Fractal Theory - Building the case for the next leg down

In my last post over here, I mentioned that I am exiting all long positions and sitting on the sidelines with small shorts until I see more evidence for some more rally OR 4522 being taken out on the upside. From then the market has clearly deteriorated. I hope some people reading over here would have been saved from all long positions even if you did not take any shorts. 

Yesterday I was looking at my EOD chart for hours and some things jumped out at me...I mean it was visible before too but after yesterdays study, I am really confident on what I see...Its clear that we have started the next leg down. I will present my ideas in the chart and writeup below this but before that, let me present something known as 'Fractals' and what it means. 

"A fractal is generally "a rough or fragmented geometric shape that can be split into parts, each of which is (at least approximately) a reduced-size copy of the whole,"[1] a property called self-similarity. The term was coined by Benoît Mandelbrot in 1975 and was derived from the Latin fractus meaning "broken" or "fractured."

More on fractals can be read here - http://en.wikipedia.org/wiki/Fractal

Elliot wave theory is built on the fractal wave theory - essentially what it means is that similar structure keep occuring in the market, in nature and well everywhere...Its a great mystery of nature as to why this happens. I believe other theories such as Kondrateiff also have their base in fractals. Fractals are recursive. Means the same structure repeats over and over again...They can be different on a whole but there will be so many similarities and when we can spot these, it builds up a high probability trade AND you also know when it gets invalidated. Fractals are why you have similar bull and bear wave structures in the market. Google more on fractals and you will be amazed at what you find...Fibo ratios also play a very important role in fractals and in effect EWT. 

Okay now coming to the chart. See below chart...I have added a good deal of comments on it. 

Now same fractal iterations as in above chart, can also be explained in EWT terms but you already know my count ABC-X-ABC where the final C might have just started. We have a very high probability of a big sell off coming. I knew it was coming. Only question was of WHEN? 

The other interesting thing is, back in May when the last fall happened also, a lot of market participants were bullish and confused expecting one last wave up. I was also one of them. It never happened. Almost similar today. Several folks including me expected one last burst up to 4650 and 4750...Might never happen. Areas to watch now are clear - 4200 and 4160 on downside and 4450 area on upside. 

Today inflation is 'GOOD' lol...If IIP is also 'good', pray for a rally to get out of any remaining longs and start piling on shorts....If we get a rally to 4400 area again, its a God given gift to get short.

Comments welcome please. Sometimes I feel like I am the only visitor to this site. Please post and offer your views also.

Best.

Confusion!

Confused on market direction in near term so I booked all longs today..Yesterday would have been ideal but greed and stupid ICICIDirect got the better of me...Well booked all today and started some small shorts right now with hedges also in place...A move above 4522 will get me out of shorts...Till then leaning slightly bearish...Yest moves made me bearish since we could not sustain above 4522-4540..I can explain the importance of this area later....But still overall damn confused on market...And when confused, better sit out or trade very small with tight stops...

Best.

US Markets EWT Counts

Chart is self explanatory. Expect our market also to follow something similar.

Best.

Market Psychology

A nice writeup from a fellow blogger...Read it even though its long...A good insightful post

PS: dont miss weekly analysis post below this!

As a trader I have always been fascinated by market psychology. By its definition the process of ‘price discovery’ is intrinsically a large experiment in human emotion which is driven by greed and fear. Although the former is what brings people to the market in the first place, in 9 of 10 cases it is the latter that proves to be the basis of their financial demise. As Peter Lynch put it: “The real key to making money in stocks is not to get scared out of them.”

Of course things change profoundly when you find yourself in an ensuing bear market - but in a way things remain exactly the same. Only that the dynamics now switch into reverse, in that the ‘upside’ is the continuous slide down and that the ‘downside’ are the various episodes of corrective bull rallies. Nevertheless, many investors seem to have a psychological barrier towards ’shorting’ stock and it is probably fair to say that an overwhelming majority have never shortened a single stock in their life. After all, it is a bit ‘unnatural’ for Joe/Jane Sixpack to grasp the concept of selling something now just to buy it back later, hopefully at a lower price. I have tried to explain this idea to some of my friends and most of the time they just give me a polite smile and hastily proceed to change the topic of conversation. As I enjoy getting invited back (especially since the food is free and the women are hot) I don’t press the issue. And finally, as I am an evil speculator I am aware of the fact that for every penny I wrest out of the market someone else out there has to lose it. It’s a zero sum game, no matter what anyone tells you.

The other aspect of investors losing money in a bear (and also bull) market is that they fall prey to their own cognitive biases. Let me suggest a few of my favorites - you can find the full list in Curtis Faith’s ‘Way Of The Turtle’ - a most excellent read:

• Loss Aversion - The tendency for people to have a strong preference for avoiding losses over acquiring gains.
• Sunk Cost Effect - The tendency to treat money that has already been committed or spent as more valuable than money that may be spent in the future.
• Recency Bias - The tendency to weigh recent data or experience more than earlier data or experience.
• Bandwagon Effect - The tendency to believe things because many other people believe them.
• Low of Small Numbers - The tendency to draw unjustified conclusions from too little information.

I guess you get the picture - people often (if not most of the time) make decisions which are driven by human emotion, not by rational analysis. The natural instincts of our deeply ingrained reptilian brain might be well equipped to staving off natural enemies and surviving a cold winter, but are completely orthogonal to the skills needed in making money in the market. Yes, we all like to believe that we are stone cold traders who can press the buy button when our instincts scream at us to start selling everything now! But evidence points quite to the contrary - most traders fail because they sooner or later fall prey to their own fears. Of course there is a good portion of people who have a trading system without a statistically reliable edge or have no trading system at all, but this is not today’s topic.

Reducing the ‘Noise’

The Internet and modern information technology as a whole has given small time investors/traders access to a wealth of data and tools that was reserved to a wealthy elite just a decade ago. I should know - I was there and remember paying top Dollar for a trading platform that does not even come close to what I am now able to enjoy for free today. On top of that I am able to access a vast amount of information and news at the push of a button, right from the convenience of my home. I can also watch financial networks covering the market pretty much 24×7 (not that I personally ever do, but it’s there). For the fundamental trader I can only guess that this is pure heaven, however for the technical trend trader (yours truly) all that data in some ways may be more of a curse than a blessing. You see, the human brain is not very good at absorbing vast amounts of information. We are good at averaging - some call that ‘fuzzy logic’, and most of us are very visual. Which is why man traders eventually embrace technical analysis. As the thinking goes - all that vast amount of fundamental data which we could not possibly hope to digest is simply reflected by one main denominator, the actual market price of the underlying equity or commodity as depicted by a price chart (remember, I was talking about ‘price discovery’ at the beginning). Add to that some time tested chart patterns like ‘triangles’, ‘head and shoulder formation’, ‘double tops/bottoms’, etc. and you’d think that trading should actually be fairly easy, right?

Well, as you probably have learned from the tribulations of life as a trader - the answer is no. We just can help ourselves it seems and sometimes - and I actually dare to say most of the times - the majority of us are unable to see the forest for the trees.

Weekly Trends

Late on my posting for the week since I had some problems over the week...An accident...Luckily nothing happened to me but my car...well thats a different story...But well thats life and it happens...

Anyways, coming to the market, I should have updated on Thursday but due to problems above could not...I turned slowly bullish on the day as the market was holding onto support levels quite strongly and as I said before US markets were quite ugly at the time...We opened ugly too but still bears were not able to break support even with all the global support..Slowly I turned bullish and started buying with tight stops...Happy I did so..!

Lets look at the news front..We have 2 major market moving news that came out over the weekend...One is global and the other is local...Not so sure which one is more important but together it should give a big big boost to our markets in the short term...We still need to see and review what this will do in the longer term...

The Global News - Well if you didnt hear it by now, Friday after market hours, the US govt. made public the plan to nationalize/support the 'deep in trouble' Fannie and Freddie...This is a very bullish thing to the markets esp financials due to the amount of paper being held by all the different banks...Longer term..Well makes no difference..Infact its very bad as in essence capitalism is losing and something different is happening in the US of A. I would say we live in unprecendented times...The other most obvious bad thing is that USA goes more into debt worsening an already bad situation.

The Local News - Sure everyone knows this..The NUKE deal finally falling thru and it looks like we have a better deal now...Quite bullish.

SO. A gap up is almost guarranteed..If not long, look to buy pullbacks...Dont rush in and buy..Lets see how the markets react at supports and resistances...Since I am already long from Friday, I will sit tight...

Now to the charts...

First the daily...Comments on the chart and nothing more to say here.

Heres the log of the daily. Very interesting...Again nothing more to add here except for the comments on the chart..Open in new window to view.

The weekly....Note here how the MACD is now a clear buy...But note that this is quite lagging to be careful following this except for longer term cash investments. Stochastics is quite neutral right now...Need to see this week to understand more on what will happen next.

Overall the charts and news are quite bullish for this week. But longer term, we remain bearish...Short term and maybe medium term(1-2 months?)...We can turn bullish...Watch out for more bullishness coming from the new channels and public...This will be our signal to be more careful...For now, things start to look rosy again...But dont be fooled into longer term investments...This is still an upward correction to all the downmoves we had so far.

Best.