Thursday, March 31, 2005

A Moment of Clarity

Just a brief update on what's been going on in my trading mind. I've been spending lots of time digging through websites, newspapers, old magazines, data tables from obscure economic sites, and books...books....books. Trying to wrap my mind around just where we are in the market cycle. But, I've only shared with you, my reader, the information I have found. Information that I believe is important in meandering through this confusing market. I have failed to share with you my true insights as to what this information means to me as a trader. What I'm going to do with this information. Truth be told, I couldn't share my insights because I was still processing the information through this slow brain of mine.

But, today, all that changed. Someone asked me after reviewing the business cycle chart posted on Sunday and Monday what I thought this meant for the market going forward. That was a great question and maybe because someone else asked me instead of myself...I was actually able to answer. Something I have not been able to do for about a month of processing. After answering the question...I received a moment of clarity. You know, when everything you have been trying to put together just clicks. So, I wanted to share my answer with you.

Part 1 of the reply to the question:
Thanks for the reply. Take a peek at another article I wrote, Canary in a Coal Mine. In the article, I'm attempting to paint the picture that we're in a boat similar to the 1970's. In particular I feel we're very similar to the 1973 - 1974 time frame. If you notice on the business cycle chart the contraction that followed the 1973 expansion lost approximately -9.33% in the Dow. I could see us losing about that much this time.

In fact, take a strong look at the business cycle chart. Take notice of just the 1969 peak through the 1973 peak. The 2001 peak through the current 2005 expansion is almost mirror image. What also has struck me lately is the similarity in the way stocks performed during those time frames. If you remember the late 1960's was the time of growth stocks. I believe small caps did very well (although I have yet to find performance statistics to support this). Then tough times and all that was left was the Nifty Fifties in the early 70's that then proceeded to finally kowtow to the bear in the 73 - 74 bear market.

Check out the Nasdaq composite and S&P 500 monthly charts and notice the strong sell-offs from the 2000 high. The Dow's plunge was relatively mild during the bear . In fact, during this recent expansion we almost hit new all-time highs in the Dow. The only difference between the 73 market and now is the 73 market did indeed hit all-time highs in the Dow before plunging into the bear.

Based on just this information...looks like tough times ahead.

Part 2 of the reply:
Another point I'd like to make in regard to the 1973 - 1975 contraction that
took the Dow down almost 10%. The Dow actually went lower than the 9.33%
figure. That's just where the Dow stood at the 1975 trough in relation to the
1973 peak. I figure we'll see something fact we've already
dropped almost 5% from the March closing high of 10,940.55 in the Dow.

What I'm trying to wrap my mind around is just exactly where we are in the
comparison. Is the March closing high the climax of this recent expansion?
Was the record company earnings in the last quarter of 2004 the peak? If so, I
believe the NBER will mark December 2004 as the peak for this current business
cycle expansion.

But, it does concern me that we haven't hit a new all-time high in the Dow. And
also concerting is the noticeable strength in the WLI from the ECRI. Along with
the somewhat flattening of the FIG. It could just mean the current expansion
has another year to go especially if inflation begins to stall here.

After writing those two replies my moment of clarity has come to this:
  • I believe we will see a new all-time high in the Dow this year. In fact, it could even be as early as May. This new all-time high will mark the peak of this current expansion and the bear will take us down much like the bear took down the 1973 all-time high and corresponding business cycle peak. 2006 could prove to be a great year to begin shorting the market.

  • I believe oil/gas stocks will continue the soft patch they are currently in. But, this will be short-lived. Oil/gas stocks are now in the sweet spot for investing. Almost a win-win situation. If oil comes down as it has been doing this week...the oil/gas stocks will surge due to their earnings potential in the coming quarter. If oil stays down...the market and this economy (our expansion) will continue to do well...thus setting us up for another run-up in oil prices down the road. Thus, benefitting the oil/gas stocks and their earnings potential even more in the coming quarters.

  • When I refer to oil/gas stocks, please note I'm referring to the US land drillers and some oil service stocks. Despite the positive press on the oil tankers...please be careful there. The tankers are facing a new ship supply wave coming in the next 3 to 4 years. In fact, 10,000 ocean-going tankers are due, more than 8,000 new containerships and at least as many standard bulk carriers. Plus, remember, in 1974 despite high and rising oil prices...oil tankers were taking a beating due to fuel costs and oversupply. And yes, I'm talking my book...I am long US Land drillers and a few oil service companies.

  • And yes, I'm long the Dow as of 2:00pm Central time today, Wednesday March 30th.

How's that for putting it out there? Could I be wrong? Yes! Any number of things could derail this plan of mine. The number one thing being Greenspan and a 50 basis point rate hike. But, trading is about putting a plan together and taking action. Then adjust as the action unfolds.

One last item. If there are any long-time readers of my're probably asking why I'm trading out of my systems so blatantly. I promised not to do that after the President Election fiasco. And you're right, I am breaking my promise. But, not how you think. My system trading has evolved and will continue to evolve. This is part of it. I will share more with you in coming posts.

Later Trades,


* Note: the Dow lost over 40% in the 1974 - 1975 Bear Market from the 1973 all-time high.

* Note: the WLI is the Weekly Leading Index and the FIG is the Future Inflation Gauge. For an explanation of these indexes please check out ECRI's website and even read the great book, Beating the Business Cycle.

Please read the disclaimer on the website. This is not a recommendation to buy, sell, or trade securities. Just a journal of my travels through Wall Street. I can buy, sell, or hold any positions mentioned on this website at anytime. So, be warned.

1 comment:

Anonymous said...

Excellent piece. I was a little confused in parts (i.e., the amount of the total selloff, which I think you get right in the postscript, and the timeframe (you say '74-'75 bear market in spots, while it was the '73-'74 bear market).

Re the '73-'74 bear market, the peak was Jan '73 and the trough was Dec. '74.

In any event, I believe that the '70-'73 rally took place in the context of an "echo bubble" (following the '69-'70 bear market), much like I think the current (?), 10/02-? rally is in the context of an echobubble.

Assuming that this is true, two other echobubble busts are worth studying: (1) the '32-'37 echobubble in the US (which followed the horrendous '29-'32 craqsh) peaked in March of '37 -- the first year of FDR's second term; and (2) the '92-'94 ('96?) echobubble bust on the Nikkei (which followed the '89-'92 crash).