This post was inspired by a question from Brigadoon about the 4 of 22 samples I presented on September 23rd that had 80%+ retracements like we have into November (Dow 18351-->15370-->17978=87.5% retracement). Keep in mind the 22 samples I found since year 1900 assume there is an ultimate 25% bear market drop with an initial 8%+ drop and 20%+ retracement mixed in, so the current Dow setup has only met 2 of those 3 criteria. Although we don't know for sure if Dow will ultimately drop 25%+, if it does we have some samples to focus on for potential similarities.
Here are the 4 of 22 samples since year 1900 mentioned in my September 23rd post that retraced 80%+ of the first bear market drop: year 2000 retraced 84%, year 1976 retraced 87.7%, year 1968 retraced 81% and year 1937 retraced 84%. The current Dow retracement is 87.5% which would be 2nd largest of 23 samples if Dow were to make a lower low before making a higher high. Dow could still rally slightly above its Nov 3rd high without surpassing its May high and be within range of these samples.
The previous largest retracement samples in 1937 and 1976 just so happen to be in the latter half of 2 secular bear markets like I think we are now. What commonalities can we find in those 2 tops that can be applied to today?
1. 5+ years left in the secular bear market
Many people consider 1942 and 1982 as the end of those 2 secular bear markets. Interestingly, both of the 1937 and 1976 tops led to about 5.3 more years of bear market activity although 1982 narrowly averted a lower low. That equates to year 2020-2021 as the ultimate end of this secular bear market.
2. 13-17 month initial Fib 62% retracement of previous bear market low. From May 2015, this equates to SPX 1225 +/- in June-to-October 2016 with the November election looming.
3. 7-13 month precipitous drop after the initial 8%+ drop and then 80%+ retracement bounce. From November 2015, this equates to June-to-December 2016 with the November election mixed in.
4. A 63-66% ultimate retracement of the previous bear market low by the end of the secular bear market. This equates to SPX 1150-1200.
5. Price drop of 27-52%. That's widely different but it gives us a range of SPX 1025-1550. Most people consider 1075 and 1576 to be critical SPX levels so that is the target bracket.
If we look at the year 1968 and 2000 examples which also initially retraced 80%+ like today, they both ultimately fell 36-38% in price which equates to SPX 1350 +/-. The historically magical 48% equates to SPX 1110. The year 1968 and 2000 examples both occurred early in secular bear markets and led to lows about 2 years later which is much slower than the other 2 examples.
Using the 2 most similar sample scenarios since year 1900 as compared to today, the projection would be...
1. Dow/SPX topped on November 3rd or may make one more slightly higher move not exceeding the May high
2. Dow/SPX will fall precipitously until June-to-December 2016 likely centered around the election in Oct/Nov.
3. SPX will fall to 1075-1576 likely centered around 1150-1250.
4. Dow/SPX will then chop around until year 2020-2021 likely retesting the lows of year 2016 in either year 2020 or 2021.
In summary, using the 2 most likely analogies above, SPX has (nearly) topped in November below its May high and should drop to 1150-1250 in Q3/Q4 2016 and then retest/break that low in year 2020-2021. If that occurs and SPX bounces as high as 1500-1700 in year 2017-2019, people might start to talk about the SPX 1576 high being a left shoulder with SPX 2135 being the head with an upward slanting neck line and potential triple top at 1553/1576/????. Then, SPX would likely retest the neckline and year 2016 low in year 2020 +/- with either a sharp quickly-reversed trip below 667 or a H&S fakeout as we've seen often in recent years either way forming the secular bear market low.
Although I previously argued that SPX could easily make new secular bear market lows in 2016+ below 667 and that is still a possibility, I also previously determined through my historical S2EW DRSI analysis that the year 2000 top was the heart of a multi-century wave 3 in which case the DRSI for year 2016+ wave 4 needed to approximate (without breaking by much if any) DRSI for the 1930s and 1970s wave 2s which meant Dow would likely need to close 2016-2017 at 9500-11000 (versus the 6470 low intra-year 2009). So, I could make expected DRSI for year 2016-2020 jive with the above analogies by having Dow close year 2016 around 10000-11000 and then bounce around that low until 2020 in which case the Dow intra-year low in 2016 could be near the year 2010-2011 lows of Dow 9600-10400 closing the year 5-10% above that. That would approximate the SPX 1100-1200 price region mentioned above. Bouncing around the lows for 5 years like occurred in 1977-1982 and 1938-1942 might be enough to get P/Es near or below the historic level of 10 which I previously posted has happened in most decades with the 1990s and 2000s being back-to-back exceptions helping support my theory that year 2000 was a multi-century wave 3 top.
If SPX follows a path similar to that described above, you will see 1553(year 2000)-->769(year 2002)-->1576(year 2007)-->667(year 2009)-->2135(year 2015)-->1100?(year 2016)-->1700(2018? with most of that in the first 6-9 month bounce into year 2017 using year 1938 and 1978 as examples perhaps on the hype/spending of a new president)-->600-1200?(2020-2021).
If SPX follows a path similar to above, it does not preclude the Fed from raising rates on December 16th, but it does suggest that the economy will be (or already is) in a recession and thus interest rates will likely be kept low near ZIRP if not back to ZIRP or NIRP. However, I'm not sure mortgage rates can realistically go much if any lower than their recent lows. I suspect the next real estate dip will not be as bad as the last one in terms of total dollars, defaults and surprises, but I do believe prices will fall lower than last time in most areas of the country that were largely unaffected (0-10% drops) the first time around. Boomers may accelerate the trend by attempting to sell their houses in retirement while prices are still high. That should finally bring real estate prices back in line with their historical averages if not temporarily below it and allow young buyers and families back into the market at reasonable debt-to-income ratios. The low interest rate environment and low real estate prices should be a great opportunity for long-term investors, businesses and new generations. And, that should support a launching pad for a better economy into the 2020s and early 2030s until China has its demographic peak as Japan reached in the late 80s and the USA reached in the 2000s. Hopefully our next president and Congress will also setup a better environment for taxes, business, healthcare and job opportunities to better take advantage of the next 2 more-promising decades. Good fortune.
P.S. In line with my short-term analysis yesterday, if you count today's drop as a wave 3 (of whatever) with the previous gyrations as 1-2-1-2, you should expect a drop to at least 2040 to make wave 3=1 and likely some Fib multiple of that ultimately making 2000-2020 a reasonable price range before a bounce into late next week's max option pain. Similar results if you count all the action thus far as a series of ABCs with today likely kicking off another zigzag with a further low(s) to come. The difference between the counts would be whether or not we get a retest of 2116 later in November or early December.
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