Are You Done Looking for a Stock Market Top?

05/08/2017 2:48 am EST

Focus: STRATEGIES

Avi Gilburt, Esq

Founder, ElliottWaveTrader.net

There’s nothing to suggest that the market has seen its highs just yet, asserts Avi Gilburt, a widely-followed Elliott Wave technical analyst and author of ElliottWaveTrader.

After the market bottomed at the 2330SPX support we noted weeks ago, it has continued higher towards our ideal target at 2410SPX on Friday (May 5), after spending the week in a sideways consolidation.

If you are done looking for a market top, well, so are many other bears. After this past week's move (which we called for), more and more bears are waving the white flag. And the reason, which amuses me the most, is that they are claiming that “the fundamentals now support a higher S&P500.”

As I have warned many times in the past, market fundamentals are a lagging indicator. I have explained it in great detail in prior articles:

When people begin to turn positive about their future, they are willing to take risks. What is the most immediate way that the public can act on this return to positive sentiment? The easiest is to buy stocks. For this reason, we see the stock market lead in the opposite direction before the economy and fundamentals have turned. In fact, historically, we know that the stock market is a leading indicator for the economy, as the market has always turned well before the economy does.

This is why R. N. Elliott, whose work led to Elliott Wave Theory, believed that the stock market is the best barometer of public sentiment.

Let’s look at the same change in positive sentiment and what it takes to have an effect on the fundamentals. When the general public’s sentiment turns positive, this is the point at which they are willing to take more risks based on their positive feelings about the future. Whereas investors immediately place money to work in the stock market, thereby having an immediate effect upon stock prices, business owners and entrepreneurs seek loans to build or expand a business, which takes time to secure.

They then place the newly-acquired funds to work in their business by hiring more people or buying additional equipment, and this takes more time. With this new capacity, they are then able to provide more goods and services to the public, and, ultimately, profits and earnings begin to grow, after more time has passed.

When the news of such improved earnings finally hits the market, most market participants have already seen the stock of the company move up strongly because investors effectuated their positive sentiment by buying stock well before evidence of positive fundamentals are evident within the market. This is why so many believe that stock prices present a discounted valuation of future earnings.

Clearly, there is a significant lag between a positive turn in public sentiment and the resulting positive change in the underlying fundamentals of a stock or the economy, especially relative to the more immediate stock-buying activity that comes from the same causative underlying sentiment change.

This is why I claim that fundamentals are a lagging indicator relative to market sentiment. This is also why fundamentalists can be left holding the bag at the top of a market, when the news and fundamentals look the most attractive, right before the market begins to dive, as sentiment turns in the opposite direction well before the fundamentals, just like it did at the bottom.

This lag is a much more plausible reason as to why the stock market is a leading indicator, as opposed to some form of investor omniscience. This also provides a plausible reason as to why earnings lag stock prices, as earnings are the last segment in the chain of positive mood effects on a business growth cycle. It is also why those analysts who attempt to predict stock prices based on earnings fail so miserably at market turns.

By the time earnings are affected by a change in social mood, the social mood trend has already been negative for some time. And this is why economists fail as well--the social mood has shifted well before they see evidence of it in their “indicators.”

So, as more and more bears will likely become convinced of the stock market rally, this is exactly what is needed to be seen before the market is able to strike any real top. I suggested that this is exactly what would happen, and that we would not be able to form any lasting market top until the majority of the bears came over to the dark side.

What is quite interesting is that many begrudgingly note that this is the second longest bull market in history. Yet, when you consider how many continually fight this market rally, and the fact that this is the most hated market rally in history, it would make sense that the rally will simply continue until most of the market finally embraces the bull. Nothing will stop this rally, and the proverbial wall of worry will continue to be climbed, until everyone begins to love the bull.

Now, you will always have those analysts that claim to be “contrarians,” who are showing you the “true facts” about the market. But, folks, there is always going to be some negative aspect of the market to which one may point to support a bearish outlook. Always. Otherwise, would not everyone be bullish? The issue with being a contrarian is that timing is of the utmost importance. If you are a contrarian and you are standing in front of a herd of bulls on the run, what happens to you? Yup, you get trampled.

Based upon Friday’s market action (May 5), it would seem we are stretching towards our ideal target of 2410SPX. And, as long as we remain below 2425SPX, I am still expecting the market to provide us with a b-wave top in the coming week.

Again, this is the pattern for which we prepared those that follow us back on March 1 as we topped. Since that time, we have dropped to our a-wave target, and have now rallied towards our 2410SPX b-wave target, for which we provided much advance warning in the 2330SPX region.

As long as we hold below 2425, this pattern points back down towards the 2330SPX region, but with an ideal target in the 2285SPX region. Moreover, this decline can be fast and furious to re-set sentiment to prepare us for the rally to 2500SPX. How the decline takes shape will provide us much more accurate clues as to the target for the decline.

I know I say this all the time, but despite my expectation for another drop in the market, there is nothing that is suggesting that the market has seen its highs just yet. Rather, I still expect that the market will exceed the 2500SPX region, and it may even exceed the 2600SPX region, depending upon how the next larger consolidation takes shape this summer/fall. In fact, I don’t foresee a 15-20% correction even beginning to take hold until next year.

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