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Bull/Bear Cycle Indicator

The bull/bear cycle indicator is the blue line shown in the chart below, and has tracked all bull and bear phases over the past century and more.

That blue line uses monthly closing data to build a longer term, time weighted average of momentum, which we use to track where we are in the bull/bear cycle. The key is whether the line is trending up or down - with turns extremely meaningful, as they signal a change from one phase of the bull/bear cycle to the next – as well as the relationship to the upper and lower extremes marked by the black lines.

The chart starts with the blue line turning down from the upper extreme zone in the high risk (orange) phase in early 2000, with the falling line confirming the bull/bear phase change to extreme risk (maroon) MAJOR bear market underway.

The blue line continued to trend down till it crossed below the lower extreme line in 2002, with the line turning up in early 2003 to confirm the change in the bull/bear cycle, from extreme risk (maroon) to low risk (green) new bull market underway.

The blue line continued to trend north till the spring of 2004, when it turned down to confirm the low risk, new bull market (green) phase had turned to a moderate risk (yellow) phase, which are corrective churn phases or minor bears that end well.

The line turned up again in the summer of 2005 to confirm the next change in the bull/bear cycle.

Had that blue line made its way below the lower black line before turning up a new bull market would have begun, and the cycle would begin in green mode again.

When liquidity and/or excessive investor optimism prevents the blue line from reaching that oversold extreme before its turns up it leads to the third phase of the cycle, which I call high risk blow off bull (orange.)

These blow offs continue till the bears score a big win on one of the corrective attempts, along with a turn south for the blue bull/bear line to confirm the bull cycle that began in early 2003 was offer and the next great bear (maroon) underway.

Those confirming twins – turn down of the blue line and big bear win (meaning the trend trading indicator we show at the bottom of our daily charts of the S&P500 and NASDAQ crosses above the high risk – exit – line when in sell mode – landed in late 2007.

That is the full cycle with bull (post bear) leading to sideways churn or minor bear, leading to either a new bull (if the blue reaches the oversold extreme when in yellow moderate risk phase,) or a high risk blow off (orange) that keeps on going and going till the big bear win lands to start the next MAJOR bear (maroon.)

The current bull started in 2009 as the blue line turned up to confirm the bear was over, with 2010 the sideways churn (yellow) as the blue line turned down, with 2011, 2012, and 2013 a back to back series of high risk blow off phases fed by too much central bank liquidity matched by too much investor optimism in such central bank intervention.

The blue line currently continues to trend north, though the stock indexes must continue to maintain their upside momentum to prevent the blue line from turning down, as the higher stocks go the harder it is for them to keep that line trending up, especially here.

For instance, all it takes is for November to see a drop of 4% - on a closing monthly basis - to turn that blue line down.

It gets even more difficult in December for the bulls, with only a 2% drop – by month’s end on a closing basis from current levels – required to turn the blue line south.

And January becomes do or die, with a 10% RALLY required to keep that line traveling north. Anything less than 10% (from current levels) between now and then and the blue line turns down.

September 1929 (-89%,) January 1973 (-50%,) October 1987 (-50%,) March 2000 (-82%,) and November 2007 (-50%) were such times when the blue line turned down and were confirmed with a big bear win. The numbers in parenthesis are the amount the stock market fell following the end of the high risk blow off phase.

It is not just the red ink that defines those periods are extreme risk – MAJOR bear market – phases, for life-changing financial crises was also present in each of those past extreme risk (maroon) phases. This time different?

Discussion continues below chart…

What makes high risk phases so tricky is there is no way to tell how long they will run before the big bear wins on one of the corrections to confirm the top is in.

The next chart is how the cycle would be expected to act had you told me the new bull would begin in March 2009 and include three full high risk blow off phases.

The black line is what the NASDAQ actually did (scale on left,) with the purple line the actual return of the S&P500 (scale on right.)

The dotted orange line is how 2014 would be expected to look if it too remains a high risk blow phase all year (unlikely.)

The dotted maroon line is how the bear market would look if the stock market peaked in the first quarter of 2014 (most likely).

Remember, that maroon line can start at any time, requiring a simple big bear win on a correction.

Results are tabulated using the opening price the day following a new trading signal, and exclude commissions, dividends, or interest paid on cash balances during sell periods. Stock prices highlighted in blue are temporary - using the end of day quote the day a new buy or sell signal is generated - with the final price adjusted the following trading day when the opening price is available. Past performance is no guarantee of future success

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