Dow Headed to 9000, S&P 880
I am looking at the charts of the major indices and they do not look pretty. If we look at a chart of the DIA we can see an extended left shoulder, a head, and we are now in the process of completing a right shoulder. A similar pattern also exists on the SPY so I have only included the chart of DIA.
It is possible that what looks like the right shoulder may actually be part of the head as the large sell off on May 6 was quite abrupt. There are 3 possible scenarios that may occur:
1) Upon reaching the neckline the market will resume its rally and break out to new highs. Based upon current market conditions this seems the least likely outcome.
2) Upon reaching the neckline the market will retrace about 50% of the current sell off bringing the S&P to 1150 and Dow to 10,500. There will then be a decline to the neckline forming another right shoulder. At this point the market will either A) reverse to the upside thereby negating the head and shoulders pattern or B) it will fall through to the projected lows as stated in the title. B seems the more likely outcome.
3) The market will break through the neckline without any further rally. In all likelihood there will be a back test of the neckline and then further declines to the projected lows.
The target for the head and shoulders pattern is calculated as follows: The neckline – (the top of the head – the neckline). This is the same as 2 x the neckline – the head. On the SPY that is (105 x 2) = 210 – 122 = 88. On the DIA that is (99 x 2) = 198 – 112 = 86.
Interestingly enough, the neckline that defined the reverse head and shoulders bottoming pattern that preceded the rally from the March, 2009 lows is right around the level of the projected decline of the current head and shoulders topping pattern on both the SPY and DIA. That is where I believe the market will find major support and the bull market will resume. The mathematics of this situation works out so precisely it seems inevitable that it is going to happen. The projected time frame for this drop is approximately 2 months.
With Germany expected to ratify the Euro agreement to bail out Greece I anticipate that there will be a short covering rally that will bring the SPY to about 115 and DIA to 105. Therefore I am inclined to believe that option 2B will be the actual outcome.
Recommended Strategy: On any rally buy Sept 90 puts on the SPY. These are way out of the money and will be cheap especially after a rally. If the market drops as anticipated and these puts are at or near the money by July they should at least quadruple in value and could be worth as much as 10 times the premium paid for them. This is a highly speculative strategy that I believe has an excellent chance of succeeding. Determine your own risk profile before executing this strategy and do not bet the mortgage money on it.
