provided within impulsive wave patterns allow for tight entries, minimal stop loss levels relative to those entries, and the ability to raise stops along the way to protect profits. The simple truth is, though, that patterns can morph and invalidate patterns you might be trading in favor of. What does this mean to you as an investor when you follow this analysis? It means two things-1. Know the level you will exit a position with a loss before you enter long or short to begin with; and 2. If you fail to a get into a high confidence entry at a price level that ensures only a small loss in the event it invalidates the primary pattern, simply pass on taking the investment or trade. There are plenty of opportunities, so don't push it, and never suffer from the fated "fear of missing out" syndrome. This syndrome will kill your account and emotions quicker than anything. On March 8th crude provided such an entry and has enabled our subscribers to position in a fashion that they no longer have any risk, as support is now at our entry level, thus enabling them to hold for higher with zero risk of loss of capital.

Will crude provide investors another opportunity to enter long? Perhaps, but let us first examine the larger picture Elliott Wave structure for crude and consider the opportunities that could present themselves over the next several years. After looking at the big picture, we will then drill down to the smaller time frames to consider what would need to occur to cause us to allocate additional capital to a long crude position in the near term.

Refer to the Crude Oil Monthly Chart below. Crude has completed Intermediate Degree Wave blue "(A)", and is now in the fluctuations of Intermediate Degree Wave blue "(B)", with an ultimate price target of $39.39-$32.84, approximately. Once this completes, we are looking for a move up to the $109-$134 region. However, let's not get ahead of ourselves, as this a long term perspective. Rather let us take it one step at a time-one trade at a time. We are viewing the large move down that occurred between October and December of 2018 as the a-wave of Intermediate Degree Wave blue "(B)".

Crude Oil Monthly ChartCrude Oil Monthly Chart

Now, refer to the Crude Oil Daily Chart below. On this chart we show two alternative counts, the green and the white. While either is possible, for a significant portion of price action they are both moving in the same direction. However, our primary thesis is that the white count is the more likely scenario. Note that Intermediate degree wave "a", shown on this chart as the white a-wave, has completed, and crude is now in the Intermediate Degree b-wave, with a price target of $63.80-$73.07, these being non-log scale Fibonacci retracements based on the continuous futures contract in crude oil. This chart shows the impulsive structure and path for crude to the upper white target box, provided however that for this to remain our primary thesis, crude must at all times remain over $54.52. In other words, provided support at $54.52 holds at all times, our expectation is for a move up to the higher target region.

Crude Oil Daily ChartCrude Oil Daily Chart

Now, refer to the Crude Oil Hourly Chart below. This shows the price action in crude that has occurred in the move up off the low we called in our live room on March 8th at 54.52. There are two ways to view this move up, as either a "i ii" setup where a move back to the $56.17-$55.44 would represent the wave ii. IF this retracement occurs, it would be a gift to those who failed to enter long on March 8th, and would represent the final call to board before crude leaves the proverbial station. Alternatively, if crude can only muster a move down into the green box price region that it the higher side of this last Friday in the $57.84-$57.22, and at all times remains over $56.76, the it might very well be setting up a more immediate bullish setup with a much shallower retracement of the move up off the March 8th low.

Crude Oil Hourly ChartCrude Oil Hourly Chart

So, which of these two smaller time frame alternatives is more likely? I frankly have no idea. What I do know is that if crude finds support with a bounce off the $57.51-$57.18 followed by a move over $58.96, I believe we will see crude into the $63.80-$73 levels before the lower levels are seen again.

What I also know is that from a strictly risk to reward perspective, IF you were seeking a long position in crude and missed the entry on March 8th, and IF crude can muster a pull back into the $56.17 to $55.44 region, THEN it offers another entry long with a hard stop out level if it breaks below $54.52. This offers 20-25% of upside for a downside risk of 2%, for a 10:1 risk to reward profile.

Also, keep in mind that while this offers very nice upside, the really big opportunity in crude will be the from back down from the higher target region, or what we refer to as Intermediate degree wave "c", as show as the white c-wave of Primary Degree Wave "(B)" as shown in the lower white box.

Lastly, keep in mind that these counts can morph. Meaning at some point if the price structure invalidates our current thesis, we won't get stuck on stupid by being stubborn on our counts. Using Elliott Wave to make profits is not about being right all the time, or about providing clairvoyant style prognostications. It's about identifying what is most probable, and at the same time identifying an entry that affords the least amount of risk to capitalize on what is the most probable portion of the wave pattern move. This is precisely what happened on March 8th in crude, when we identified the long entry at $54.52 that now affords us the ability to at best stay long for a VERY large move higher, raising the level we would exit along the way in order to protect profits, and at worst to break even and look for another opportunity.

The move down that occurred into late 2018 caught a lot of very smart crude oil analysts flat footed, both fundamental and technical analysts alike. While we did not trade the move down, we were able to exit long positions very near the high on a break of support, thus preserving huge profits. This break of support summoned in several months of downside resulting in us simply walking away from trading in crude for several months. However, once if formed an impulsive move back up off the December low, then what best counts as an abc-B wave, followed by another impulsive move up, it changed the dynamic such that we could now identify a low risk to reward opportunity. Being patient and knowing the difference in what constitutes high versus low confidence opportunities is what separates those who simply provide analysis from those who invest and trade on analysis. Practically speaking, having alternative Elliott Wave counts that are in opposing directions does nothing for investors, as outside of certain options strategies, it is impossible to make a profit by simultaneously trading one sector both long and short at the same time. However, it is how you identify high confidence opportunities, then react by exiting quickly when things don't go your way that allow you keep your losses small, and allow your winners to run and become large.

Right now crude is offering such a high confidence setup for those willing to understand the entry and invalidation levels, take action at the appropriate price levels, and exit quickly if or when they break support.

Concluding Remarks

  • Crude oil setup the perfect long entry on March 8th at $55.53, with a price target of $63.80-$73, with the higher zone more likely.
  • If crude pulls back to the $56.17-$55.44 region and at all times remains over $54.52, it would offer investors one last chance to board the train before leaving the station.
  • Always know the entry and invalidation levels, the amount of risk capital you are using for a given upside, and accept this before entering a position.
  • This will be the first in a series of 5 articles I will present over the next few weeks that show specific investment opportunities we are focused on in 2019 for our subscribers. More detail will be provided for entries and exits in our new Seeking Alpha Marketplace services called The Active Investor.
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