The Drain Plug ~ The Risk Averse Alert

Thursday, March 03, 2011

The Drain Plug

There is everything to fear about a market whose continued levitation — delighting a woefully weak interest whose selling restraint alone has allowed the market's levitation to persist — amidst a still deteriorating technical backdrop only the more is raising probability that, once the plug is pulled, the market could be relentlessly drained.

The question remaining is whether the plug was loosened starting on Friday, February 18th. If so, then we have already received a taste of bad things to come...

OEX 5-min

Taking form following top on February 18th were the first and second waves (surrounded in red) of five waves down completing on Thursday, February 24th.

Now, if February 18th marked the end of a "rising wedge" forming off late-June 2010 bottom, then the five wave decline into February 24th bottom likely formed but the first wave of a larger five wave decline (this prospectively resulting in a 25-40% throttling over the next several weeks).

So, observe how the reaction back up from February 24th bottom bears a fair similarity to the second wave forming on February 18th (this particularly in relation to the respective first wave preceding each of these reactions). Then, consider what might follow.


Indeed, a third wave down from February 18th top began unfolding on Tuesday, February 22nd. As you can see, the trend line above which wave c of 5 unfolded from January 31st to February 18th was taken out as a result of the market's gap lower at the open that day.

Recall too that, February 22nd marked the worst NYSE Advance-Decline differential since late-June 2010 bottom — a fact raising the likelihood that, a presumed "rising wedge" forming off that bottom, indeed, competed on February 18th.

Now consider the present breakdown of both relative strength (top panel) and momentum (bottom panel). This further raises the likelihood that, a "rising wedge" thought forming off late-June 2010 bottom completed on February 18th.

Curiously, the trend line above which unfolded the presumed rising wedge's fifth wave (off late-November 2010 bottom) — that is, yesterday's "support" — now appears resistance following February 22nd's close below it.

So, should this resistance hold tomorrow (Friday, March 4th), likewise leaving intact the market's February 18th peak, one then might wisely wonder what could blow up over the weekend, such that upon the market's open on Monday a gap below the rising wedge's lower boundary is precipitated, initiating the third wave down (of five larger waves slated to bring a 25-40% haircut).

With technical substantiation all the more conclusively confirming a "rising wedge" forming off late-June 2010 bottom, this rather appears a fearsome moment. The manner of underlying weakness demonstrated (and increasing) over the interim — and this but a cherry on top of conspicuous technical circumstance revealing an absence of both fear, as well as animal spirits, over the entire course of the market's advance off March '09 bottom — though largely ignored by most (or simply not understood), is making for the most well-justified, bearish outlook I have ever had the discomfort of subscribing to in all my twenty-five (plus) years with Mr. Market.

As I said at the start, once it becomes clear that, the plug has been pulled, the market's tailspin all too likely will be rapid, relentless, and devastating. But a first taste might have come on February 22nd. The next swallow could arrive as soon as tomorrow or Monday.

Fast Money
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