“It was an expression used by small recon units and sniper teams in hostile terrain in Vietnam. They would tell one another to stay groovy when the danger level was so insanely high they popped amphetamines to stay awake and ready to rock twenty-four/ seven, because anything less would get them all killed. Stay groovy; take your pill. Stay groovy; safety off, finger on. Stay groovy; welcome to hell.”

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Those who have been following this blog or its predecessor for any length of time know I’m a big fan of analogs.  I was asked just yesterday why I thought they worked, and found myself fumbling for an answer.

Like harmonics, I know that they do, because they’ve enabled us to make some nice calls that were accurate as to price and time such as the big downturn in April and the subsequent 1474 top in September.

The big Kahuna, of course, was the July/August plunge in 2011 that mirrored that of Dec 07-Jan 08.  It’s just plain scary how well that turned out.

I think analogs work mostly because of channels and harmonics.  In the simplest terms, channels keep prices pointed in a general direction for a noticeable period of time.  They can last for decades…

a few years…

or a few days.

Regardless, I’ve found that most significant moves occur within or interact with channels.  Very often, as in the above chart, they’re channels within channels.  Even big channels that seem to generate their own atmosphere are usually aligned with other big channels.

 

So, it’s not terribly surprising when moves that bring the market to the brink of disaster or reach ridiculously overbought levels react “just like it did last time!”

Harmonics, likewise, are usually related.  The easiest example is the 2007-2009 plunge from 1576 to 666 which, when followed by an intial reversal at its .618 Fibonacci level, signaled both a Gartley Pattern reversal at its .786 retracement (the May 2011 high) and a Bat Pattern reversal at its .886 (Sep 2012 1474 high.)

Combining the two, and tossing in some other chart patterns and traditional technical analysis, it’s easy to see why the market has done what it has most of the time.  If markets move in somewhat predictable and repeatable ways, then analogs can be viewed as a predictable aggregation of those predictable moves.

Of course, its not always as simple as that sounds.  Even great analogs usually present alternatives. Over the past couple of months, the one we’re following now has hit our primary target at times and our secondary targets other times.

And, some can be tough to get a handle on.  The one from this past April [see: New Analog I’m Watching] that very capably guided us from 1422 to 1266 and back up to 1474 (the top chart above) worked beautifully from a price standpoint, but was way off in terms of timing (since licked, I think.)

And, last, there’s one truism that’s the bane of every analyst who charts analogs:

Every analog works forever…until it doesn’t.

Even as we’re counting down the last few points to the 10% downturn we charted all those months ago, a well-timed Bernanke comment or Hilsenrath article (is there really a difference?) could nudge the markets just enough to complete a Zweig Breadth Thrust event that ushers in a new high.

If that happens, never mind.  End of the road.  It’s been a nice ride for the past nine months, but it’s time to change partners.  If it doesn’t, however, and we reverse in the next 10-15 points, it’s just about time for the song.

 

 

UPDATE: 1:20 PM

I’ve had several messages asking whether we’ve reached the target or not.  Frankly, I’m surprised.  The answer should be perfectly obvious to everyone:  maybe.

continued for members…

Our forecast calls for a .618 retrace of the 1474 (Sep 14) to 1343 drop.  Yesterday, we reached a .618 retrace of the 1464 (Oct 18) to 1343 drop.  As seen below, there’s a perfectly legitimate-looking channel to support 1419.70 being the final interim high.

Is there some special rule that dictates which we should use?  I wish.  Not for analogs, nor for harmonics in general.

What’s worse, there’s no rule that dictates that .618 is the right retracement, or that we won’t slip past it by 20 points just because.  I’m reminded of my first post on the old blog on May 2, 2011.  I had recently learned about harmonics and was excited about the Gartley coming up at 1381.50.

Apparently, so were a lot of other people; because, someone jumped the gun and got enough investors nervous about the building selling pressure that we never exceeded 1370.58.

These things not only can happen, but they do — all the time.  As folks like me make harmonics more well-known, you can expect it to happen more often.  And, don’t forget about random events.

If a reporter was walking by the Oval Office and saw Obama and Boehner slugging it out, it might leak that the fiscal cliff negotiations aren’t going so well, so long 1424.  If that same reporter heard them singing “We Are The World”, hello 1459.  Much as I hate to admit it, there is some degree of randomness in the world.

From a strategy standpoint, pick your poison.  Short now and be prepared to be stopped out Monday; or, stay long and be prepared for the gap down.  Which can you better stomach?

Here are the 2007 and 2011 equivalent moves.  They get to the same place, but take very different paths there.   Will we revert back to the 2007 pattern or the stay with the 2011?  Maybe something completely different?

Up close, they don’t even look much like one another.  From a distance, there’s no doubt.

Here’s the 2012 equivalent so far…obviously much bigger and longer.  And, I believe it’s the falling purple channel that will decide when the party’s over.

I’m holding long into the close.  Might well regret it, but it seems everybody and their mother is bearish at the moment.  Even Cramer is telling people to run for the hills.  Must be a sign. I’ll post more tomorrow.

Have a great weekend, everyone.