A little bit on stock market

Dow Jones Industrial Index 1919 to 2008

How low can the stock market drop?

Is it time to buy?

Last week (6 - 10 Oct) Dow dropped from 10,325 to 8,451, an 18% drop, and last night it put on 936 points, which is 11%. From 9 October 2007, from a historical hight of 14,164 to 8,451, the pull back is 40%. Is 8,451 the bottom? Or is it only a technical rebound? Whatever the economist or the chartist predict, sometimes they are right and sometimes they are wrong. A few months down the road we will know. But it has to be that way, that is why the market can exist.

In February 1997 when CI started to drop from 1271.57, no one would dream that it would drop below 300. At that time, it was only an Asean crisis. America, China and Europe had not much of a problem. This time around, it is a global problem, China has dropped from 6000 to 2000, America in big big problem, Europe is the same. This time it should be more serious than in 1997.

If we resort to technical analysis using Elliott Wave Principle to see where we are, the following is my interpretation. Refer to the chart shown at the top, Dow Jones Industrial Index from 1919 to 2008 on semi logarithm scale.

Since the 88% drop from 380 in 1929 to 43 in 1932, The Dow has completed 5 wave from 1932 to 2007. Wave one was from 43(April 1932) to 186(Jan 1937) 350% up within 57 months.

Wave 2 ABC correction from 186(Jan 1937) to 96 (Jan 1942) 48% drop within 60 months. It is interesting to note that even the B wave in second half of 1938 can give a 61% up.

Then comes the major wave 3 from 96 (Jan 1942) to 969 (Oct 1965) up 900% in 285 months. Within this period there were 5 up wave each gaining 60% to 100% and 4 corrective wave with about 20% retracement each.

Wave 4 is an expanding ABCDE formation from 969(Oct 1965) to 607 (July 1974) 37% drop in 105 months.

Wave 2 and wave 4 comply nicely with Elliott's "Rule of Alternation" (to expect alternating patterns in virtually all wave movement. If, for example, wave 2 is simple, expect wave 4 to be complex). Wave 2 is a simple ABC with short duration (60 months) but sharp in magnitude (48%) and wave 4 is shallower at 37% but with a much much longer duration of 105 months.

Wave 5 from 607 (July 1974) to 14164 (Oct 2007) with a 2233% gain over 363 months. This is really a long run, thanks to President Reagan's economic policy. Some says today's financial problem was planted by him. It is interesting to note that in a mega bull run of this magnitude even the 1987 black monday melt down does not stand out in the chart due to its extra short duration. It is only one of the many minor waves in this major Wave 5.

The magnitude of pullback of 40% until now indicates clearly Wave 5 has ended. If I consider 1929 to 1932 as Major Wave II and the 88% drop within 60 month as sharp and short duration, and if I apply the rule of alternation again, this current Major Wave 4 should be shallow and with a long duration. Possibly a ABCDE or ABC-X-ABC type of formation, if this is the case since October 2007 we are in Wave A. Where is the end of A? In an ABCDE formation A has to be 3 waves only. We are somewhere near the end of wave 3, so we are near the bottom of A. But if it is a ABC-X-ABC, the A can have either 3 or 5 waves. If A has 5 waves , after the comming wave 4 rebound, we are going to have another wave 5 down before A ended.

How long the this whole Major 4 will take. A alone is a year or more, if each leg takes 1 to 1.5 years, it will drag until 2013 to 2015 with maximum duration to 2018(120 months). The market can still be interesting as Wave B and D can produce a gain of 50%.

Please take note that whatever the ultimate outcome or wave formation, it can fit into one of Elliott's wave count. Elliot can never be wrong, it is always the user that has counted the wave wrongly.