Mar 30

Two weeks of nowhere.

Mar 26

So much for that theory.

Mar 23

We have a potential correction in progress. This was the first real red week since the breakout. If this is the start of a decent correction, here are two views of how they could play out.

1) The sideways correction.

Relieve the overbought conditions and just correct sideways in time with no severe price retracement, similar to the 2010 mid-rally correction.


2) A deeper price retrace.

I still think this cup-and-handle setup is a good potential also. Nice support at ~1300.


But like I have been saying the last several months and in the last several posts in particular, I still think the October low marked an important low and at that there are a number of reasons why I think looking for a major top here is incorrect. I believe this correction will be a dip that you want to buy in the longer term sense, that this cyclical bull market is still not over.

Corporate Profit Margins, the Stock Market and Recessions

There are two must read posts up at PRAGMATIC CAPITALISM, BERNSTEIN: BEWARE THE PROFIT RECESSION and JAMES MONTIER: THE RISK TO CORPORATE PROFITS…. The points discussed in these posts are points that I have discussed over the past year as well (edit 3/22: See this post also, Warren Mosler: Corporate Profit Margins Highest Ever). See:

-- Yet another reason why I don't think this cyclical bull is over - Aug 28, 2011
-- Long Term Technicals and Macro - Jan 28, 2012

Please read the above posts as there are lots of good details and background discussion. But here are the summary points:

• Corporate Profits increase during an economic expansion (as expected)


• The stock market does not increase on current earnings, but rather expected earnings


• However the analyst community is generally very bad at forecasting earnings at tops and bottoms, they tend to lag the earnings cycle. By this I mean that they are, as a community, too pessimistic at bottoms and too optimistic at tops


• Corporate profit margins and corporate earnings tend to peak out *before* the stock market peak, as the analyst community is still forecasting earnings growth when the fundamentals have already begun deteriorating


• This is a key divergence that has happened at many market tops and is a catalyst for a market correction (usually a major one)


• Since the 1960s, the sequence has been for corporate profit margins to peak, which sets up deteriorating fundamentals, which sets up an stock market peak. This typically occurs with deteriorating fundamentals in the broader economy and happens in conjunction with a recession.

I have discussed the drivers for corporate profits in my first link above and I discuss the current macro environment and the fact that current levels of deficit spending are sufficient to support aggregate demand and in turn support corporate profits in my second link above.

And while I think we are near a cycle high in corporate profits and do believe we are currently peaking or near a peak, it is precisely because of the above observations that I don't think a 'major' stock market peak is forming here. These fundamental divergences typically take a long time (months/years) to play out. The stock market move will peter out and roll over as it becomes clear that the fundamentals have already deteriorated (which has not happened yet).

See this graph that I put together from FRED data to illustrate my point. The graph shows the trend illustrated above playing out since the 1960s. The exception being in the 1974 crash where the corporate profit margin peak was slightly after the stock market peak (a similar event can be seen in this chart):



Combined with many more observations (as detailed here) I think this cyclical bull market still has legs, and I continue to think that calls for a 'major top' formation here are misguided.

Mar 16

Very tough week last week. We had a very solid statistical setup with quite favorable odds: Mar 6 - Daily and 60-min Cycles, Looking for an Edge. Instead of a divergence bottom after a 60-min cycle top signal (which happens 91% of the time ... well now only 90% of the time with last weeks failure) we got a spike bottom on the first pullback and a *major* bull move that was so fast my system really had no time to respond to it.

Not complaining, it's just what happens. That's why every stat is not 100%, because there are exceptions to every setup. So currently I am waiting for something tradeable to emerge again.

The market made a 60-min bottom cycle signal last week, which means that the cycle from Dec is complete. It made an extremely right translated cycle. And I looked back through my system to see other times where it has made cycles like this, and the company it keeps is quite interesting: 2003, 2004, late 2006/early 2007, and 2010. Basically these are happening in the the middle of larger bull moves. Not at the end of them.

Another interesting thing that came out of this is that my main indicator on my Daily chart is still making new highs right along side price. Which means that I would like to reiterate the point I made in this post: Why I am not looking for 'the top' with the next pullback, whenever it happens. I don't think the next pullback which will cause my main Daily Indicator to peak will be 'the top'.

Whereas this last pullback was too shallow and way too fast to be the dip that I was looking to buy. I still do think both my 60-min and Daily Cycle systems are telling me that we will get a legitimate dip-buying opportunity and that this cyclical bull market is not yet done.

In the meantime, I am continuing to watch setups.