Is the Rally on Its Last Legs?

10/25/2012 6:00 am EST

Focus: TRADING

Elliott Wave International’s Bob Stokes shares why wildly bullish hopes for the stock market may soon be reined in.

An analyst can draw a line on a stock chart that connects price points along a market trendline...but the price action itself creates the trendline.

In other words: Trendlines reveal what the market thinks is important.

A trendline may connect along a series of price lows, which the market often reveals as support. Or, another trendline may connect along a series of price highs, which stand as resistance.

A line of support is generally where buyers participate. Sellers engage around a line of resistance.

Trendlines can stretch across various time frames: days, weeks, years, decades—even centuries.

One trendline that's exceptionally relevant to today's price action goes back at least 75 years.

On August 17, the Dow Jones Industrial Average revisited the long-term channel line that dates back 75 years to the 1937 top. Market action around this trendline has been accompanied by the most frenetic buying of the stock mania era. At both the 2000 and 2007 tops, the Dow spent months above the line before declining in the biggest drop since 1930-32. Now, the Dow has repeatedly failed, over a two-year period, to make it above this line, which our February issue termed “formidable resistance.”

The Elliott Wave Financial Forecast, September 2012

Here's a chart that shows the link between 1937 and today:

chart
Click to Enlarge

Despite a recent test of this long-term trendline, some market observers harbor wildly bullish hopes.

For example, consider this Oct. 12 CNBC headline: Get Ready For a ‘Raging Bull’ Market. The article reports: Citigroup’s strategists have moved to “overweight” on U.S. equities.

Once again: EWI's evidence suggests that the stock market is at a historical juncture, including the market's Elliott wave structure. Prepare now for financial history in the making.

By Bob Stokes, Elliott Wave International

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