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September 10, 2006

Turning Points
by Andre Gratian

A 3-dimensional approach to technical analysis
Cycles - Structure - Price projections

"By the Law of Periodical Repetition, everything which has happened once must happen again, and again, and again -- and not capriciously, but at regular periods, and each thing in its own period, not another's, and each obeying its own law ... The same Nature which delights in periodical repetition in the sky is the Nature which orders the affairs of the earth. Let us not underrate the value of that hint." -- Mark Twain

Current Position of the Market.

SPX: Long-Term Trend - The 12-year and 10-year cycles are still in their up-phase, and should continue to influence the long-term trend..

SPX: Intermediate Trend - The intermediate move which began on 6/14 could have found a high at 1314, but one more test of that level is likely over the next 2 weeks, and it would not be surprising if it were exceeded by a small margin.

Analysis of the short-term trend is done on a daily basis with the help of hourly charts. It is an important adjunct to the analysis of daily and weekly charts which determines the course of longer market trends.

What's Next?

Cycles are extremely helpful in determining market trends, but there are also times when they can be extremely confusing ... if we let them! This is one of those times.

Because of its past regularity, the 4-year cycle has set up expectations that every four years, around October, the stock market would make a low. Historically, most of these lows have been easy to recognize because they were preceded by a decline lasting several weeks to several months. But there have been exceptions, and in 1986, the cycle was non-existent. I believe that attempts at placing that low in 1987 are flawed, because I attribute the sudden decline which took place that year to the final phase of the 7-year cycle. The 4-year cycle had little influence on the market in 1994 as well, only keeping prices in check until October, but not causing any significant decline.

The periods discussed are shown on the following charts. What they have in common is a relatively flat pattern which lasted into the end of the year, after which the long-term uptrend resumed.

This year's price action more closely resembles that of 1994, but since exact duplications of past formations probably never take place, it is best to free our minds of all expectations and simply look at what is happening now!

I think that even the die-hards will have to conclude the 4-year cycle is not going to be a factor this year. But it does not operate in a vacuum! It interacts with other cycles to form the total market pattern, and just because it took a vacation this year, it does not mean that all other cyclic activity will also stop.

In my view, the long-term trend continues to be influenced by the 12-year and 10-year cycles, and this could continue for another couple of years. The decline into June/July lows were caused by the 9-m cycle which, since it has turned up remains in control of the intermediate trend. But the 40-week cycle (not to be confused with the 9-month) and the 12-month cycle are expected to make their lows in October, and we should be looking for evidence that they are beginning to assert themselves and that a short-term top is forming.

The present uptrend can be said to have started either on 6/14, or on 7/28, but for our purposes, the latter date is more significant because we can use the basing action of that time frame to establish Point & Figure projections for a prospective top. Several projections converged at the 1314/1315 level and brought a halt to the current rally which, coincidentally also turned out to be the high point of the 6-week cycle. But there are valid projections extending up to 1332 which should be kept in mind, especially if they are confirmed by a reaccumulation pattern formed during the current correction. There are also Fibonacci proportions which appear to confirm that price level and which give it additional credibility. Does the SPX have to go to 1332 before it ends the move which started at 1225? Not necessarily, but it will have to show by its action that it is in the process of reversing its trend.

The 6-week cycle can be an important gauge of determining if the market has reached a top. If it appears to struggle in its up-phase and displays abnormal weakness in its down phase, a reasonable assumption can be made that the intermediate uptrend has come to an end. However, we do not have this condition right now. In reaching the 1314 target, the short-term cycle showed good strength and, so far, with 4 or 5 days to go to its ideal low point, it has demonstrated only moderate weakness. If quite a bit more weakness does not develop by the end of next week, there is a chance that the next cycle could carry prices even higher.

The following 30-m chart of the SPX demonstrates the progression of the present 6-week cycle whose ideal low should come about next Thursday or Friday. Adding to that probability is the fact that this time frame is 90 trading days from the May top, and that it represents a Bradley turn date.

In the next chart, we'll see how it fits within the daily chart structure and what effect it is having on the longer
trend.

Cracks are beginning to appear in the uptrend. The most visible are in the lower (A/D) oscillator which has now broken a 4-month trend line. The upper one (momentum) is getting ready to do the same, but since it is retracing from an overbought level where it remained for some time, the retracement is normal and is not an indication of imminent weakness. Granted, there are similarities with the May 8th top, but there are also structural differences.

The price chart is showing some deceleration. By connecting the top of the moves, it is evident that a rounding top is taking shape, and this would be consistent with the 40-week/12m cycles applying more and more downward pressure as it approaches its low point. But none of this is enough to state with certainty that the move which started at 1225 has ended. This will only be determined if the up-phase of the next 6-week cycle fails to produce a new high.

On a longer time frame, we could also say that it is the May high of 1326 that is being tested and challenged, not just the recent top of 1314. And since, the next 2 weeks should bring a resolution to this pattern, they should be watched with a great deal of interest.

Looking past October, it is a little more difficult to foresee exactly what will take place although, based strictly on cycle analysis, it would seem reasonable that the long-term uptrend will be extended, but for how long? It is probably impossible to quantify the degree to which cycles account for market trends and that which is attributable to economic and geopolitical developments. Or are these, also, motivated by cyclical forces?

This week, John Mauldin reports that the Fed is still concerned with inflation and that this could mean additional rate hikes starting in December. He also mentions shrinking liquidity and other factors which could affect the economy. He does not present a very optimistic picture for the future, and if he is right, this should, at some point, be reflected in the behavior of the market.

Summary:

The 4-year cycle can no longer be considered a factor which will influence stock market action this year, but the 40-week and 12-month cycles which are due to make their lows in mid-to-late October should bring about a moderate pull-back.

On a shorter-term basis, after some additional correction, the recent high of 1314 is likely to be tested and could be exceeded.

Andre Gratian
MarketTurningPoints.com

The above comments about the financial markets are based purely on what I consider to be sound technical analysis principles uncompromised by fundamental considerations. They represent my own opinion and are not meant to be construed as trading or investment advice, but are offered as an analytical point of view which might be of interest to those who follow stock market cycles and technical analysis.

I encourage your questions and comments. Please contact me at: ajg@cybertrails.com.

Copyright © 2004-2008 Andre Gratian

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