Macro Cycles 2014-2018

[shouldaindex]

Commodities: http://static5.businessinsider.com/image/4d798305ccd1d54c72010000/commodities.png

The 2014 crash looked inevitable to the exact timing and degree as the cycle patterns, yet nobody really predicted it.

Housing Prices: http://www.ampcapital.com/AMPCapita...rs-insights/2013/august/15/Chart-3_150813.jpg

This ones not as clear as to whether we're in a bull or bear, but I've looked at longest period above trend:

1926 to 1938 - 12 years
1967 to 1978 - 11 years
2005 to 20-- - 10 years on going, suggests we're pushing the final years before a downturn.

Australian Unemployment - http://www.rba.gov.au/speeches/2012/images/sp-dg-091012-graph1.gif

We're in the 6% range in 2015 and expected to be trending up. Bad things happen when you can't keep unemployment below 6%, the 1982 and 1991 recessions occured when unemployed tried to get back under 6% and failed.

GDP Growth - http://www.rba.gov.au/speeches/2010/images/sp-dg-200810-graph1.gif

Troughs - 1963, 1974, 1982, 1991, 2001, 2008 or 11 years, 8 years, 9 years, 10 years, 7 years in between. Currently 7 years up until 2015, so a bottom in terms of GDP growth could be coming in the next few years.

We're also possibly approaching ends of cycles such as U.S Stock Market Bull Run, Fed Rates, Australia Stock market, RBA Rates.

Just putting this out there, if anyone has any thoughts, I'm interested in counter-information and counter-arguments as well.

 

[Tooth Faerie]

Great idea. I am a newbie and probably won't have much to add but I will be reading with great enthusiasm.

From what I understand, we only observe the cycles in hindsight. It's difficult to perceive it in the present.

 

[shouldaindex]

Some further info:

S&P 500 U.S Market Earnings: http://www.multpl.com/s-p-500-earnings/

I'm looking at how many years in between Earnings peaks (that are followed by minimum 10% drop) starting from 1875:

6,7,5,4,6,4,4,6,10,3,8,3,10,6,10,7,5,5,4,9,3,7.

We're currently at 8.

Inference is U.S stock market earnings are due for a decline of 10% by 2017.


ASX http://www.shareswatch.com.au/blog/...s/asx-all-ords-index-20-year-chart-oct-11.gif

Gain, Peak Year, Loss
+50, 1989, -30
+40, 1992, -19
+50, 1994, -20
+50, 1998, -16
+80, 2002, -20
+160, 2007, -55
+65, 2011, -20
+50, 2015, - (*currently)

These are the 8 cycles over the past 28 years which started off with a 50% gain from the 1987 crash, reaching a peak in 1989, then declining 30%. Then new cycle starts.

So every cycle has lasted between 2 and 5 years, had a minimum gain of 40% and a minimum loss of -15%.

Another thing to add is that all those minimum losses of -15% took 6 to 24 months. And the bottom of the cycle is always higher than the last.

So if the pattern continues, we'd expect:
- Peak to occur by 2016 at latest, followed by a minimum -15% decline over 6 to 24 months.
- If the peak actually already happened at 5950 in April 2015, that would take us to 5050 but no lower than previous cycle bottom of 3900, finishing between October 2015 and March 2017.
- If a new peak is reached before the end of 2016, recalculate figures from that number.

House Prices - http://www.rba.gov.au/speeches/2008/images/sp-so-270308-graph1.gif

Using the market cycles from the previous information, you see they all coincide with declines (however small) in house prices (89, 92, 94, 98, 02, 07, 11)

If you're looking for the end of one cycle (housing or stocks) look for the other and they'll correlate pretty quickly!

 

[shouldaindex]

We're running out of a time for a major catalyst to occur for the April 2015 peak to be our flag in the ground. What I mean by that is in the early bear phase, sentiment / expectation / valuation drives the market down, but for the major leg of a bear market to occur it needs actual $ earnings declines (triggered by China, US, Australian Housing for example) within about 9 months. If this doesn't happen, it leaves a long time for bulls to retrace and create new highs, as that's what a bull market does and it's either one or the other.

So based on that, I'd guess a new peak will be created (perhaps 6000 in 1H 2016) and then a repeat of the early bear phase, but then instead of climbing back to new a peak, an actual catalyst goes bang, and then we get into the major leg of 20%+ bear market which typically lasts 12 to 18 months.

But it all depends on when you expect an actual trigger, which is why cycle timelines come in handy. Problem is the factors I've analysed still fit in 2016, but it is the absolute latest I see a peak in the ASX occuring. So either way it's happened or happening soon, but there could still be a short-term bull trap back up before hand.

To back up the possibility of a delay / mistaken early bear market that is actually a late bull:



1989, 1997, 2001, 2007, 2010 all created the same pattern of a false peak with a 10% decline but retraced to a new high within a year, then the actual bear market starts (ignore the lines).

 

[shouldaindex]

Looking at the past 30 years again, and seeing if there's a pattern with bottoms in the cycle using a few variations of statistics:

Using history back to 1960, how big a drop do we see to end every cycle that has gained at least 40% (numbers rounded).

1960 -20%
1964 -20%
1969 -30%
1973 -50%
1976 -20%
1981 -30%
1984 -20%
1987 -50%
1989 -30%
1992 -20%
1994 -20%
1998 -15%
2002 -20%
2007 -55%
2011 -20%

Using probabilities by removing a few outliers suggests that the most likely decline is the range of 20-30%. If we used this cycle's current peak of 5950, that would lead to a suggested bottom ranging between 4150-4750.

How much of the gains in the bull phase were retraced in the bear phase:

1989 = 80%
1992 = 60%
1994 = 55%
1998 = 40%
2002 = 70%
2007 = 90%
2011 = 55%

Current cycle bottom to peak is 3950 to 5950 and a gain of 2000. We see the most retraces have been between about 55%-80% (taking out the lowest and highest outlier). Applying 55-80% to 2000 sees a retrace of 900 to 1600 points. This would end with a bottom range of 4350-5050.

Where does the bottom end up compared to 2 years into the bull phase:

1990 -25%
1992 -13%
1994 -5%
1998 -15%
2002 -18%
2007 -27%
2011 -20%

Every cycle ended with a bottom lower than the All Ords at the 2 year mark of a bull run. Again taking out the lowest and highest outliers, we get a range of -13 to -25%. 2 years into this cycle the All Ords was 5300. Apply the bottom decline from recent history we get a drop to 4000-4600.

 

[shouldaindex]

The prettiest graph in stock markets. Consistant bottoms in similar cycle lengths as the ASX. Looking at about 18-19k to hold a 30 year pattern. It is also highly leveraged to the main potential negative earnings threat of China, so it seems if the ASX is to enter a major bear leg from that, it'll be reflected in the Hang Seng too, which indicates another 10-15% (I think over more a medium term period of 6-15 months), similar to my ASX projections.

 

[Paavfc]

7 Year cycle could see a top in 2108 imo.
Do you subscribe to that theory ??

 

[shouldaindex]

Not in and of itself. The numbers I come up with are more of a guide based on cyclical factors in the economy, rather than a system that lead to an exact number. EG. If I find the min / max of something and I assume the pattern to continues, then the next time will continue to be within that range

 

[shouldaindex]

In the absence of a major trigger affecting the economy (China Slowdown actually affecting House Prices for example), I think we're more likely to head up, either in a bull-trap or as the start of a new cycle (less likely, but possible). Let's explore both hypothesising 4900 today as our bottom.

Bear Trap
There's been some bull-trap phases in previous cycles. They've lasted 1, 2, 3, 7, 9 months and tend to range between 7-20% gains. So that would mean finding a top of 5300-5900 between September 2015 and May 2016. Then beginning the major leg down after that to a new low, driven by an actual catalyst & lower earnings.

New Cycle
We've had short 6-12 month bear markets that just trended down without a Bull Trap phase. The next cycle has tended to be shorter than average, and peaking within 2-3 years. Every cycle has gained at least 40%, so that would get us to 2017 and about 6900. This is my least preferred scenario, as really none of the catalysts that we've expected to affect earnings in 2015/2016 would have occured, and just more waiting time 'till they do.

 

[shouldaindex]

Something happened in 1998 that hasn't happened at any other time between 1985-2015. ASX declined 15% without reaching 20%.

So right now we've reached 15%, so that suggests the odds are we'll head to 20% during this bear phase at some stage.

What puzzles me is the lack of actual earnings hit so far or forecast (apart from known commodity drops pre-April). Example Blackmores just reached $100, on the back of high Asian growth. No effect from any of the China worries recently, or forecast.

 

[shouldaindex]

Black Dots indicate 15% drops (approximately) since 1988 to give an indicator of what has happened at similar points in history.

 

[shouldaindex]

Some interesting info from various sources about key economic factors until 2017.

Unemployment
RBA saying unemployment won't increase any further from 6.0%-6.3% and will in fact decline from 2017.

GDP Growth
RBA projecting GDP growth of 2-3% in 2015, 2.5-3.5% 2016 and 3%-4.5% in 2017.

RBA Rates
Westpac research not expecting RBA rates to increase until earliest in 2017.

House Prices
Bis Shrapnel expecting growth in house prices in 2016, then perhaps a slowdown coinciding with increasing rates in 2017.

So all that information is predicting a good next 18 months for the economy, which doesn't match investor sentiment. I am now wondering if this 15% drop will be labelled after the fact as the China stockmarket related correction, as really no other narrative makes sense to me.

Anyway, what makes sense to me for the next while is for XAO to head back up to pre-correction levels, as I can't see any reason why we would go down again for a significant new low. EG. ANZ if you took 5% off it's low would be yielding close to 10% grossed up. If earnings aren't being affected by a tangible macro, I don't see that happening.

I do note that September and October in the US are the most volatile months, so would love some more fireworks to work into the mix, as the past couple of weeks turned out to be quite boring ending up where we were originally once people figured out it was much ado about nothing.

 

[shouldaindex]

Heard a good saying last night:

"There are bear markets and bull markets. There are mini-bear markets, but there aren't mini-bull markets."

This illustrates the magnitude and length of phases.
- ASX bear markets have lost 20-60% for up to 24 months.
- ASX bull markets have made 40%-350% over 2 to 5 years.
- ASX mini-bear markets have lost 15-20% over 6-12 months.

So what makes this current phase so interesting is that we might have what seems like a mini-bull market (short-term, healthy recovery from low), but in hindsight it will form a leg as 1 of the 3 scenarios above.

So either the start of a new bull (needed but unjustified correction), or a bull trap as part of a mini-bear (justified correction, but moving on soon) or bear market (sentiment correctly predicted earnings declines).

 

[sinner]

shoulda, only just caught this. Really awesome stuff here. I'm guessing that behind the "informal" version presented here, you have some really hard work that drives these observations.

Check out the work of Tom McClellan at mcoscillator.com for some more inspiration!

I'll def be paying attention.

 

[shouldaindex]

Hi thanks Sinner.

It actually doesn't take as much effort! All of it is known information with a few inferences. But it is as much a personal development exercise as anything else, as the relevence of it for actual stock market predictions is debatable.

 

[shouldaindex]

I've been thinking about the nature of catalysts for a bear market. So I ended up pondering can it happen in isolation in Australia or does it need a negative global environment.

This is U.S S&P500 EPS:



I've found in the past 9 U.S S&P 500 Earnings drops, the ASX has dropped 15%+ each time. The ASX has only dropped 15%, 2 times in 35 years without one. So there is a high correlation between ASX downturns and global downturns.

The 4 times the ASX since 1980 has lost 30% or more, U.S Earnings have declined over 30%. So it has required a major global event.

So how does this help us? It gives us a clue, if U.S / Global economy remains healthy without significant earnings deterioration, the ASX pull back for this cycle is likely to be not much more than 17-22% (already did 17%), as any ASX pull back of 30%+ has required significant earnings deterioration from the U.S.

 

[shouldaindex]

You can see if you can find a cycle's trough (bottom), it is extremely rare that future cycle troughs will be lower. There are only 4 periods where there were lower troughs, 3 of them during war times. So if you can get close to finding it, the theory is you'll end up in front in future cycles.

All Ordinaries since 1880, 4 periods of lower bottoms (black dots)

 

[shouldaindex]

I've gone over some information and had a look at how September fares in various metrics in U.S and Australia.

Dow Jones shows September to be the worst month for returns:



In the ASX, the past 8 cycles where it has declined over 15%, they all involved September and October.

Timewise, the past 8 cycles that had 15%-25% drops, all of them occured between 4-12 months. Even the ones that went on for longer with 30, 50% type drops followed the same initial timeframe, it's just that they had another major leg up/down after due to Recession or GFC.

 

[shouldaindex]

U.S Fed - First Interest Rate Rise (Blue Line) and Next Recession (Grey Bars)

How many years after the first interest rate rise, does a recession occur?

3, 2, 3, 2, 3, 2, 4, 7, 4

Taking out 7 as an outlier, we would make a guestimate of 2017/2018.

 

[shouldaindex]

This ones a bit hard to see, but basically:

You need S&P500 ForwardPE at 15 or less in order to make 15% Annually for 5 years.



Currently it sits at 16.5 @ 1980 (According to MSCI), so need a further 10% drop to get 1800 (without earnings declines) to get to 15 and under.

That further 10% drop range is also similar to get the ASX currently from 5250 to the 4600-4700 area which I've targetted as the maximum drop without a major negative economic event, based on a 22% decline maximum (probability from recent history) without a Recession or GFC type event.

So then combining the two pieces of information, if you can get that 10% further decline you both get the bottom end of value that also fits into the prime future performance zone (assuming ASX is similar to S&P500 in that respect).

I am currently sceptical about the possibility of major event happening in 2015/2016 such as recession or financial crisis. So as it stands, as much as I'd like to see earnings take a fall this cycle (instead of waiting for another in the next few years) we may be getting half of what we want, really good valuation (if further 10% drop occurs) but on earnings that are still holding up (with a few correlations pointing to 2017/2018 as danger time).

This would lead to a paradox scenario where you are buying based on value too good to refuse, but believe there will be a fall in the economy within 2-3 years. The reason I'd still buy, is because history has shown future cycle bottoms are rarely lower than the ones before.