Short Takes

Terms of Use

About Us

Client Update - Ciovacco Capital - Atlanta
Market Corrections and
Economic Cycles

June 23, 2010

The financial markets remain in a weakened-to-neutral state from a technical perspective (using charts and indicators). In fact, if we were a few years into an economic expansion and further along in an interest rate cycle, the market's current technical condition would be quite concerning. However, taken in the context of the early stages of an economic expansion and with interest rates basically at zero, the technical condition of the market may not be as dire as it appears.

An examination of market technicals should be done within the context of the fundamentals of the day. While it may not feel that way, we remain in the early stages of an economic recovery, with few economists predicting an imminent double-dip recession. Double-dip recessions are very rare. In fact, since World War II there has been only one double-dip recession (1980-1982). While there are similarities between the period 1980-1982 and today, there are also some very significant differences. The period 1980-1982 was marked by both high inflation and high interest rates. Today, we have low inflation and low interest rates, which are significant positives for stocks and risk assets in general. Inflation rates in the late 1970s and early 1980s were hovering around 10%, nothing like what we have in 2010.

Early Stages of An Economic Cycle

Using the Ciovacco Capital Management Bull Market Sustainability Index's (CCM BMSI) scoring system, we identified thirty-nine historical cases where the market's technical condition was similar to what we have today. Nine of the cases occurred in the early-to-middle stages of an economic expansion/interest rate cycle/market cycle. The early-to-middle stage cases occurred in 1991, 1992, 2003, 2004, and 2005. The table below shows the S&P 500's performance following a period of relatively weak technicals in the context of an early-to-middle stage of an economic expansion/interest rate cycle/market cycle. The results are encouraging for risk assets. Stocks were higher in all nine cases after three, six, nine, and twelve months. Patient investors were rewarded.

Stock Corrections - Early Stage Economic Cycle

Latter Stages of An Economic Cycle

Thirty of the thirty-nine historical cases studied, with a similar technical condition to what we have today, occurred in the middle-to-late stages of an economic expansion/interest rate cycle/market cycle. The middle-to-late stage cases occurred in 1981, 1988, 1990, 1994, 1998, 1999, 2000, 2006, and 2007. The table below shows the S&P 500's performance following periods of relatively weak technicals in the context of a middle-to-late stage of an economic expansion/interest rate cycle/market cycle. The results are still positive for stocks in the following nine months to a year, but the risk-reward ratio (R-R ratio) is not nearly as attractive when compared to the early-to-middle stage cases above.

Stock Corrections - Early Stage Economic Cycle

Our take-away is as follows:

  • The markets are currently weak and need to be monitored closely.
  • Even in the context of an ongoing bull market, further weakness in stocks is possible, especially over the next two-to-twelve weeks.
  • History says patience remains important since the odds continue to favor gains in risk assets over the next three-to-twelve months.

Decisions in the next two-to-twelve weeks will most likely be very important relative to full year 2010 performance. As long as the odds favor positive outcomes over the longer-term, we will make an effort ride out any future volatility. If the odds shift in a bearish manner, we will make principal protection a higher priority.

Additional comments can be found in Short Takes.

Chris Ciovacco
Ciovacco Capital Management

Stock Market Blog By Chris Ciovacco of Ciovacco Capital

Chris Ciovacco is the Chief Investment Officer for Ciovacco Capital Management, LLC. More on the web at www.ciovaccocapital.com

Terms of Use. The charts and comments are only the author's view of market activity and aren't recommendations to buy or sell any security. Market sectors and related ETFs are selected based on his opinion as to their importance in providing the viewer a comprehensive summary of market conditions for the featured period. Chart annotations aren't predictive of any future market action rather they only demonstrate the author's opinion as to a range of possibilities going forward. All material presented herein is believed to be reliable but we cannot attest to its accuracy. The information contained herein (including historical prices or values) has been obtained from sources that Ciovacco Capital Management (CCM) considers to be reliable; however, CCM makes no representation as to, or accepts any responsibility or liability for, the accuracy or completeness of the information contained herein or any decision made or action taken by you or any third party in reliance upon the data. Some results are derived using historical estimations from available data. Investment recommendations may change and readers are urged to check with tax advisors before making any investment decisions. Opinions expressed in these reports may change without prior notice. This memorandum is based on information available to the public. No representation is made that it is accurate or complete. This memorandum is not an offer to buy or sell or a solicitation of an offer to buy or sell the securities mentioned. The investments discussed or recommended in this report may be unsuitable for investors depending on their specific investment objectives and financial position. Past performance is not necessarily a guide to future performance. The price or value of the investments to which this report relates, either directly or indirectly, may fall or rise against the interest of investors. All prices and yields contained in this report are subject to change without notice. This information is based on hypothetical assumptions and is intended for illustrative purposes only. PAST PERFORMANCE DOES NOT GUARANTEE FUTURE RESULTS.