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Dear Fundamental Analysis, I Think It's Time We See Other Forecasting Methods...

At sugar’s 2016 top, it wasn’t fundamentals what set the stage for a significant decline

by Nico Isaac
Updated: October 05, 2017

Recently, a good friend of mine decided to pop the question to his girlfriend of less than a year. Without a second's hesitation, she said yes!

I asked him point blank, "How were you so sure that she is the one?"

His reply: "Because for the first time in my life, I didn't want a plan B."

Okay, so he isn't Shakespeare. Still, you get it. When it comes to true love, you don't want anyone else.

But what about when you, the investor or trader, are standing at the altar of financial market forecasting? Per mainstream wisdom, fundamental analysis is "the one" true method for anticipating trend changes. Eagerly, Wall Street pundits far and wide pledge their commitment to the idea that news events drive prices.

The problem is, this arrangement rarely leads to wedded bliss.

Take, for example, the sugar market. In mid-2016, sugar was the best performer in the entire Bloomberg Commodity Index, after prices more than doubled to a 4-year high. Moreover, hedge funds had amassed the biggest-ever bullish position in sugar -- thanks, in large part, to slew of bullish fundamental factors that wouldn't quit, such as:

  • A crippling supply shortfall, widely expected to "worsen due to the effects of bad weather in major producing countries such as Brazil, India and Thailand." (Oct. 4 Nikkei Asian Review)
  • A decline in global production
  • An increase in consumption in emerging markets

By all fundamental accounts, sugar had one way to go: UP. Wrote one news source at the time:

"A sweet market for sugar bulls. The fundamentals that drove the rise in sugar prices earlier this year have remained largely unchanged." (Sept. 16 Financial Times)

What happened next, however, was anything but sweet. Despite the "unchanged" bullish fundamentals, sugar prices topped in late September 2016 and turned down in a 40% sell-off to a 2-year low in July 2017.

The reason why: Fundamentals are not "the one" force driving market trends. We believe, investor psychology, which unfolds as Elliott wave patterns directly on a market's price chart, plays a more significant role.

Looking back at sugar, we turn to our September 2016 Monthly Commodity Junctures' "Wave Watch" video episode, where editor Jeffrey Kennedy showed sugar prices nearing the end of a multi-month advance and wrote:

"I am going to look higher here. If we view the daily price chart, we can begin to see a number of objectives to the upside that I would like to shoot for, for example, 23.67, that's where wave 5 will equal the distance traveled in wave 1 And a little bit higher at 24.87, where wave 5 will equal a .618 multiple of waves 1 through 3."

Soon after, sugar prices rallied into Jeffrey's upside target area (topping at 24.10) in late September 2016. Then, in our October 2016 Monthly Commodity Junctures, he prepped the stage for decline:

"It is possible to go ahead and identify the high we saw back in September as the end of the February advance, in which case the stage is now set for a move all the way back to 20.19 preferably lower, consider the weekly and monthly wave pattern.

"If we begin to see impulsive selling, then we can go ahead and identify wave b complete and... the next significant even we will see in the sugar market is indeed a decline."

From there, sugar prices took to the downside in a 40% selloff to two-year lows in late July 2017 before catching their breath. The next chart captures the full extent of sugar's descent:

When it comes to identifying high-confidence trade set-ups in the markets you follow, investors and traders would be wise to open the door to a "Plan B"... or plan E, for Elliott wave analysis.

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