A Market Prediction for 2013
“History doesn’t repeat itself, but it does rhyme…”
In 1987, a documentary called Trader was broadcast on PBS. The film featured a then little-known trader named Paul Tudor Jones, the same Paul Tudor Jones who today manages more than $11 billion — over $3 billion of it his own money.
The video features Jones predicting the 1987 market crash by identifying important areas where the market lined up with previous time periods. You’ve probably heard the old quote from Mark Twain that history rhymes — well, markets do too. That’s the foundation of the technical analysis that we use to find trades, and it was the foundation of the hugely successful bets that Jones made back in the late ’80s.
Good luck finding a copy of Trader today, though. Jones reportedly bought up every existing copy of the film he could find, and very few copies are still out in the open. But having seen it, I can tell you that his approach then was a lot like what I’m about to show you now…
Before we get into that, it’s important to think about why the market would rhyme.
The Market’s Not Magic
It’s crucial to remember that the market isn’t magic — mysticism has no place in what we do as technical traders, so when the market lines up, we’ve got to ask ourselves why. The short answer is that markets tend to rhyme because buyers and sellers react psychologically to given market conditions in similar ways.
For instance, markets trend because when a stock hits new 52-week highs, every shareholder who bought in the last year is sitting on gains. As a result, the “back to even” mentality that usually fuels selling pressure isn’t there — everyone’s enjoying a year’s worth of upside.
So it’s not uncommon to see price action from two completely different time periods line up — especially in the very short term…
But when price action syncs up over the long term, it’s worth paying attention.
Take a look at the chart below:
This chart is broken up into two sections. Up top, there’s the S&P 500 index over the last year. Below it, there’s the S&P 500 again, but it’s shifted back by 450 days. At a quick glance, it’s clear that the key inflection points in both charts line up uncannily well.
How well? Let’s look at some of the big turning points for both of these charts (I’ll use the time axis at the bottom, but bear in mind that it applies only to the top chart):
- Both charts start out in a downtrend, bottoming in late September 2011
- They consolidated for the next month, and then moved into an uptrend in November
- The uptrend topped for both charts around June
- Both charts consolidated sideways through October 2012, bringing us to today.
It’s not just that the trends were the same — the major peaks and troughs in both charts trend to match up within a couple of days of one another. There are some differences, however.
The biggest is the magnitude of the moves. Looking at the bottom chart from last year, it’s clear that the pullbacks were bigger than their equivalent corrections have been this year. So while both are moving the same, we’d say that this year has better relative strength. That’s a good thing.
Why the 450-day shift?
With the “fiscal cliff” catching the headlines right now, there’s a big (no, a huge) parallel with the debt ceiling crisis that was going on late last year. So instead of comparing this November with last November, for instance, it makes sense to push back the calendar a bit further and match up the charts a bit closer to where the debt ceiling lines up with the fiscal cliff.
You can probably see how psychology would be similar heading into both crises. And in fact, the bottom chart has the end of the debt ceiling drama lining up almost perfectly with the fiscal cliff’s deadline at year-end.
If it all ended there, we’d just be looking at an interesting chart, nothing more. But what happens if we can spot important inflection points going forward? The dashed line in the top chart gives you an idea — a little more consolidation and then a rally.
We’re approaching the point that lines up with where stocks started on a large rally at the end of 2011. And yes, that lines up very well with the picture I’ve been painting for stocks over the last couple of months.
Obviously, these two charts aren’t going to match up forever. At some point, they’re going to begin to diverge enough that we’ll need to throw the relationship out. But for now, we’re in similar enough trading conditions to 450 days ago to warrant paying close attention to this relationship.
Like the dashed line in the upper chart shows, I think we can expect some sideways churning for the next month and change, followed by a distinct rally leg when the calendar turns to 2013…
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