Comfortably numb

Eric Parnell, a US Portfolio Manager, wrote an interesting article in Seeking Alpha recently. Here is the link to his article Uncomfortably Numb
As we approach the end of the first half of the trading year, Eric notes that the stock market has had only 2 days that fell 0.7% or more in the past six months. To quote from the the article:

 

“…how truly unusual is it to have a market that has only gone down twice in the first six month of the year and four times over the course of a calendar year? Extremely unusual. To put this into context, over the past 88 calendar years of market history – which is a fairly decent sample size, to say the least, across all different kinds of market environments – the stock market will fall by more than -0.70% in 17% of trading days in any given year on average. Putting this differently, in any given trading year, stocks will fall by more than -0.70% on 43 trading days on average. But this year, we are on pace for just 4, which represents less than 2% of all trading days for the year. Unusual indeed.

How unusual is this disparity between upside and downside volatility in today’s market? The normal ratio of +0.70% to -0.70% trading days in any given year dating back to the late 1920s is roughly 1.1-to-1. In 2017, it is setting up for a ratio of 5.5-to-1. This represents a more than +7 standard deviation event, if this ratio held through the remainder of the year. Put differently, what we are seeing take place in the U.S. stock market today in terms of upside volatility versus downside volatility is something we should expect to see once every 1.1 billion years. So yeah, I would say what we are seeing right now is a little unusual.”

S&P500 Chart showing Elliott Wave Theory analysis as we approach the end of the first half of the trading year

Above is a chart of the S&P 500 marked with Raf linear regression lines. Linear regression lines are drawn by starting the line at a low point on the chart where a trend began, and extending a line to the high point of the chart where it appears that the trend has ended or paused. The middle line represents that starting and finishing point of the trend or wave, and the surrounding lines simply take the high and low points of volatility within that period. The linear regression line gives us an eyeball on how much up/down price movement happened over the chosen period. I’ve selected the start and finish lines for my linear regression studies by using the 5 waves noted on my “Elliott Wave Theory (EWT)” blog in May.

Price swings contained within each up-wave have been typical for a normally progressive bull market. That is – within the 3 up-waves –

  • Wave 1 contains big price swings as the crowd wrestles with the end of the bear,
  • Wave 3 is fairly steady and long as the crowd starts to believe in the new bull market,
  • Wave five is typified by a sharply rising  market (“tight and to the right”, as is said in my cycling group rides). Wave 5 is the final move of the bull market as the crowd becomes overconfident and speculative.

Mr. Parnell’s observations seem to match those of my EWT interpretation of the current markets. It adds another reason to keep a sharp eye on the horizon for changes in trend.

7 Comments

  • Hi Keith,

    Good title for the blog. The “conspiracy theorist” in me tells me the PPT or some other market interfering mechanism, is at work in the US. It just seems very weird that the market is holding up even at overvaluation, and overbought technical indicators, and seasonal weakness. Even stranger to me is that all of the QE is starting to get unwound and the market doesn’t seem to care even though it is generally considered to be forward looking. Hmm…

    Cheers,
    Ron

    Reply
  • Why is the fifth wave called an “impulsive” wave in the Eliott theory?

    Reply
    • JP–Impulse waves are the waves that are moving in the prominent trends direction (not impulsive–that’s what Justin Trudeau is with his spending habits…impulsive…). I have heard them called impulsive, but I believe the correct term is impulse. But that’s semantics…
      There are 5 waves in major the trend, followed by the 3 waves (usually called “a,b,c”) that are counter to the major move.
      So wave 1,,3,5 are impulse waves-those in the major trends direction-not just wave 5.
      Then in the 3 corrective waves, a and c are considered impulse waves (ie moving in the major direction of that corrective movement). EWT can get complicated–you can get sideways moves that are labeled differently again. This is why I do not do much EWT work beyond the big picture stuff–to me, I only look for the major 5/3 waves, identify them more by the crowd’s attitude – and use them to give me a feel for the environment. By themselves they are NOT predictive for precise or even reasonably accurate timing– IMO.
      Hope that helps

      Reply
  • so two clarifications coming out of this. Given there are 5 waves in the EWT and we are currently in wave 5, the implication is there is a higher risk then not that we will have a correction coming.
    1) The insuing correction after wave 5 is it typically dramatic (ie GT 20% prior to the start of wave 1?
    2) the period of correction….. is that considered part of wave 5 or wave 1?

    Thanks

    Reply
    • I don’t know that we can target when and the degree of pullback ahead of time. All EWT does, in my opinion, is identify the stage or phase of a cycle. How much higher we can go from here is unknown, when it will actually end is unknown, and how far it will correct at that point is unknown. However, to your point, a 20% correction would be fair. One TA I knew years ago – Ian Farrell of TD Bank, once did a study of average pullback / retracements. He found that 50% retracement of the prior uptrend was common. So–if the S&P has risen 30% in wave 5 by the time its finished, we might get half of that retraced (approx 15%). But that’s just one study–you cant really say ahead of time what will happen nor when it will happen.

      Reply

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