How to become a successful trader

A client writes: “I have trouble cutting my losses when trading.  I took the stop off one of my positions because I thought it would bounce off the 200-day moving average and have owned it before on a long term hold.  Any advice you may have on being a successful trader would be greatly appreciated.”

The best advice I can give you on how to become a successful trader is to be disciplined.  That is, you should have a definite guideline for entering and exiting a trade.  The set-up for entering a trade could be a 2-day higher close above the rising 15-day moving average, for instance.  I would recommend entering trades where the stock has been showing relative strength versus the S&P 500 as well as the sector it trades in (presumably the gold/silver stocks).  

You also should ideally have a guideline for booking profits.  You might take profits incrementally, say every 4-5% move in the stock you take 30-50% profits in your position.  You also will want to raise the stop loss on your trade each time the stock advances, that way you won't get completely wiped out if the stock heads south.  You might use a short-term moving average as a stop loss guide (e.g. the 15-day or 30-day or even the 60-day moving average).  Or you could use a percentage rule, such as a 5%, 7% or 10% stop loss.  Using stops is an extremely important part of any trading plan and will minimize your losses in case your timing is off.

The important thing is that once you've made a trading commitment, stick to your discipline and don't try to use your own judgment by exiting the trade prematurely.  Take profits along the way and let your incrementally raised stop loss take you out of the trade.  With practice and discipline you can become a successful trader.  

Investor sentiment becoming bubbly

On the investor psychology front, the latest AAII investor sentiment readings were at their most enthusiastic in several months.  The percentage of bullish investors was 52%, an increase from last week’s 44%.  This was also the highest bullish reading since last February 8.  The percentage of bears was 24%, a drop from last week’s 27%. 

Bullish readings above 50% often signal market tops, or at least serve as preliminary warnings that a top is ahead.  I would point out, though, that last year’s (Feb. 8) 52% bullish reading in the AAII poll was followed by nearly two more months of higher prices in the S&P before a sizable correction occurred.

Along with increasing investor enthusiasm has come an increase in equity market inflows.  CNNMoney pointed out recently that investors poured a record $8 billion into U.S. stocks at the start of 2013 after removing more than $150 billion from U.S. stock mutual funds last year.  According to the Investment Company Institute, the $8 billion investors put back into stocks as of January 9 was the highest amount within a short space since ICI first began keeping records in 2007.

As Hibah Yousuf of CNNMoney wrote, “The massive inflow represents a significant departure from the recent trend of investors fleeing the stock market.”  Along these lines, Art Huprich, chief technical analyst at Raymond James asks, “Is there a slow yet marginal shift out of fixed income and into equities taking place?”  It’s still early, but it’s beginning to look that way.  Assuming this trend continues it would certainly jibe with our Kress cycle “echo” forecast for 2013, which concluded that this year would likely resemble 2007 in many ways.  

In other words, 2013 could prove to be a major topside transition year with some major ups and downs along the way as investor bullish sentiment reaches a crescendo.  

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Chart walk update

In our previous chart walk update of Jan. 15 we looked at four promising stocks which all shared the common attribute of earnings momentum and price momentum.  In this entry we’ll update the progress of these stocks.

NiSource (NI), a gas distribution stock, was seen strengthening on the back of strong internal momentum within the oil/gas sector.  The stock has since rallied nearly $1/share.  Traders currently long this stock might want to raise stops to slightly under the 15-day moving average intersection at the 26.00 level (closing basis).

Concerning Norfolk Southern Corp. (NSC), a railroad stock, I previously noted that it was a member of the ultra-strong transportation sector and was expected to play a belated game of “catch up” before earnings season ends.  NSC has since rallied $4/share.  You might want to take some profit if you’re long and raise the stop to the 66.35 level (closing basis) where the 15-day MA intersects in the daily chart.

Northstar Realty Finance Corp. (NRF) also rallied since our previous “chart walk” update, though I don’t personally recommend trading stocks whose dividend yield is above 5% as is the case for NRF.

I wrote concerning Old National Bancorp (ONB):  “A laggard bank stock that looks like it could finally catch up to its elder brethren during this earnings cycle.”  ONB looks like it has finally begun playing catch-up, having rallied almost 3% and broken above a 3-month trading range ceiling as of this writing.  I recommend using a conservative stop loss if you’re currently long this stock.

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Benchmark resistance for the Dow

An important factor to consider as we enter the final week of January is that the major indices are bumping up against all-time highs.  The Dow Jones Industrial Average for instance is about to test its 2007 high of 14,000.  The Dow closed Friday at 13,896 and is well within reach of this benchmark level.  Round number levels tend to have psychological significance, so a reaction shortly after reaching, or exceeding, the 14,000 level wouldn’t be surprising. 

Why the stock market rallies despite worries

The fiscal cliff, tax increases, missed earnings -- investors certainly have had much to worry about in recent months.  

So why, in spite of these fears, has the market continued to rally?  There's a Wall Street bromide that succinctly answers this question: "Bull markets climb a wall of worry."  Fear tends to fuel higher prices when internal momentum is rising due to short covering and other technical factors.  It's normally not until everyone has entered the market that the market finally tops out.

Many are wondering why the market has been so strong in the face of all these potential pitfalls.    The best answer I've heard for this question to date is that the U.S. stock market is the "best horse at the glue factory" so to speak.

As one newsletter writer pointed out, "Pension plans get contributions every month and have to invest them.  Individuals are saving money and they have to invest it.  And high yielding bonds and CD's from yesteryear are maturing.  What are your investment options?"  Certainly not low-yielding CD's and Treasuries.  

Moreover, the dividend yield on the Dow was recently as high as 2.6%, well about the yield on a  10-year T-Bill.  In other words, the U.S. stock market is winning the race for investors' dollars by default.  

Funding America's retirees

"More than a quarter of Americans with 401(k) and other retirement accounts are dipping into their nest eggs early to pay for current expenses, exacerbating concerns that future retirees could be impoverished if the government cuts Medicare and Social Security benefits." [The Washington Post]  

Where will the "funding" for America's retirees come from in coming years?  Most likely from the stock market itself.  This is a major reason why Fed chief Bernanke, unlike his predecessors, views the equities market as the prime beneficiary of his monetary policies.  The federal government has also made stock market liquidity/support a top priority.  Equity market strength has now become official policy for both branches.

Notwithstanding the possibility of a bad year for stocks in 2014, expect to see rising equity prices in the years ahead -- especially as post-2014 inflation kicks in. 

The technique of momentum trading

Momentum trading, the focus of the technical discipline utilized by the Momentum Strategies Report, is based on three major pillars:

1.    Market trend/momentum

2.    Internal trend/momentum

3.    Fundamental trend/momentum

Momentum trading is based on the axiom that a “trend in motion tends to stay in motion unless acted upon by an equal and opposite force.”  When the broad stock market is in a bullish trend as defined by expanding new 52-week highs and shrinking 52-week lows on a rate of change basis, the best individual stock trades tend to be those with little or no overhead resistance.  In other words, stocks with strong chart patterns in clear rising trends. 

One of the best ways of identifying top-flight momentum stocks is by starting with the 3-month or 6-month daily chart, then expanding the time frame to at least a 4-year monthly chart.  Ideally, of course, the stock in question should have strong earnings and revenue growth with bullish analyst expectations for the next 3-4 quarters.  Once the company’s fundamental strength has been ascertained, it’s time to focus on the stock’s technical strength.

Technical strength is best measured by taking a relative strength survey of the stock in relation to both the broad market S&P 500 Index as well as the industry group it trades in.  You’ll do well to ask yourself, “Is the stock showing relative strength on a short-term as well as an intermediate-term basis?”  If the answer is yes, then proceed to the next step of evaluating the structure of the charts.

Let’s take one of our more recent stock picks, namely PulteGroup (PHM).  When we first evaluated this stock a few weeks ago in the newsletter it was clearly that the 3-month daily chart had a bullish structure.  You can still clearly see this in the following chart example. 

Even more importantly, PHM had/has a bullish 4-yearly month chart structure with no overhead resistance/supply in sight (see below).

An even longer-term graph depicts chart resistance beginning around the $24-$25 area.  But for short-term trading purposes a 4-year monthly chart will typically suffice for giving you a good idea how much upside potential and forward momentum a stock will enjoy in a confirmed bull market. 

Now compare this to another stock in the home building industry, namely D.R. Horton (DHI).  Unlike PulteGroup, DHI has more near-term overhead chart resistance to contend with.  You can see this resistance around the 22.00 level beginning around late October/early November in the 6-month chart shown here.  This resistance is even more visible from the vantage point of the 4-year monthly chart (not shown).  Not surprisingly, DHI has lagged the home construction industry group for this rally and hasn’t yet made a new 52-week high, unlike PHM.

The lesson here is that it usually pays to do relative strength and momentum studies when selecting stocks for trading and investing.

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Misinterpreting the Dow Theory

Dow Theory is one of the oldest forms of technical market analysis.  The theory was originally devised by Charles Dow, founder of the Wall Street Journal, over 100 years ago.  While there are six major tenets of the Dow Theory, the most famous one states that both the Dow Jones Industrials and the Dow Jones Transportation Average must confirm each other in order for a bull market to be legitimate.

Many analysts utilize Dow Theory in an attempt to forecast the economy.  Although one of Dow Theory’s six major tenets states that the averages discount the business outlook, the theory isn’t always the crystal ball that many of its adherents believe it to be.  For instance, an extended rally in the Dow Transports doesn’t always forecast a rosy economy.  There are times when movements in the Transports can be quite deceptive. 

One of those times occurred in 2007 just prior to the credit crisis.  The Transports made a new all-time high in July 2007, prompting many analysts to proclaim that the economic outlook was stronger than it appeared at the time.  That prediction failed, of course, as the U.S. economy went into recession just five months later.

The Dow Transports have made yet another new all-time high as of Tuesday, Jan. 22, producing once again a litany of bullish economic forecasts.  One respected analyst for a well known brokerage firm went so far as to say, “Ladies and gentlemen, for the economically sensitive Trannies to do this speaks loudly to my premise that there will be no recession in 2013.”

Based on my experience, this is a premature statement at best.  A lot can happen between now and year-end, especially in view of what happened in the parallel year of 2007.  The long-term yearly Kress cycle outlook tells us to maintain a cautious approach as we head further into 2013 and especially as we approach 2014. 

A more likely explanation for the new high in the Dow Transports is that it has resulted from the phenomenon described in a previous blog entry, viz. fund managers being behind the proverbial “eight ball” entering the New Year.  Hot money inflows can lift equity prices irrespective of economic factors for weeks and sometimes even months at a time. 

The lesson of 2007 is not to let Wall Street’s hype of the new all-time high in the Transports lead to excessive greed and blithe optimism about the economic outlook.  As 2007 taught us, even the rosiest economic outlook can fall apart very quickly.  

Larry Williams’ Points to Remember

1. Keep a watchful eye for selling climaxes.

2. Be quick to turn bullish, slow to turn bearish.

3. A low yield, under 2.8% in the S&P 500, is a bear market signal.

4. Money supply usually tops and bottoms before stock prices.

5. The annualized rate of change of the monthly short position is the best single long term index I am aware of.

6. Mutual funds’ cash position forecasts major market moves.

7. The advance decline line usually tops out before the Dow Jones Industrials.

8. Member of the New York Stock Exchange do very little shorting at major bottoms.

9. The four week sum of secondaries is usually under 5 at major bottoms.

10. There is a [40-year] master cyclical pattern to the market.

[Source: The Secret of Selecting Stocks for Immediate and Substantial Gains, by Larry Williams]

Timeless lessons for traders

Bob Farrell was at one time considered the best strategist on Wall Street.  Back in 1992, while at Merrill Lynch, he wrote the following rules based on “lessons learned.”  They are as valid today as they were 21 years ago:

1.    Markets tend to return to the mean over time.

2.    Excesses in one direction will lead to an opposite excess in the other direction.

3.    There are no new eras – excesses are never permanent.

4.    Exponential rising and falling markets usually go further than you think.

5.    The public buys the most at the top and the least at the bottom.

6.    Fear and greed are stronger than long-term resolve.

7.    Markets are strongest when they are broad and weakest when they narrow to a handful of blue-chips.

8.    Bear markets have three stages.

9.    When all the experts and forecasts agree – something else is going to happen.

10.  Bull markets are more fun than bear markets.

[Special thanks to Jeffrey Saut of Raymond James Financial for the above list.]

Wall Street behind the eight ball

As we survey the myriad news headlines concerning the global economy, one would be hard pressed to come up with a bullish case for stocks in the first quarter of 2013.  Yet the same thing could have been said in 2012.  Indeed, an investor might reasonably ask, “Why, with all of the international, economic, governmental and corporate concerns, did the major averages produce stellar returns, though with a lot of volatility?” 

I believe Art Huprich of Raymond James nailed it on the head when he answered, “performance anxiety.” 

As with 2013, stocks opened last year sharply higher, which put many money managers behind the proverbial eight ball.  In order to catch up to the market they were forced to put sidelined money to work.  This year opened in similar fashion and already money managers have been feverishly buying stocks in the hopes of boosting their quarterly performance.  Performance anxiety can ignore a multitude of economic – even corporate earnings– sins.  This is one reason why I don’t think we should underestimate the market’s near term potential. 

Chart walk

Searching through the NYSE stock universe I came across the following stocks which look to have some short-term potential.  The stocks in question are worth watching as we progress through another earnings season:

NiSource (NI), a gas distribution stock.  As previously noted, the oil/gas sector is strengthening and could benefit from positive earnings surprises this season.

Norfolk Southern Corp. (NSC), a railroad stock.  Member of the ultra-strong transportation sector, this institutionally-held stock has lagged the Transports and could end up playing a belated game of “catch up” before earnings season ends.

Northstar Realy Finance Corp. (NRF), a mortgage REIT.  I don’t personally advocate REIT plays, especially when the dividend yield is as high as NRF’s (9.02%).  Yields above 5% tend to coincide with higher-than-average volatility in the stock’s price.  NRF is a momentum stock and could go higher in the short-to-intermediate-term, but is too risky for my liking.

Old National Bancorp (ONB).  A laggard bank stock that looks like it could finally catch up to its elder brethren during this earnings cycle.

Has the Fed killed the Kress cycle?

A client asks: "Has FED and other Central Bank Action defeated the Kress 120-year Cycle?  Can the cycle come down with all of this Central Bank stimulus?"

Answer: If the world's major central banks coordinated a massive stimulus response to the Kress deflationary cycle they could possibly succeed in mitigating the deflationary impact of the cycle.  

The problem is that while the BOJ, Fed and China's bank are pumping money, the governments of the major countries, including the U.S., are embracing deflationary policies like austerity and deficit reduction.  I see no coherent response to the Kress cycle as yet.

The other point to consider is that even if the world's central banks successfully staved off the 120-year cycle, once that cycle bottoms in late 2014 there will be a tremendous lifting of deflationary pressure.  In other words, a new inflationary long-term cycle begins.  

What happens when all the excessive liquidity these banks have created is suddenly put to work after 2014?  Massive inflation would be the most likely result.  The central banks may end up getting more than they bargained for in their fight against deflation.

A look at investor sentiment

On the investor psychology front, the latest AAII investor sentiment poll was showed a decided increase in the percentage of bulls from the previous week.  The AAII bulls rose to 46% from last week’s 39%.  The bears fell from last week’s 36% to 27% this week.  That’s a little disconcerting but not worrisome just yet.  When the percentage of bulls approaches 50% or higher, then we’ll have reason for concern. 

Elsewhere the CNN Money Fear & Greed Index rose to 84% from last week’s 82%.  CNN classifies this as “extreme greed” with the suggestion that a market top is imminent.  A wide berth must be given to this retail sentiment indicator, which isn’t as useful as the AAII investor poll.  A year ago the CNN poll was at a similar reading of 83%, yet the market advanced for an additional 10 weeks before topping. 

In the overall sentiment picture, I think Barron’s Michael Santoli put it best when he wrote:

“Synthesizing the present investor mood through a multitude of surveys and statistical gauges of behavior and emotion, it’s fair to say investor optimism is climbing toward the upper end of its long-running range, a caution flag that implies the tape is vulnerable to a pullback, or at least a stall.  Yet the crowd’s contentedness isn’t yet wildly out of step with the market backdrop of the indexes stretching to a five-year high.”  

The best of the Dow 30

Among the Dow 30 components a handful of stocks stand out this morning as having potentially bullish short-term chart patterns. 

Cisco Systems (CSCO) is bumping up against near-term chart resistance at 20.50 but should be able to overcome this level soon.

Chevron Corp. (CVX) is coming out of a tight, well-defined consolidation pattern.  Chevron has lagged the oil stock group in recent weeks but appears to be playing a belated game of “catch up.”

Intel Corp. (INTC) looks to be on its way to testing the 22.50 resistance peak from early November.

McDonald’s (MCD) is also playing “catch up” with the Dow.

Keep an eye on Travelers Cos. (TRV).  The stock has been backing and filling for weeks and, while it may not be quite ready to run, the stock has good intermediate-term upside potential.

The true meaning of momentum trading

Many investors have a negative view of momentum trading.  To these skeptics, momentum trading can be lumped in the same category as trend trading, i.e. seeking out stocks in a rising trend and simply jumping on board hoping to catch a ride.  Such an approach is indeed worthy of contempt, yet this isn’t what momentum trading is truly all about.

When done correctly, momentum trading combines the elements of a stock’s price, internal breadth and even earnings.  I believe true momentum trading can be distilled into four basic principles.  In sum, momentum traders seek to discover:

1.    A company whose stock’s price is showing relative strength to the S&P 500 and leadership within its own industry group.

2.    A stock whose industry group is currently experiencing strong internal momentum (defined as the rate of change in the net number of new quarterly, or yearly, highs within the group).

3.    A stock which has strong forward earnings and revenue growth prospects.

4.    A stock which is already enjoys an element of forward price momentum.

Amateur momentum traders would most likely look only at point #4 for identifying trades.  An experienced pro on the other hand would review all four principles before making a trade.

How to invest within the Kress cycles

Recently I asked a question that I suspect many followers of the Kress cycles have asked at some point.  Here it is:

“I have been following your discussion on the Kress cycles for years.  When I combine the market analysis from other [financial analysis] sources I am somewhat perplexed, however.  I would desperately desire to make a keen strategic maneuver in the next 24 months with my retirement funds to, first, avoid the next crash predicted by the "hard down' phase of the Kress cycle.  But then secondly, I’d like to be in the market to take full advantage of the ensuing bull market.

“If I fully believe the Kress 2014 crash scenario and pull out completely in the coming months, my past luck would have me completely miss the Raging Bull market.  On the other hand, if I commit to being in the market to ride the Bull, I could get annihilated again if Kress's 2014 crash is as predicted….

“Can you please expound on how a long term investor, like me, can negotiate this coming period to minimize the risk of being on the wrong side of the wave when it gets here?  I'm feeling like a deer in the headlights and I'll bet I'm not alone.”

To answer this question, I would reiterate that the Kress cycles – indeed, no theory of market cycles – should be used exclusively to make investment, or especially, trading decisions.  As I’ve stated many times before, the yearly Kress cycles should be viewed as a rough guideline, or road map, for the overall market path.  More specifically, only when any of the major yearly cycles within the 120-year Kress cycle series are “hard down” should you consider embracing a bearish market stance.

For instance, if the 10-year cycle is scheduled to bottom (as it last did in 2004) then you can become increasingly defensive in your market posture as the cycle bottom approaches in the fourth quarter of the year.  Conversely, if a major cycle is peaking (as the 10-year cycle did in 2009), then you can probably safely maintain a bullish posture through much of the year.

The final “hard down” phase of any of the yearly cycles is partly determined by the configuration of the Kress weekly and quarterly cycles.  It helps to know the position of these cycles when evaluating the coming market year on an annual basis.  There is some validity, however, in assuming a net bearish market stance as we approach the final year of the 120-year bottom, namely the year 2014.

How can an investor know when to exit his long positions and return to a net short or all-cash position?  Answer: By employing a disciplined technical trading approach to the stock market.  For instance, even if you believe 2013 will be an extremely volatile year as it progresses due to the conflicting cyclical and economic currents (as I do), you can still maintain a net bullish investment posture as long as your stocks and ETF positions are, for instance, staying above the rising 10-month or 30-month moving averages.  See chart example below.

If you wanted to play it closer to the hip, you could even use the 30-day and 60-day MA combo to enter or exit trading positions within a volatile year.  (FYI, I employ a similar technical discipline in the Momentum Strategies Report in order to participate in rallies even in bear market years).  Remember, just because a major yearly cycle is in the “hard down” phase doesn’t necessarily mean that all stocks will be declining.  As the old Wall Street saying goes, “There’s always a bull market out there somewhere.”  This is why it pays off to vigilantly scan the charts of actively traded NYSE and NASDAQ stocks regularly for trading opportunities. 

In short, don’t let the Kress cycles dictate your short-term trading or investment decisions unless there is valid reason for doing so (e.g. the cycle is in the final stage of bottoming).

[Note: To subscribe to the Momentum Strategies Report, follow this link:  http://www.clifdroke.com/subscribe_msr.mgi]

When will interest rates rise again?

Recently I was asked a question that I suspect has been on many investors’ minds.  Here’s the question: “Is it possible that the bond market will be the market to tumble into 2014, and as it does, the general market decline is mitigated by the rotation of money out of bonds and into stocks?”

Here’s my answer: Anything is possible in today's upside-down world.  As my late friend and mentor Bud Kress used to ask, “Does anything surprise you anymore?”  But I’d have to say here – and I firmly believe Bud would echo this sentiment – if there’s any validity to the 120-year Kress cycle, a sustainable rising interest rate trend isn’t likely until after October 2014.  

The 120-year Mega Cycle – and its 40-year and 60-year components – is deflationary whenever they’re in the “hard down” phase, as they are between now and then.  I make no claims to being an expert in bonds, but isn’t the scenario described above (viz. rising rates) essentially part-and-parcel of an inflationary environment?  With deflation still making its presence felt in the global economy, I can’t see rising interest rates on a sustained basis until after 2014.

Structural deflation is chiefly characterized by three things: 1.) falling wages, 2.) falling interest rates, 3.) falling money velocity.  One of the best illustrations of the deflationary long-term cycle can be seen in the graph of the 10-year Treasury rate shown here.

Note the peak in the interest rate in the early 1980s – exactly when the 60-year Kress cycle of inflation/deflation peaked.  The next scheduled bottom of the 60-year cycle is for late 2014.  To date, long-term interest rates have conformed to the deflationary implication of this cycle as you can see in the above graph.

Money velocity (that is, the turnover in money within the domestic economy) also peaked around 1980 and has been declining ever since.

On a short-to-intermediate-term basis it may be possible to see rising interest rates, much as we did in the year 2007.  Year 2007, you may recall, was an extremely volatile year and was a precursor to the credit crisis year of 2008.  I strongly suspect 2013 will in some ways mirror 2007.  In 2007, Treasury rates rallied in the first half of the year before collapsing heading into the hyper-deflationary year 2008. 

Note the firmly established long-term downtrend channel in the interest rate below.  Rates have recently fallen below the lower boundary of the channel, which constitutes a “channel buster.”  This in turn suggests an “oversold” condition and therefore suggests that rates could rise in the near term to recovery temporarily back inside the channel.  I don’t expect the rally (assuming it materializes) to persist for more than a few months.

Now the big question is what happens to all those hundreds of billions of dollars created in recent years – the record corporate cash pile, bank reserves, etc. – AFTER 2014?  It doesn't take much imagination to foresee a period of hyper-inflation being stoked once the downside pressure of the 120-year cycle is lifted.  Unless I miss my guess, it will be in 2015 and thereafter when we’ll see rising interest rates and the corresponding long-term collapse in bond prices.  

The future of inflation

Despite the clear deflationary implication of Congress’ latest tax hike, many on Wall Street are actually worried about inflation. 

“It’s Not Too Early to Worry about the End of Fed Easing” proclaimed one recent news headline.  The article was written in response to the release of the minutes from the U.S. Federal Reserve’s latest meeting which were released last Thursday.  The minutes revealed that Jeffrey Lacker, Richmond Fed Bank President,  is concerned that the Fed’s bond-buying stimulus plan will eventually stoke inflation. 

“It is unlikely that the Federal Reserve can push real growth rates materially higher than they otherwise would be, on a sustained basis," said Lacker.  “I see an increased risk...that inflation pressures emerge and are not thwarted in a timely way.”  The minutes showed several members of the Federal Open Market Committee foresaw a chance that asset purchases would need to be slowed or halted altogether before the end of 2013. 

Just like that, Wall Street has a new worry going forward, viz. the end of quantitative easing (QE).  This is in marked contrast to Wall Street’s worry of just a few weeks ago that the Fed was going overboard with QE.  Investors are now apparently torn between the fear of inflation and the worry that the Fed’s efforts at re-inflating the financial market will end too soon. 

A straight forward reading of the long-term Kress cycles tell us that inflation won’t be a major concern until after 2014.  The dominant long-term components of the 120-year cycle, the 40-year and 60-year cycles, will both bottom around October 2014.  The increasing descent of these cycles into late 2014 is expected to create significant deflationary pressures on the economies of developed nations, particularly the U.S.

This is one of the main reasons why the Fed’s intensive efforts at re-stimulating the economy through QE have been relatively ineffective.  As the following graph vividly shows, each successive QE has resulted in a less vigorous increase in equity prices, to say nothing of economic output. 

Inflation is also being kept at bay through the deflationary policies of the U.S. Congress (payroll taxes, Obamacare taxes, etc.) as well as the austerity policies of other major governments around the globe.  The year 2013 will ultimately tell the tale of whether the Kress deflationary scenario comes to pass.  My best guess is that we’ll start seeing an erosion in retail sales by the second quarter with increasing deterioration in each subsequent quarter.  By the end of the year corporate profits will be in decline, then the real trouble begins entering the fateful final year of the 120-year cycle – 2014.  

Stock market update

The broad market jumped on Wednesday, Jan. 2., on relief from the (temporary) resolution of the U.S. fiscal situation.  Major indices were at their highest levels in three months at the time of this writing. 

The market announced its intention with a massive 29:1 upside volume day on the NYSE the day before the “fiscal cliff” meeting in Congress and followed through the rest of this week.  The bottoming of a key intermediate-term weekly Kress cycle last week was also a major impetus in the lifting of the recent downside pressure on stocks.

Reviewing some of the stocks we examined in the Dec. 12, 2012 blog posting entitled “Some interesting charts,” we see that Huntington Ingalls Industries (HII, 43.67) has gained in the last three weeks, albeit at a sluggish pace compared to some of the others.  Remember, if you own this stock be sure to use a conservative stop loss at all times.

Hyatt Hotels (H, 39.50) finally emerged from its long-standing consolidation pattern as anticipated and has since gained nearly $3/share since our last review.  Take some profit if you’re long this stock and raise stops to a confortable level to protect the remainder of your position.

IHS Inc. (IHS, 98.66) was also a winner in the latest broad market rally.  Take some profit if you’re long and raise the stop loss.

ING Groep N.S. ADS (ING, 9.63) has barely made any progress since our last review, though it has just registered a new quarterly high.  Our assessment of this stock’s potential from the Dec. 12 posting remains unchanged.

Of the four stocks we reviewed on Dec. 12, INVESCO Ltd. (IVZ, 27.39) looks like a runaway momentum leader and is at a new 52-week high as of this writing.  Take some profit and raise stops on any long positions.

Elsehwere the major indices are in the process of testing major resistance levels from last year, which could mean a brief period of consolidation lies ahead in the near term.

[For the complete 2013 Kress cycle forecast for the U.S. stock market, subscribe to the Momentum Strategies Report at the link below.]

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Kress cycle forecast for 2013

It’s time once again for our annual Kress cycle echo forecast and review for 2013.  For the benefit of those unfamiliar with a Kress Cycle “echoes,” these stock market patterns are based on the 6-year, 10-year, 30-year and 60-year rhythms in the equity market and have been invaluable in providing a rough guideline or “road map” for what to expect in the coming months.

Let’s start with a review of last year’s “echo” analysis. The Kress cycle echo for 2012 was based on the years 2006 (6-year rhythm), 2002 (10-year rhythm), 1982 (30-year rhythm) and 1952 (60-year rhythm). Based on an analysis of these four rhythms, here’s what I concluded in the Dec. 28, 2011 report:

“The first five months of 2012 will likely be characterized by greater than average volatility....This will create a level of choppiness to coincide, if not exacerbate, the market’s underlying predisposition to volatility owing to the eurozone debt crisis…the May-June 2006 stock market slide could be repeated in May-June 2012.  Our short-term trading discipline should allow us to navigate this volatility and there should be at least two worthwhile trading opportunities between [January] and the scheduled major weekly cycle around the start of June 2012.  From there, the stock market should experience what amounts to the final bull market leg of the current 120-year cycle, which is scheduled to bottom in October 2014.

“Keeping in mind that like snowflakes, no two markets are exactly alike, the Kress cycle echo analysis for 2012 tells us to expect a final upswing for stocks in the second half of the year with the first half of 2012 likely to be more favorably to the bears, especially if events in Europe are allowed to get out of hand.”

All in all, last year’s forecast wasn’t too far off the mark.  The anticipated May-June slide did occur and there was indeed a major cycle low around June 1, 2012.  The anticipated rally in the second half of the year materialized up until October, after which the market took another “correction” into November.  This is the only major part of the 2012 forecast our Kress cycle echo analysis failed to see.  (Although there was an October slide in the 60-year “echo” year of 1952, I chose to discount this factor in last year’s forecast).  In any event, the year 2012 was an overall winning year for the U.S. stock market as measured by the S&P 500 and as forecast by the 2012 echo analysis.

That was the year that was.  Now let’s turn our attention to the year that is, namely 2013.  The old saw that “No two markets, like snowflakes, are never exactly alike” should be kept in mind here as a disclaimer, but there is a cyclical basis for a similar pattern occurring this time around. In the past we’ve talked about the Kress cycle echoes which tell us that the stock market performance of any given year tends to loosely resemble the performance of the previous 6, 10, 30 and 60 years previous on an aggregate basis, with a special emphasis on the 60-year-ago period….

[For the complete 2013 Kress cycle forecast for the U.S. stock market, subscribe to the Momentum Strategies Report at the link below.]

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The Fibonacci conundrum

Bloomberg Markets published an intriguing article on the career of master market technician Thomas DeMark, founder and president of Market Studies.  Mr. DeMark is also the author of numerous books and articles on technical analysis, including The New Science of Technical Analysis.

According to the article, DeMark “believes that markets are governed by waves that crest and fall based on a series of numbers called the Fibonacci sequence and the closely related golden mean, or golden ratio.”  Fibonacci numbers appear in the following infinite sequence: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34… where each number is the sum of the previous two.  Divide on Fibonacci number by its predecessor and the quotients will cluster around 1.618 – the so-called “golden mean” or “divine proportion.”   Fibonacci ratios are of course well known and widely utilized by today’s practitioners of technical market analysis.

Not everyone is inclined to the practical application and validity of Fibonacci theory, however.  The article quoted one Matthew Beddall, chief investment officer at Winton Capital Management, as saying: “Comparing technical indicators to what we do is like comparing bush medicine to the research performed by drug companies.”  George Markowsky, a computer science professor at the University of Maine, was elsewhere quoted as saying: “There’s a golden-ratio mania, and most of it isn't based in fact.  It’s amazing to me that adults take this stuff seriously.” 

Are the detractors right?  Is Fibonacci bunk?  Or are the proponents correct in asserting that it can be harnessed to yield clues as to future stock price movements? 

My take is that Fibonacci numbers and ratios can indeed be used profitably, and with consistency, in stock trading, and there are many traders and investors who do it successfully.  After studying Fibonacci theory in the early days of my study of technical analysis back in the ‘90s I came to the conclusion that it, as with any other form of market analysis, is only workable with a basic set of rules.  You see, almost any theory of technical analysis can “work” if it’s followed in an unemotional, disciplined fashion with distinctive rules for entering and exiting individual trades.  But as with almost any type of market analysis, much of it has to do with good money management principles.  I believe Fibonacci is incidental to the success of the traders who use it; it's not the underlying cause of it.

The Fibonacci numbers and ratios mentioned in the Bloomberg article can’t “predict” the stock market, per se.  But since so many market-moving hedge fund and institutional traders use them it becomes a kind of self-fulfilling prophecy.  In other words, if Wall Street traders are all buying at the same time when the market hits a certain "Fibonacci level," it's bound to produce a measurable move in the market which can be captured by dexterous traders.