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In March, right before the New York Stock Exchange completed an offering that made it a publicly held entity for the first time in its 200+ year history, The Elliott Wave Financial Forecast called the exchange's IPO a sure sign of a weakening uptrend (see Additional References below). After peaking at $90 a share on March 16, NYSE shares (NYX) quickly went into a tailspin that foreshadowed the larger market’s May peak. The Dow Jones Industrial Average is back at new highs, but the CME/CBOT deal offers roughly the same signal of a peak that may well be the last in the long-term transition to a decline. The Chicago Board of Options Exchange has been in operation since 1848. The Chicago Merc began as the Chicago Butter & Egg Board in 1898. Like the NYSE offering in March, the deal asks the question: When but at a top of huge proportions would two 100-year-old competitors for the business of financial exchange join forces? Pressure from new electronic exchanges is the main reason for the union. As EWFF pointed out last November (also available in Additional References), “the threat of obsolescence and competition among” exchanges is exactly why these entities are unlikely to see any significant appreciation.

Add in the potential for financial chaos across the breadth of the financial markets and the likelihood of a long, bear market slumber in the demand for financial paper, and the deal looks more and more like the cherry on the top of a long rise in financial assets. “The deal is aimed at capturing a greater share of a once baffling market for investors,” explains one news account. “Hedge funds and greater investor appetite for risk have driven rapid growth in derivatives products.” The chart above shows, CME gapped to an opening high of $535 this morning, but investors appear to be re-thinking their initial enthusiasm. CME closed today at $515.50. The second thoughts on the part of CME shareholders could be another big whiff of the rejection of financial paper and risk that Elliott Wave International called for at the beginning of 2006. It’s an emerging theme, one that should become dominant in the next leg of the bear market. 

March 2006, EWFF
In some areas, the hues of the latest stock market euphoria are even more vivid now. One peak experience that has carried to historically unprecedented levels is the breadth of commitment to the New York Stock Exchange. After 213 years as a partnership of members, the NYSE will become a publicly traded entity under the ticker NYX on March 7. More than a century of seat-price records tell the story; exchange ownership is valued most highly at major tops. Subscribers were apprised of the link in 1999 when the exchange made its first move toward a public offering, just prior to the bear market swoon in the blue-chips. The success of the latest effort to get the exchange into the hands of the public undoubtedly heralds an even more dramatic reversal. The upcoming volatility explosion will make stock trading go out of style for a long, long time. The survival of the exchange itself will likely be threatened. In a nutshell, the public offering is one of the most bearish imaginable signals.

November 2005, EWFF
The Market Itself Is on Offer
Back in 1999, when the NASDAQ and NYSE started making noise about going public, the NY Times reported, “On its face, it’s hard to imagine a less appealing investment.” Still, the Times concluded that the deal “could become one of the most intriguing investment opportunities of the next decade.” The reason cited was the “magic” of the market. The Elliott Wave Financial Forecast identified the exchanges’ IPO plans and the media’s belief in them as a clear-cut sell signal for stocks. Last month’s century-long chart of NYSE seat prices illustrated very clearly that the main trading mechanism of the market is always most prized at important peaks. When the speculative fires are burning so hot that the exchanges themselves are being bought and sold, a truly enormous peak is at hand. The top formed in the major averages a few months later is still very much in place.

But with the small-stock averages working their way to new all-time highs in early August and many stocks rallying to countertrend bear market peaks at the same time, the enthusiasm for markets, by some measures, has actually exceeded the level of 1999. All the major financial exchanges have gone public. The NASDAQ went public through the back door in 2002 with a private placement that was later converted to public shares. The New York Stock Exchange will do likewise with its pending acquisition of Archipelago, an electronic trading platform that is already public. The Chicago Mercantile Exchange went public in a December 2002 IPO and has soared more than 1000%. The CBOT is the last to make it. It did so through a successful offering on October 18. The still ascendant appeal of financial paper and its exchange is evident in the CBOT’s aftermarket performance. The stock rose sharply from an initial price of $54 to $134. But the CBOT offering should mark the end of the line for rising exchange values, as well as for the overall market. The bear market of 2000-2002 followed just the idea of a publicly-traded stock exchange; a complete equitization of the major exchanges constitutes a much more powerful sell signal.

The discrepancy between the exchanges’ unprecedented valuations and the rising vulnerability of their business speaks to the severity of the next decline. Since 1999 when the NY Times characterized the NASDAQ as fundamentally unpromising, the viability of traditional exchanges has deteriorated. For one thing, their monopoly right to trade certain shares and instruments is eroding. As trading becomes entirely electronic, the threat of obsolescence and competition among themselves and others is also rising. Another risk is the rising wave of financial reprisal, which is focusing ever more sharply on traders and financial instruments like derivatives. In the next phase of decline, as government sinks its hooks into this free-wheeling business, exchanges will experience a big increase in costs and a loss of efficiencies due to new regulation and oversight. Then there’s the biggest challenge of all, a deep retrenchment in financial activity that still lies ahead. During the last Supercycle decline, the slackening demand for equities outlasted the bear market by a full decade. Speculators’ slow response to that decline was evident in the course of NYSE seat prices, which fell 70% between 1929 (from an all-time high of $625,000) to 1932 when stocks bottomed, and then another 80% before bottoming in 1942 (at $30,000).