Market Milestones: Diagonal

If a picture is worth a thousand words, this newsletter might just be my War and Peace. The SPY has drifted lower since its rejection at a major trendline level last Thursday. After six consecutive bullish weeks, most traders have been expecting some form of a retest, but so far, the selling has been relatively mild. The bulls are holding strong at this level, and if Wednesday’s candle on SPY holds, we’ll likely push toward $590.00 before any significant selling pressure takes over.

SPY

A rising wedge, also known as a contracting diagonal in Elliott Wave terms, is appearing across nearly all major indices, including SPY, QQQ, RSP, IWM, DIA, and SMH. These diagonals are characterized by choppy, overlapping price action that often frustrates traders. Typically, these patterns resolve to the downside rather quickly, as they often form during 5th or B waves. However, there are exceptions, such as the one seen with TSM last week. Of course one could argue that in SPY's case, the diagonal may be a leading diagonal for a 1st wave, signaling the beginning of a larger 5th wave that could extend well into 2025. Even if this is true, a significant retest in the form of a wave 2 seems to be approaching.

RSP

The DIA also has a contracting diagonal but it is within a larger expanding diagonal, often called a megaphone pattern. The DIA punched through its upper trendline that has held for the past seven months but soon retreated back within the strong jaws of this expanding diagonal. A move back to the lower trendline, near the 200DSMA, is expected once it fails its contracting diagonal.

DIA

SMH, the VanEck Semiconductor ETF, has been in a choppy, overlapping wedge since it topped in early July. Despite being the leader for most of 2023 and 2024, it has fallen out of favor and remains well below its all-time highs. SMH, like many of the stocks that compose the ETF, appears to be in a B wave, suggesting that the C wave could take it back to its August lows or lower. When a sharp vertical decline is followed by a choppy, sideways pattern, it usually signals that the larger correction isn't over, with more downside likely ahead.

To negate the corrective pattern, a swift breakout above the upper trendline, ideally in the form of a gap (as seen in TSM), is needed. If that occurs, the upper trendline should act as former resistance turned new support. However, if this new support fails, it may indicate a fake-out and an exhaustion gap. Keep an eye on TSM to see if its key support holds.

SMH

Many semiconductor stocks are forming some gnarly wedges following their significant July sell-offs, which is why SMH has been looking so sad and weak. NVDA, the MVP of the semiconductor space—and the broader market, to be honest—is the only one that looks like it might have some serious bullish potential over the coming months. However, I hate to say it, but NVDA could also be in a larger correction, potentially taking it back to its August lows.

Outside of NVDA, most chip stocks are looking increasingly weak and more B wavy every day—cough QCOM cough. Stocks like MU, QCOM, AMD, AMAT, and even newcomer and fan favorite ARM are well off their highs and stuck chopping sideways in contracting diagonals. AMD has earnings in just four days, and it better come out slaying dragons, or there could be serious trouble brewing in the chip world.

ARM

The IWM is also forming a rising wedge, but given its choppy and frustrating movement over the past four years, I don’t give it much weight in my analysis. AAPL, on the other hand, is a much more impactful chart to watch, being the largest company in the world. It, too, has a very pronounced wedge as it heads into earnings. While it’s possible that AAPL could pull off a TSM gap up over earnings, the recent underperformance of the iPhone 16 suggests the more likely outcome is that the diagonal resolves to the downside—consistent with how rising wedges tend to break. With AAPL’s earnings set for Halloween, this could shape up to be the scariest Halloween on Wall Street in years.

AAPL

The last stock we are going to discuss, but certainly not the last contracting diagonal out there, is CRWD. CRWD fell off a cliff with a big vertical move on July 19th when they broke the entire internet. It formed a low on the August 5th panic gap and has riding the struggle bus higher ever since. The fifth wave on CRWD that played out from April to July was actually an expanding diagonal, and we can see how quickly it retraced all of its move and then some. CRWD appears to be in a zig-zag pattern down, indicating that there is another five-wave move lower on the horizon. If CRWD can fill the gap around $335.00, that would be a perfect place to de-risk the position and possibly take some short positions in case the aforementioned count plays out.

CRWD