One issue that I discussed on more than one occasion last spring was the concept of a throw-over. One of the underlying principles of Elliott Wave Theory is that markets tend to trend within a parallel channel. A throw-over occurs when price break above a previously established channel. We experienced just such a situation when the S&P 500 rallied above the upper trend-line of a channel that began forming in late 2005 or early 2006. You can see from the chart below that prices continued to rally above this upper trend-line until finally breaking down in July.
Throw-overs are important to recognize because they are almost always followed by an equal and opposite movement below the lower extreme of the trend-channel. We saw an example of such a reaction when the S&P500 declined below the lower trend-line of this same trend channel at the beginning of August. You can see this principle illustrated in the chart below. I find it interesting to note that this index continued to make a series of higher lows throughout much of the period that it remained below the lower trend channel.
We saw a subsequent example of the importance of the trend channel concept when the S&P 500 broke back above the lower trend channel in September. If you look at the chart below, you will see that this rally took this index back to the upper trend channel. It tested the resistance of this trend-line once, failed, and then fell back again to the lower trend-line.
One reason why I revisit this point tonight is to illustrate the significance of the breakdown on Wednesday, November 7. As the chart below illustrates, the S&P 500 fell down to the lower trend-line, bounced off of its resistance, and eventually penetrated below it. This whole scenario supports my belief that we did indeed see the beginning of a significant corrective pattern in May or July of this year. We completed the first wave down in August, formed the second wave into October, and have since been working on the third and final wave of this formation.
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