A 120 Year Old Pattern That’s Still Alive And Well Today
In the Feb/Mar 2010 INVEST Magazine article on “Surviving 2010”, I wrote;
2010 is widely tipped to be a choppy and range bound year and it is the opinion of this writer that this analysis will not be far off the mark by year’s end. Now, at the end of January 2010, 10 months after the start of that amazing 2009 run, things are looking doubtful and worrisome again.”
Dow Jones Industrial Average – 19 Jan 2009 to 22 Jan 2010
Since that amazing 13 month bull run, the market proved to be extremely volatile and totally nerve wrecking for most of 2010 right up to the day Ben Bernanke annouced his intention for QE2. Many readers sent me emails asking why the market had become exactly the way I mentioned it would and how I knew it would happen.
Dow Jones Industrial Average – 04 Jan 2010 to 31 December 2010
Truth be told, I didn’t know it would happen but the chances that it would were always there … right there in the charts …
… for the last 120 years.
Markets have performed in an uncannily similar fashion after each recession and this pattern appears to be consistent again as we emerge from the 2008 Sub-Prime Mortgage Crisis. Going back a recession ago, the market tanked after the Dot.com Bubble burst and promptly rallied back for a year before going sideways in a volatile fashion for 2 years.
This recessionary pattern of tank-rally-consolidation is more common than most realize and the duration of each trend is also uncannily similar.
With the exception of 1954, every other recession in the past 110 years saw the market go sideways in a very volatile fashion for between 12 to 24 months after bouncing back. This includes 1949 to 1953, 1974 to 1978, 1982 to 1985 and 1990 to 1993. Even the mighty Great Depression of 1930 took a similar, if not more devastating trend.
The reason for this consistent pattern comes from the usual governmental response to recessions. In order to keep the economy from imploding, governments pump money into the economy in the form of bail-outs and stimulus plans. In some cases, governments even initiate infrastructure projects to keep employment from dropping and to keep money flowing within the economy. To encourage spending further, governments will also drop interest rates or lower monetary policy.
As soon as the market shows signs of improvement (usually a year into a recovery rally) the government exits its stimulus plans and infrastructure programs come to an end. This puts the economy back on shaky ground. In most cases, a second battle emerges – this time, its a fight against inflation as a result of low interest rates and the flood of cheap money. In order to balance the economy and avoid a double dip recession, governments then flex their monetary policies to encourage growth while keeping a close eye on inflation and sometimes, deflation.
This is a fine balancing act that can and has failed several times when monetary policies were too quick to respond or too slow to react. The Great Depression was one such failure. It has been argued that the failure of 1930 was because the Fed had contracted the money supply and lowered interest rates too soon and too quickly.
It is this flexing of monetary policies and interest rates that sends the market sideways in a volatile fashion. This balancing act can take up to a year or two before the economy is able to stand on its own and grow into the next “new” economy.
Thus, if this pattern holds true again, we may be right at the crossroads of recovery-into-exits. With the Sub-Prime crisis seemingly behind us, governments are now exercising their exit plans and flexing monetary policies while proposing new infrastructure projects to stabilize the effects of their exit policies.
This is where we start getting volatile in the market and are likely to see swings in the market along a neutral median.
And it obviously seems that the current median is a 13 year old retracement at 10,500 on the Dow.
A very common reaction that I see week in and week out at my Previews is the many shocked faces of people who didn’t know we were sideway since 1997. I have no idea where they got the idea that the market had been going up. If looking at that 1997-2010 chart (above) surprises you that we’ve been sideways for 13 years, you are going to be in for a bigger surprise …
In a bigger picture, the markets seem to move in 20 year cycles.
Okay, I’ll admit that nothing is perfect – 1985 to 2000 was not 20 years. It can be argued that it was 18 years to the upside. But I think you get the big picture. The only time the market didn’t rally or consolidate for 20 years was between 1925 and 1945 when market turmoil led into economic failure and was completed with WWII giving us the only period (so far) that the market was volatile for 20 years. (The question now is whether we’re in another 20 year volatile period.)
Every time the market rallied for 20 years, it was because of new technology. Before the 1900s, the market had been in a 20 year uptrend thanks largely to the innovative minds of Thomas Edison, Henry Ford, the Wright Brothers, etc. The post-war Industrial Revolution between 1945 and 1965 gave us commercial airlines, modern automobiles, fridges, televisions and many of today’s conveniences. Then in 1985, Bill Gates and Steve Jobs gave us the Information Technology Revolution which rallied the market between 1985 and 2000.
And with that, you now know that the market can and has consolidated for 20 year periods several times in the past 120 years.
If this is your first time seeing this, you may now pick your jaw off the floor and close your mouth.
Each consolidation was because of social and political revolutions such as the 60s and 70s when we had the Chinese People’s Revolution, the Vietnam War, Cuba Missile Crisis, the Cold War, Elvis, the Beatles, Hippies, Martin Luther King, etc …
Since 2000, the market seems to be behaving as if it is waiting for the next big revolution that will start the next 20 cycle to the upside. But if this current 20 year cycle fulfills its purpose, we could be in for a 9 year wait.
But I am not even looking that far ahead yet. For now, I’ll have my eye on the next 12 months and will be taking full advantage of these wild swings to get in on trades whether it goes up or down. This is a Trader’s dream market and we only get it once every 20 years for 20 years.
However, I will be looking out for signs of economic failure should monetary policies fail.
Why?
Because it would seem that economic failures have 40 year cycles; from the Panic of 1893 to the Great Depression of the 1930s to the 1970s debacle (the Oil Crisis, Yom Kippur War, the collapse of the monetary system after the divorce of the dollar from the Bretton Woods Agreement), these failures all happened in 40 year spans.
Guess what? Add 40 years to the 1970s and what do you get?
But that’s another topic for another issue.
Happy Hunting!
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Comments
For those who are interested in cycles, I recommend you to read “The Joseph Cycle” by Simon Sim Chin Cheong. The book reveals how cycles or patterns repeat in certain intervals through out the history of humankind.
From the book, it predicted STI (Singapore market) to hit peak in 2008, and hit the bottom in 2015. And the book was first published in 2004… four years ahead of the financial/subprime meltdown.
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Awesome!
This is a fantastic finding!