Stock Market Forecast for 2008

2008 STOCK MARKET FORECAST

Summary

The first half of 2008 will prove to be a very bullish period and that the second half of the year will be flat or bearish.

Cycle Evidence

The last four year cycle low that is easily visible in the averages occurred in October 2002. I think it is likely that that same cycle established another low during the June-July 2006 time frame. The magnitude of the 2000-2002 drop suggested at the time that longer term cycles also bottomed in 2002 and these are still headed upward as this is written. This would account for the very modest effect the downside phase of the 4 year cycle had in 2006. I should point out, however, that the sentiment index of the American Association of Individual Investors showed more bearish sentiment at the June 2006 low than at any time since the 2003 low. I ascribe this to the negative influence of the 4 year cycle which was bottoming then.

I also think that there is an out-of -phase 3 year cycle pattern developing. The lows have been in October 1998, September 2001, October 2004 and there is probably one developing as this is being written. This 3 year cycle was last prominent during the 1980’s.

The 3 year cycle lows during the 1978-1990 period occurred in March 1978, October 1981, July 1984, October 1987, and October 1990. After that the 3 year cycle disappeared until the 1998-2001 beat developed.

It is worth noting the pattern of the 20 year cycle in this connection. The S&P 500 established a bull market top in November 1980 which I take to correspond to the August 31, 2000 top in the S&P 500. This latter top was lower than the March 2000 top by about 2 %. The drop from the November 1980 top made a temporary low in early October 1981 and a slightly lower final low in August 1982. I take these to correspond to the September 2001 and October 2002 lows. The market went up to make a top in August 1987 which I take to correspond to the October 2007 top. The break from the August 1987 top lasted about 7 weeks on a print basis and about 3 ½ months on a closing basis. I think the corresponding drop from the October 2007 top is bottoming in January 2008.

If the market were to continue following the 1980-1990 pattern it should remain in an essentially bullish mode until the fall of 2009.

The 40 year cycle predicted an intermediate term top for September 2007 and predicts an intermediate term low for March 2008. Since the corrective phase in 2007 can reasonably be said to have started in July 2007 rather than in September, the corresponding low would be in January 2008. The March 1968 low was followed by a 9 month advance to a bull market top in December 1968. This cycle would at least predict a bullish first half of 2008.

The 60 year cycle would have predicted tops in July and October 2007, predicts a low for March 2008, and an important top for June 2008. This would be followed by a drop of about 12 months.

The evidence of the 3, 4, 20, 40, and 60 year cycles points to a bullish 2008, but the strongest indications are for a bullish first half.

Lindsay’s Long Sequence

Among his timing methods George Lindsay had a theory of a 20 year long stock market pattern that he called “the long sequence”. This sequence attempts to identify the general pattern and timing of bull and bear markets during a period that lasts about 17-21 years starting from an important low. The last long sequence Lindsay had identified before his death started at the 1970 low. The fact that the 1974 low was slightly lower he regarded as an aberration.

The average pattern of the long sequence is a generally rising market for about 16 years and 5 months followed by a declining period of about 3 years. Each of these periods is broken up into several of Lindsay’s basic advances and declines: the 16 year 5 month period would ideally see 5 basic advances separated by 4 basic declines. The 3 year declining period would see two basic declines separated by a basic advance.

The long sequence which Lindsay believed started at the May 1970 low would ideally made its top in October 1986 and its subsequent low in October 1989. This particular example stretched out about a year longer than average, a fact that was easily detectable as it progressed.

The next long sequence started at the October 1990 low. The long sequence top was ideally scheduled for March 2007. However at the very least it was delayed until October 2007 and I am guessing it will be delayed even more (see below). However, shorter term timing considerations aside, Lindsay’s long sequence certainly is telling us that the bull run which began from the 2002 low is almost complete. This long sequence should end with a very important bear market low in 2010 which will begin the next long sequence.

James Alphier’s Phase Theory

In 1980 James Alphier, a very talented market analyst and money manager, presented his “phase theory” of stock market movements to the annual meeting of the Contrary Opinion Forum (which is still run by James Fraser of Fraser Management). Alphier’s theory was that about half of all the fluctuations in the market averages since 1789 can be divided into phases of about 9 years in length. Each of Alphier’s phases is a powerful rise in prices which begins from what Alphier called a “despondent” low of a bear market, a time when extreme pessimism prevails.

The first segment of a 9 year phase begins from the despondent bear market low. This is a bull market which typically averages 2 years in length. It is then followed by the second segment, a minor bear market. The third segment of a phase is a second two year surge in prices encompassing another clearly defined bull market. Occasionally the top of this third segment is the top of the entire phase, but this is not usual. This third segment is followed by a fourth segment, what Alphier called “the interim crash”. The interim crash segment is generally precipitated by some historic event. Panic often develops but the interim crash segment is generally short lived and lasts only a few months. The final segment of Alphier’s phase is a classic, speculative rise to a top accompanied by general euphoria.

Both the 1982-90 and the 1990-2000 periods were very good examples of Alphier Phases. The interim crash of the 1982-90 period occurred in 1987, while the interim crash of the 1990-2000 period developed in 1998.

I suspect that another Alphier Phase started in 2002 which was certainly a despondent low. The first segment ended at the February-March 2004 highs. The minor bear market could then be taken as lasting until the August-October 2004 lows or alternatively until the October 2005 low. In any case the third segment of the phase carried the averages upward through 2006 and the first half of 2007. I think the July 2007 top began the “interim crash” segment of the current Alphier Phase. There has certainly been an event of some historical importance to act as a trigger, namely the sub-prime meltdown in the USA which has had world-side consequences. Since “interim crash” segments generally last only a few months I think this current one is about over.

I think the final rise to the high of the current Alphier Phase should soon start if it isn’t already underway. Once it is complete a longer lived bear market should start. If this is indeed an Alphier Phase then I would not expect a top until 2009.

Linday’s Basic Advances and Declines

The bull market which began from the October 2002 lows has seen the development of two consecutive basic advances separated by a pair of shallow basic declines. This is an unusual situation which has made this part of Lindsay’s theory difficult to apply. Here is my best guess of the market’s current position according to this theory.

The first basic advance of the bull market started on October 10, 2002 in the Dow and ended on February 19, 2004. This advance lasted 497 days and was subnormal in length. According to Lindsay’s theory of alternation this implies that the next basic advance would be either long or extended.

The subsequent basic decline lasted 249 days and ended on October 25, 2004. According to Lindsay’s theory, once a basic decline ends a basic advance must begin. I think the basic advance began on October 25, 2004 and ended on July 16, 2007. It was an extended basic advance and lasted 963 days. This is in accord with Lindsay’s theory of alternation.

Note that there is an obvious sideways movement on the weekly chart of the Dow you see above. This sideways movement began in February 2004 and lasted until October 2005, a period of 20 months. This is an unusually long sideways movement; most last no more than 11 months. Lindsay warned that if the stock market rallies from a sideways movement lasting 11 months would probably crash after the subsequent basic advance is complete. In this case I think this basic advance began from the October 13, 2005 low. If it lasts 994 days, the maximum duration of an extended basic advance, it would end on July 3, 2008.

I should point out that this basic advance would have to last at least 765 days according to Lindsay’s theory because the length of the preceding basic advance was subnormal . This means that the October 2007 could not have been the top of the advance because it would then have been too short to qualify as a long or extended basic advance.

The other point to be made is that after an extended basic advance the market averages do not typically begin a bear market. Usually there is a sideways period or the development of an extended “right shoulder” following the end of the basic advance. During this subsequent sideways period or right shoulder prices often rally above the high of the basic advance . This observation applies both to the extended basic advance which ended on July 16, 2007 and the one projected to end in 2008.

Three Peaks and a Domed House

I shall have more to say on this topic elsewhere. Suffice to say that I think the Dow has developed major three peaks formation with points 3, 5, and 7 labeled on the chart you see above this post. Point 3 occurred on February 22, and Point 7 on October 11, a span of almost 8 months. This qualifies this three peaks as a major formation. Since such formations develop within a basic advance this is more evidence that the basic advance which began from the October 13, 2005 low is not over. Moreover, once point 14 develops it will project the top of the domed house (which may well be the bull market top) for July-August 2008.