Stock markets around the world have been volatile since the sharp drops of two weeks ago. There has been a lot of ‘churning’ and prices have moved in a wide range, bounded (roughly) by the lows made on the first drop and the prior highs. Only a few markets have made it back up near those prior highs – some of the Scandinavians, for example, while Singapore has also come close – and US and the main European indices have (so far) only rallied by between 1/2 and 2/3 of the drop.
We stated in the February 7th edition that we thought that such a range would form and that this was the ‘beginning of the end’ of the bull market. Let’s review the evidence again.
The initial drop came after many warning top extension signals, as published here for many months. These were at all time frames, including those at a monthly time scale – the longest that we follow. Here are a few examples:
In fact, there were monthly-scale top extensions in some US indices as far back as October 2017, which is why we do not rely on these longer-term signals for ‘timing’. They do provide good early warning of an over-extended condition however, so we always pay attention.
The shelf-life of these monthly-scale signals is around 15 months but there is considerable variation around this number. If a monthly-scale top does mark the end of a bull market (as we think these signals have) it also does not mean that a bear market will start immediately – it is much more likely that a period of ‘churning’ will ensue while the market slowly changes overall direction. Bear markets usually start with a compression signal at a weekly or monthly scale and some time must pass before such signals can form. We expect more sideways movement as a result. Using the 2008/9/10 period during which a bull market ended and a 20-month bear market developed as an example may help:
In this case, the compression that started the bear market came five months after the market made its highs, so early bears were disappointed many times before they were rewarded. We suspect that this ‘unwinding’ will be quicker than in 2007 but it still means that there are likely to be many weeks of up-and-down churning before any bear market can begin.
It is worth noting that there is some chance that selected equity markets may make slight new highs during this process. This is not a prediction but it is a possibility, so keep it in mind if you are going to try to trade these choppy conditions. We will report shorter-term signals as we see them, as usual.
All signals courtesy of software supplied by our friends at Parallax Financial Research www.pfr.com
