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Alternate Paths
June 24, 2010

If anyone is still wondering why I've been so reticent to mark the May low as an intermediate cycle low, today's action in the equity market should help allay the skepticism. With a 1.7% drop, the S&P 500 took a big step toward the red scenario outlined in yesterday's post, which is to say toward seeing an intermediate low form just ahead of us rather than just behind.

SPX Weekly

There will be quite a bit of fear generated at this intermediate low, should it play out this way, especially since the May low appears to have already been successfully tested. Breaking back below SPX 1040 is going to spike bearish sentiment, and even though the 75WMA currently lies above SPX 1000, I wouldn't be surprised to briefly see a triple-digit print as retail traders are relieved of their round-number stops. The state of the daily cycle suggests that at least two weeks would be needed to complete this process:

SPX Daily

The daily cycle is 21 days old, so at least 9 more sessions are needed to enter the timing band for a low. If the market were to suddenly turn higher and exceed the last pivot at SPX 1125, we would be forced to consider an alternate path. In any case, there is currently no competitive advantage, long or short, in the stock market. As I've been saying for weeks, it's going to be a lot easier to short the next big rally than to try to call these near-term wiggles. As always, we traders should set expectations within the framework of our models and only make aggressive moves when the market traps itself within an interpretation.

There was potentially meaningful action in both gold and the dollar today, as well.

DX Daily

I am confident we saw a daily cycle low on the DX with the big reversal three days ago, and as mentioned in a recent post, the dollar often forms extremely left-translated daily cycles during intermediate declines, occasionally peaking in less than a week. I'm also fairly confident we are already in the midst of an intermediate decline since the last daily cycle low recently gave way, and the intermediate trend line has been broken.

DX Weekly

But it still may be premature to declare that the new daily cycle has peaked. Swing highs early in a daily cycle are often meaningless head fakes. We should at least wait for Monday's low at DX 85 to give way before viewing the new cycle as extremely left-translated.

As you may have deduced, we should be cautious with our dollar and equity outlooks, as there is a bit of reconciliation to consider. It's not likely we will see the buck begin a plunge into an intermediate low while stocks are doing the same. There will be a period, sometime in our country's bleak future, when the DX and the SPX decline together... I suspect the dollar will drag stocks down with it via some sort of crisis... but that time has not yet come.

For the time being, one of two outcomes are feasible within the framework of reconciliation. Either the dollar's daily cycle will work its way higher (holding below the 88.5 peak, mind you) while equities complete an intermediate decline or the dollar will continue to plunge, providing stocks with an impetus to rally from here and prove the May low to be an intermediate low. While I suspect the former, I don't really care how it plays out since I have no money tied to the equity cycle. As I said above, I am an observer until the market provides a clear interpretational advantage.

What I do care about, because I have most of my liquid net worth committed to it, is what happens to gold.

Gold Daily

As with the dollar, one must be cautious not to prematurely identify a pivot. Cycle trend line breaks tend to be accompanied by at least one close beneath the trend line, not just an intraday dip. However, at Day 23 further downside should be limited, time-wise, and the impending cycle should set a higher high since the current cycle is right-translated.

The nature of the coming cycle is much more important than where it might begin. Keep in mind that gold has shown almost no sign of an intermediate decline since the last low in February, so there is a good chance that gold still has such a decline just ahead. If so, the coming daily cycle will form as left-translated and roll over just after setting its higher high. Don't panic, though. There are only four weeks remaining in the typical intermediate cycle timing band. As stated above, the impending daily cycle should set a higher high, and by the time that high is set, gold will have less than three weeks left to find its intermediate low... hardly enough time for a severe drop.

Of course, there is still our healthy debate over the potential 15-week cycle:

Gold Weekly

Before one falls into despair about the indefinite nature of our cycle interpretations, consider our play. If gold is set to fall into an intermediate low, we are facing a very brief decline before reaping the benefits of a new cycle. If an intermediate low was left behind at Week 15, we should be about to get upside acceleration as a new daily cycle begins. Either way, a dose of patience is all that is needed to ride our PM holdings higher. The only privilege we lack at the moment is an opportunity to get highly aggressive... but there will be many more chances before this bull runs its course.

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