Bubble Blow Off Thesis
Before we get into the TA, let's talk a bit about how a bubble forms. We're defining a bubble as a progressively aggressive uptrend that results in a draw down of at least 70% - and this being something that happens over a long period of time.
We can stage a bubble;
Stage 1 - Ignorance or indifference
No one knows and no one cares. There is no bubble. There's a thing, a narrative to go with that thing and a handful of people talking about why they think it's a great thing.
Stage 2 - Acknowledgement and Mockery
More people become aware of the thing. Not the wider public, but people who are in spaces to know about things. It becomes known but is mostly a joke to those who consider themselves in the loop. Those outside of this probably have still not heard of it.
Stage 3 - Fad
The thing starts to put in some good performance but it's often peppered with crash events. It becomes more known and heard of because it its performance but there's an overwhelming feeling that this is just a fad.
People expect (And often want) it to fail.
Stage 4 - Hard to ignore
In stage 4 the first small bubble forms. Price moves to the upside get really wild. Pullbacks shallow out and price ends up going parabolic. By this time, everyone is getting to hear about it. There's still a lot of sceptics but there's also a lot more attention.
Stage 5 - First Wash Out
Those who come in at stage 4 are not in for a good time. Crashes are coming. These crashes take away a lot of the optimism that was built up in stage 4 and give a strong sense that the bear views on this were right all along. It was just a fad.
Stage 6 - Exceed all expectations
Stage 6 is the real bubble. What felt like a bubble in the earlier stages which now appears to have popped is about to be dwarfed. The following move will be so much larger than the previously moves that it will later appear as a minor blips in the chart rather than the huge bubble and bust they are. There are lots of new investors. All projecting the gains of yesteryear onto their own investment future.
Stage 7 - Mayhem and Irrationalism
The bubble has reached a point of total faith. Everyone has heard of the thing now. Oh how everyone wishes they'd got into the thing in the earlier stages but they'll make up for it now by being really aggressive. Any bearish cases for the thing just look silly - seeing is believing, and all people are seeing is higher prices.
During this stage for a while the market does exceptional things based upon people thinking it will do exceptional things (And perhaps also people getting squeezed on shorts. The 20% pop into the Nasdaq high was thought to be a big margin call). People start to expect highly irrational things - because they have been happening. Why should it not go on?
It feels like it can never end, but this is the end.
Stage 8 - A crash
Bubbles frequently pop with a strong crash of around 50%. Things look great. Then one of the V shaped recoveries becomes a big bull trap and it's down 50%.
Stage 9 - Bull trap
Some sort of low usually made around 50% (And it will crash hard into this, panic selling is common because the drop is so brutal).
Stage 10 - The downtrend.
Not a crash, a downtrend. Structured sell off with rallies but consistent lower lows. Worst than the crash. You lose money and you lose time. At least a crash is fast. You don't have time to average into terrible prices in a crash. The downtrend is the harsher section of the bubble pop.
---
Now, with all that in mind, let's take a trip down the history of US indices.
We'll start at the start. When a very smart man had a very clever idea, and John Bogle got rich promoting it. Discussing the evolution from indices being considered "Un-American" to them now being considered so sacred that the central bank and government of America will always protect them.
Here's the different stages and the evolving indices narrative;
Stage 1 -
The stock market index, particularly the Dow Jones Industrial Average (DJIA), was invented by Charles Dow and Edward Jones in 1896. Their creation provided a benchmark for tracking the performance of the industrial sector initially, expanding later to include 30 large companies across various industries.
No one cared.
Stage 2 -
John Bogle, you've probably heard of him, starts to promote his third investment fund.
His first two have went bust. One of them had been the top performing fund for 10 years before Bogle took over and then became the worst performing fund. John wasn't doing too well (He speaks of this himself) - and then someone explained the idea of an index to him, he was able to talk some people into putting money into it.
And most people hated it!
Like, they were mad. They didn't even just not want to be in it. They called it "Un-American". Bunching stocks together with no concern as to supporting the companies that deserve it. It was almost communism. People didn't like it.
Stage 3 -
But markets were roaring and the DJI was outperforming managers with their fees. People with big money started to take note and pile in. More indices would be created. By the time the 1990s rolled around not only were indices performing well - we were in a blistering bubble with the new tech index.
Stage 4 -
Up to that point in time, the peaks in public interest in indexing would have been late 1999 and late 2006 - 2007. The steady gains, reliable recoveries and long term success of indices was hard to ignore.
If you took this viewpoint in 1999, it'd be over a decade before you saw markets reliably trending above your entry price again.
Stage 5 -
The great crisis. When, for a brief period of time, it looked like it would all just end. People really believed all the banks were about to fail. None of the businesses would have any money because they lost it all in the bank failure and the whole idea of a stock market was about to become essentially redundant as there were mass bankruptcies.
It was the end.
Stage 6 -
But of course it was actually the start. The start of the bubble (?). From the 2009 low of 666 (Which really was the price the low was made) we are now up somewhere around 800%. If we made the blow off move shown in the original chart pic it'd been a 1,000% rally from the GFC crash low.
Stage 7 -
And we have mayhem. People's expectations are wild. Wilder still, many of these optimistic views actually underestimate how well the bull performs.
Complete faith has been gained by indices. Far from "Un-American" they are now considered the bedrock on which America stands. Too big to fail.
---
So what I am saying is, when you think about it over the full scope it things, it might be a bubble.
Now let's get into the Elliot wave.
I think the most useful thing when aiming to establish a big Elliot count here is the 2000 and 2008 crashes. Which these were major world changing event at the time, they ended up making a range very much like the "Flat" correction we can see in wave 2.
This really suits the rules for a flat wave 2 correction and if we call that a wave 2 correction then there's a sequence of logical conclusions we have to also make.
----
If this is correct when viewed in the context of 5 - 10 years we're extremely high in the rally. So high that people would later consider it to have been very shroud to have thought it might come to an end while we were at this stage of it. However, it does also mean we're inside of a blow off.
In the conditions of a blow off the only sane thing to expect is if and when resistance levels are broken price will move quickly and aggressively to the next one.
Stop running should be expected to be aggressive.
It really is a good time to be paranoid as a bear. It can be worth shorting resistance levels but it's not wise to be stubbornly short.
Historic blow offs have been in the 20- 25% range from their last bear trap. This could easily give us 1,000 more points to go if SPX was making a really big long term top.
As time goes on I become increasingly macro bearish. Which is saying something, because I started macro bearish. But the smart thing to do at this point is keep getting long breaks of resistance with tight stops. The case for a honest and true blow off move coming over the coming months is highly credible at this point.
If you think a big high is coming, I think it's fair to say a move to at least 6,000 would now be most likely to satisfy the typical stop hunt that would come with that (And I think 6,500 a better area to try a big short).
I'm starting to think markets might go vertical in the coming months. Amazing conditions for bull trades but I don't think it will be amazing for the bull market.
At this point excessively strong moves to 6000 + would seem consistent with a blow off top.
We can stage a bubble;
Stage 1 - Ignorance or indifference
No one knows and no one cares. There is no bubble. There's a thing, a narrative to go with that thing and a handful of people talking about why they think it's a great thing.
Stage 2 - Acknowledgement and Mockery
More people become aware of the thing. Not the wider public, but people who are in spaces to know about things. It becomes known but is mostly a joke to those who consider themselves in the loop. Those outside of this probably have still not heard of it.
Stage 3 - Fad
The thing starts to put in some good performance but it's often peppered with crash events. It becomes more known and heard of because it its performance but there's an overwhelming feeling that this is just a fad.
People expect (And often want) it to fail.
Stage 4 - Hard to ignore
In stage 4 the first small bubble forms. Price moves to the upside get really wild. Pullbacks shallow out and price ends up going parabolic. By this time, everyone is getting to hear about it. There's still a lot of sceptics but there's also a lot more attention.
Stage 5 - First Wash Out
Those who come in at stage 4 are not in for a good time. Crashes are coming. These crashes take away a lot of the optimism that was built up in stage 4 and give a strong sense that the bear views on this were right all along. It was just a fad.
Stage 6 - Exceed all expectations
Stage 6 is the real bubble. What felt like a bubble in the earlier stages which now appears to have popped is about to be dwarfed. The following move will be so much larger than the previously moves that it will later appear as a minor blips in the chart rather than the huge bubble and bust they are. There are lots of new investors. All projecting the gains of yesteryear onto their own investment future.
Stage 7 - Mayhem and Irrationalism
The bubble has reached a point of total faith. Everyone has heard of the thing now. Oh how everyone wishes they'd got into the thing in the earlier stages but they'll make up for it now by being really aggressive. Any bearish cases for the thing just look silly - seeing is believing, and all people are seeing is higher prices.
During this stage for a while the market does exceptional things based upon people thinking it will do exceptional things (And perhaps also people getting squeezed on shorts. The 20% pop into the Nasdaq high was thought to be a big margin call). People start to expect highly irrational things - because they have been happening. Why should it not go on?
It feels like it can never end, but this is the end.
Stage 8 - A crash
Bubbles frequently pop with a strong crash of around 50%. Things look great. Then one of the V shaped recoveries becomes a big bull trap and it's down 50%.
Stage 9 - Bull trap
Some sort of low usually made around 50% (And it will crash hard into this, panic selling is common because the drop is so brutal).
Stage 10 - The downtrend.
Not a crash, a downtrend. Structured sell off with rallies but consistent lower lows. Worst than the crash. You lose money and you lose time. At least a crash is fast. You don't have time to average into terrible prices in a crash. The downtrend is the harsher section of the bubble pop.
---
Now, with all that in mind, let's take a trip down the history of US indices.
We'll start at the start. When a very smart man had a very clever idea, and John Bogle got rich promoting it. Discussing the evolution from indices being considered "Un-American" to them now being considered so sacred that the central bank and government of America will always protect them.
Here's the different stages and the evolving indices narrative;
Stage 1 -
The stock market index, particularly the Dow Jones Industrial Average (DJIA), was invented by Charles Dow and Edward Jones in 1896. Their creation provided a benchmark for tracking the performance of the industrial sector initially, expanding later to include 30 large companies across various industries.
No one cared.
Stage 2 -
John Bogle, you've probably heard of him, starts to promote his third investment fund.
His first two have went bust. One of them had been the top performing fund for 10 years before Bogle took over and then became the worst performing fund. John wasn't doing too well (He speaks of this himself) - and then someone explained the idea of an index to him, he was able to talk some people into putting money into it.
And most people hated it!
Like, they were mad. They didn't even just not want to be in it. They called it "Un-American". Bunching stocks together with no concern as to supporting the companies that deserve it. It was almost communism. People didn't like it.
Stage 3 -
But markets were roaring and the DJI was outperforming managers with their fees. People with big money started to take note and pile in. More indices would be created. By the time the 1990s rolled around not only were indices performing well - we were in a blistering bubble with the new tech index.
Stage 4 -
Up to that point in time, the peaks in public interest in indexing would have been late 1999 and late 2006 - 2007. The steady gains, reliable recoveries and long term success of indices was hard to ignore.
If you took this viewpoint in 1999, it'd be over a decade before you saw markets reliably trending above your entry price again.
Stage 5 -
The great crisis. When, for a brief period of time, it looked like it would all just end. People really believed all the banks were about to fail. None of the businesses would have any money because they lost it all in the bank failure and the whole idea of a stock market was about to become essentially redundant as there were mass bankruptcies.
It was the end.
Stage 6 -
But of course it was actually the start. The start of the bubble (?). From the 2009 low of 666 (Which really was the price the low was made) we are now up somewhere around 800%. If we made the blow off move shown in the original chart pic it'd been a 1,000% rally from the GFC crash low.
Stage 7 -
And we have mayhem. People's expectations are wild. Wilder still, many of these optimistic views actually underestimate how well the bull performs.
Complete faith has been gained by indices. Far from "Un-American" they are now considered the bedrock on which America stands. Too big to fail.
---
So what I am saying is, when you think about it over the full scope it things, it might be a bubble.
Now let's get into the Elliot wave.
I think the most useful thing when aiming to establish a big Elliot count here is the 2000 and 2008 crashes. Which these were major world changing event at the time, they ended up making a range very much like the "Flat" correction we can see in wave 2.
This really suits the rules for a flat wave 2 correction and if we call that a wave 2 correction then there's a sequence of logical conclusions we have to also make.
----
If this is correct when viewed in the context of 5 - 10 years we're extremely high in the rally. So high that people would later consider it to have been very shroud to have thought it might come to an end while we were at this stage of it. However, it does also mean we're inside of a blow off.
In the conditions of a blow off the only sane thing to expect is if and when resistance levels are broken price will move quickly and aggressively to the next one.
Stop running should be expected to be aggressive.
It really is a good time to be paranoid as a bear. It can be worth shorting resistance levels but it's not wise to be stubbornly short.
Historic blow offs have been in the 20- 25% range from their last bear trap. This could easily give us 1,000 more points to go if SPX was making a really big long term top.
As time goes on I become increasingly macro bearish. Which is saying something, because I started macro bearish. But the smart thing to do at this point is keep getting long breaks of resistance with tight stops. The case for a honest and true blow off move coming over the coming months is highly credible at this point.
If you think a big high is coming, I think it's fair to say a move to at least 6,000 would now be most likely to satisfy the typical stop hunt that would come with that (And I think 6,500 a better area to try a big short).
I'm starting to think markets might go vertical in the coming months. Amazing conditions for bull trades but I don't think it will be amazing for the bull market.
At this point excessively strong moves to 6000 + would seem consistent with a blow off top.
Disclaimer
The information and publications are not meant to be, and do not constitute, financial, investment, trading, or other types of advice or recommendations supplied or endorsed by TradingView. Read more in the Terms of Use.