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Thursday, November 12, 2009

The Ending Diagonal Pattern

Kenny posted T-bone's ending diagonal count and having no time, I re-linked his chart (hope ya don't mind). Its a valid count particularly if the rise from 666 is considered a double zigzag which is also a very agreeable count.

The truely rare pattern is indeed an expanding ending diagonal. I know I searched on Prophet for them from mid-1920's onward and haven't found a decent example on the DOW at a daily level of sight. In other words, a multi-month one (or any for that matter).

Not to say that they are not a valid pattern indeed it is a suggested pattern by Prechter himself as shown in Elliott Wave Principle. I look forward to what is expected to come after this pattern: A sudden reversal. And that is what I want to talk about briefly.

Here is some info from EWP on ending diagonals:

"An ending diagonal occurs primarily in the 5th wave position at times when the preceding move has gone "too far, too fast" as Elliott put it. A very small percentage of diagonals appear in the C-wave positions of A-B-C formations. In all cases they are found at the termination points of larger patterns, indicating exhaustion of the larger movement"

In thinking about this case, I think the "too far, too fast" might probably be an apt statement. So indeed that may fit (and again depending how you look at it, it might not). As far as "exhaustion of the larger movement" technically this also fits the current market I would think or at least a very good argument can be made.

What doesn't seem quite right is the lack of exhaustive subwaves. The movements have been anything but in the up and down cycles of the past few months. Indeed tight channels have formed in the up and down moves. So that would be one problem with the formation. The one example EWP shows is an exhaustive pattern with prominent ABC subwaves making for a labored advance even in the subwaves.

In fact a labored advance is not necessarily what I would call the price action of the past few months. Spirited, speculative and exciting, interspersed with brief bouts of fear in a steady cyclic rhythmic swing would be more apt. I would think the price action is more an expanding triangle type of corrective/consolidation. Except is has an upward tilt to it which again does not make it agreeable with a triangle. However review the VIX. It has an expanding triangle of great size during this time perfectly matching the cyclic rythem.

So hence many people have defaulted to the ending diagonal C wave, which, could very well be correct. But when looking at the moves in detail, and the underlying price theory of why these exhaustive patterns occur in the first place, it doesn't necessarily make a perfect match.

More from EWP:
" A rising ending diagonal is usually followed by a sharp decline retracing at least back to the level where it began and typically much further. Ending diagonals imply dramatic reversal ahead"

So from that principle above, I would be wise not to try and outguess if this is indeed an ending diagonal. It is one reason I stayed short. Because the theory calls for a dramatic reversal. This is something that is inherent in all ending diagonals and it makes sense when you think of an "exhaustive, labored" move.

So quite simply, if this is indeed an ending diagonal, we can expect a rapid price move back to the origin of start or at least to 1019 or somewhere dramatically lower. For if the market is exhausted, it falls over on its own exhaustion. All ED's have this inherent dramatic retrace. So far we haven't had a dramatic price reversal although tomorrow could be the "third of a third".

So what if the market goes and attempts more highs in the coming days? It is after all, touching the trendline it has so eagerly wanted to touch for the last 7 months. Shall it give up so soon?
What if this slowly rythmic advance was in anticipation of this meeting of the trendline?

Indeed the market could trace to a higher high. And indeed ED's can often exhibit "overthrow" and being that this is an expanding pattern already, perhaps the "mother of all overthrows" is about to come.

And then dramatic reversal.

When assigning a wave pattern I always try and see if it fits the underlying theory. This ED may follow simple price rules, but a close look at the subwaves yields questions.

At any rate, I hope its correct. The confirmation will be a dramatic reversal downward either coming in the next day(s) or after a new high is set.

So for the reasons discussed, I don't have the ED as my primary wave count in a double ZZ, but I won't mess around with the pattern. Technically its been a somewhat labored advance but it can also be described as a "purposeful" advance.

So the jury is out. And T-bone's chart is a fine chart.
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