Waz-zat you say? Cycles in the stock Market? Ahh, who you crappin! That ain't nuttin but Cycle-Babble to me. Shu' your mouth! Dat like saying der waz a bad moon-a-rising or some solar eclipse blotting the sun that shine over Wall Street. Oh, go on I says you don't 'spect me to believe all that nonesuch.
Shor-Nuff, that is whaddi-mean. You can believe it or not if you like, I don't care. But going into Jan 22 2008 low there shur was a lot of bad ass news hitting the street - economy suddenly plunging into a recession, unemployment rate surging higher, financial companies of all ilk and ill repute reporting all sorts of rotten earnings and risking defaults on their credits...
The Sky is Falling
The financial world as we know it was coming to an end. The DAX index plunged 12% in the new week, the SP500 futures were limit down overnight on Monday January 21st. Things was so bad, Chicken Little reported to Henny Penny, Turkey Lurkey, Goosey Loosey and the rest of the gang "Dat Da sky waz fallin' cuz he'd seen it with his own eyes, heard it with his ears, and a little bit of it even fell on his head."
The Fed Gets the Bugle Call to Arms
Just when the Chicken Little gang thought the sky had fallen and their fate had been sealed...
That is when the Fed got the Call to Arms, charged into the market the very next morning with a surprise rate cut of 75 bps. The stock market hadn't seen a whopper of a rate cut that big since they cut the discount rate 100 bps in April 1981 from 13% to 12%. (All rate cuts ever since have been of the measured milktoast variety - 25 to 50 bps.)
The $15 Billion Bailout Plan for the Bond Insurers
Not only that, but those pesky bond insurers, (you know Ambac, MBIA, etc), the ones whose risk of default had been escalating towards the point of no return these past few weeks, well it seems that out of the clear blue sky, they just received a pardon with a $15 billion Bailout Plan from the NY State Insurance Regulators. Regulators, if you hadn't realized it by now, are the new age cavalry to rescue all the financial alchemists from their foolhardiness.
The last time I saw a bailout and a surprise rate cut back to back was back in October 1998. And speaking of coincidences, that Black Swan event caused the SP 500 to dislocate 22.5% - just bout the same amount at the 21% dislocation in the SP500 in response to the latest state of affairs.
Now, speaking of coincidences to 1998, I ain't a-saying the stock market is gonna rush right back to record highs as it did in 1998 after the Fed orchestrated both a bailout and surprise rate cuts. It's a possible mind you, but that would almost equate to saying that this black swan event is no worse than the 1998 event. I ain't a-saying that, this black swan has the potential to be far more malevolent. Of course, the cavalry's coming to the rescue are super-sizing their band-aids for the occasion, so only time will tell for sure.
Back to Cycle Mania and What it Means for Eqity Investors in Q1 08
Yes, you can call it coincidence if you like that the onslaught of bad news ended with the Fed and other regulators coming to the rescue on that 108 day Low to Low Cycle. Because I promise you this, if those freaking coincidences did not occur, the stock market might probably never would have turned today.
Oh yes, what does it all mean? Can we make any assumptions about what the short term direction of the stock market ought to be? Can we infer that the direction be to the upside based on this confluence of events that occurred on this cycle? And if so, can we make assumptions about how long the short term direction might be to the upside and how high it should go?
Well yes, we actually can make some very educated guesses.
First, the rallies off the previous two cycle lows on March 14 07 and August 16 07 both rallied approximately 15% (rounded). At a minimum, then, we would expect the market to rally at least 15% to 1450. But wait, there could be overshoot. Why, well for one, the Fed funds rate has changed markedly in the past 6 months. From 5.25% at the March and August lows, the Fed Funds rate has become for more accommodative at 3.5%. My guess is that the SP500 could easily exceed the Q1 07 high at 1465 in Q1 08 and reach for unchanged on the year at 1485 or higher.
39 day Cycle Coincides with the March 18 FOMC meeting
Secondly, the final leg up into the Oct 11 07 high last 39 days. Fast forward 39 trading days from the Jan 22nd low, and we'd expect a short term rally to exhaust on the March 18 FOMC meeting before folding. Call it coincidence again if you like that this 39 day cycle from low to high happens to dovetail with the March 18 FOMC meeting, but there it is. It does!
And to boot, the last two short term highs in the stock market exhausted on the Oct 31 and Dec 11 FOMC meetings. I know, mere coincidence again. But hey, I am an ardent fan of coincidences found in the stock market. And just as it was no coincidence that the stock market sold off hard into the Q4 07 earnings season, I expect it would not be much a coincidence that if the stock market is cresting around the March 18 FOMC meeting that equity prices may find themselves under pressure at the onset of the Q1 08 earnings season. Just an educated guess mind you that this may be the highest probability outcome at this point in time between now and the Q2 earnings season.
Given those probabilities, I will be mapping out a strategy to exploit this opportunity. In fact, I already have by buying into this fear and loathing in the stock market and will look to do more of the same as opportunities arise over the very near term.
John Bougearel
Event-Driven Investment Research
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The sky is falling indeed