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Bulls Beware - We Are Finally Closing in on a Top
11/28/2017 10:20 am EST
With iShares Russell 2000 Index (IWM) striking the minimum target we set several weeks ago for this rally, the question is if it can now stretch to the upper end of our target in the 156 region, writes Avi Gilburt, technical analyst and author of ElliottWaveTrader.net.
When former bears call for a New Golden Age of the stock market, with targets of the DOW set at 100,000, well, it is clearly time for bulls to beware.
In fact, the Dow 100,000 prediction of this former bear is explained as follows:
“This is not some pie in the sky prediction. It simply assumes a continuation of existing trends in demographics, technology, politics, and economics. The implications for your investment portfolio will be huge.”
I mean, markets always continue their current trend unabated, especially since financial markets are purely linear environments . . . right? So, why not set your target for 1,000,000 rather than 100,000 based on the exact same thesis?
And, while another widely read author on Seeking Alpha, who has been bearish for the last year and a half, did not exactly turn bullish, he certainly took a major step towards the old claim that we have entered a new paradigm:
“This idea of a Goldilocks backdrop characterized by solid growth but subdued inflation has become so ubiquitous that it’s being treated not so much as a way of explaining the current state of affairs but rather as a theory about how the world is going to work for the foreseeable future. Don’t get me wrong, I think there’s some truth to the idea that the old models don’t work anymore.”
And, despite his recognition that the old models no longer work, he then proceeded to explain why those old models should still be given significant weight, despite their admittedly clear lack of efficacy.
You just can’t make this stuff up. Truth is often stranger than fiction, and, it certainly applies in our financial markets as well. Old habits seem to die hard, no matter how bad those habits have been.
The stock market can make for an interesting study in market psychology. You see, when the stock market is dropping strongly, as we experienced almost two years ago in the first few months of 2016, people turned bearish, and many were calling for a market crash just as we were bottoming in February 2016.
We then get to a point where bearish sentiment reaches an extreme and there is only one direction to which we can turn. It was at this point, near the 1800 region in the S&P 500 Index (SPX), that the market turned in the opposite direction from its bearish extreme, and began the ascent in which we currently find ourselves.
During the initial phase of the ascent, most market participants do not believe that the turn higher is sustainable. So, most remain quite bearish despite the strong rally in price. And, we see this quite evidently in the articles written by many market analysts during 2016.
Ultimately, the market begins to soar well beyond the point at which it is reasonable to maintain a strong bearish bias, and you begin to see some, but not all, in the analyst community turn bullish.
And, the higher we go, the more analysts begin to turn bullish. And, when you see these former bearish analysts turning bullish, you can be certain that investors are experiencing the same feelings. Ultimately, the entire investment community of investors and analysts recognize the bullish trend, and begin to assume “we are in a new paradigm,” and state that this new trend will continue unabated into the foreseeable future. This is what we began to experience in 2017.
Isn’t that how the stock market has always worked? It is so simple, yet many complicate it with ratios, fundamentals, supposed market imbalances, geopolitics, or whatever news of the day you may chose.
You see, markets are driven by emotion, not rationalities. Rationalities are used to explain what the market does in hindsight, and sometimes it cannot even do that. But, please recognize that these rationalities are trying to explain emotive actions. It is like trying to rationalize with your spouse when they are being extremely emotional. How well does that work for you?
And, just like trying to rationalize with an overly emotional spouse will never get you anywhere, attempting to rationalize the next movement of the stock market’s emotional environment will never get you anywhere, except maybe the wrong side of profitability.
Just as the market turned bullish when bearish sentiment reached an extreme, we can see the same perspective on the bullish side of the market when the investor and analyst community speak of new paradigms and expectations that the current trend will undoubtedly continue.
So, of late, when I read former bears claiming that this current trend will undoubtedly continue, or even current bears claiming that we seem to be in a new paradigm where the old models no longer work, it tells me this is the time to be cautious.
But, one must wonder why supposedly intelligent people can recognize that their models no longer work, yet continue to rely on those models, and strongly urge you to do the same? That is the subject of an entirely different article I need to write regarding the insanity of the investor community. Stay tuned, it will be out shortly.
With the iShares Russell 2000 Index (IWM) striking the minimum target we set several weeks ago for this rally, the question is if it can now stretch to the upper end of our target expectations in the 156 region. And, as long as the IWM holds over the 150 region on all pullbacks this coming week, I am targeting the 155-56 region within the next week or two.
However, should we see a break down below 150, we would then have our first topping indication. While the IWM may still make a higher high if it is able to hold the 149.50 region (in the event of a break of 150), that may very well be the final high before we revisit the 133 region again.
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