The Dow rallies and follows my script

The Dow is in rally mode this week, and today I want to show how, by using basic Elliott wave theory concepts (as I do in my tramline method), this rally was entirely foreseeable.

My best guess scenario

On 4 August, this was the hourly chart of the steep decline in late July:

Dow Jones spread betting chart

The long and strong nature of the decline identified that part as my third wave. Working backwards, placing labels on waves 1 and 2 was quite simple. So far, so good.

If I had found the bottom of wave 3, which was likely, based on the large positive momentum divergence as marked, I could expect wave 4 to be a complex affair (they usually are!).

Thus, I expected wave 4 up to terminate and then see a complex move down to a new low in my final wave 5. When this fifth wave terminated, I then expected a relief rally, hopefully in an A-B-C form. Ideally, the C wave would terminate at or near to a Fibonacci level.

This is what I wrote last time:

And this morning, we are in wave 4 up. So, where will it end?

The rally has not even made it to the first Fibonacci 23% level yet and remains weak, so far. And with momentum at overbought levels, the rally may not have much further to run before wave 5 gets under way, taking the market below my wave 3 low.

That is my best guess scenario.

That was my script. My plan then was to take profits on my shorts somewhere along wave 5. Having shorted in the 17,000 area, that was one superb trade.

I also had the option of going long in anticipation of a good move up.


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You have to get the Elliott wave labels right!

So how is my forecast panning out?

Dow Jones spread betting chart

Right on cue, the market moved to a new low last Friday on a large positive momentum divergence – and promptly reversed sharply upwards late on Friday.

That caught a lot of shorts flat-footed, coming at a very inconvenient time when many had taken their eyes off the market and were headed home. But traders who were following their Elliott waves were ready for that move and were busy taking profits on their shorts.

Members who have graduated from my Trade for Profit Academy, for example, would have been fully prepared for this.

There was another reason to believe the decline would end in the 16,300 area – it lies on the Fibonacci 50% retrace of the big move up off the major February low (see next chart)

This week, the relief rally has moved on and it has a clear A-B-C feel – and a looming large negative momentum divergence. Note the A-B-C nature of my wave B – a textbook pattern for a B wave. The rally could peter out at any time from here.

Did history repeat itself?

But the rally could extend much further! Here is a daily chart I took last week:

Dow Jones spread betting chart

I noted the possible similarity between the rally off the February low and the current position. Last time, the market staged a huge rally, which eventually took it to new highs. I asked the question: will history repeat?

Here is that chart updated:

Dow Jones spread betting chart

It is certainly looking like it is following the previous example, so far.

Of course, the possibility exists that the rally could extend to a kiss on the underside of the wedge line (pink zone) – and that would put the market at a new high.

But there is one significant difference between February and now: back then, there was little in the way of chart resistance on the way up. Now, there is major resistance provided by the choppy waves in the June-July period.

That could put the brakes on the rally at any stage from here.

• If you’re a new reader, or need a reminder about some of the methods I refer to in my trades, then do have a look at my introductory videos:

The essentials of tramline trading
Advanced tramline trading
An introduction to Elliott wave theory
Advanced trading with Elliott waves
Trading with Fibonacci levels
Trading with 'momentum'
Putting it all together

• Don't miss my next trading insight. To receive all my spread betting blog posts by email, as soon as I've written them, just sign up here . If you have any queries regarding MoneyWeek Trader, please contact us here.

2 Responses

  1. 16/08/2014, Jouster wrote

    I really enjoy the articles, but my momentum readings are always substantially different. I use standard settings on MT4.

    What settings does JB use for his momentum?

  2. 16/08/2014, Bronco Bill wrote

    As you know John, it is said that the Bulls live above the 200 day MA, and the Bears below.

    When the Dow dropped to its lowest day on the 7th this month, it touched (exactly) on the 200 day MA and closed a few points above before setting off the next day to where the Dow is today.

    Phew!….that was close.

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