Tuesday, October 27, 2009

Correction-less Rallies

Great report from Ciovacco Capital Management. It shows that bull market rallies from corrections of 35% or more tend to last alot longer then most people think. In fact everybody clamoring for a market correction of 10% have been amazingly off based from the historical norms. Clearly a correction for corrections sake isn't how the market works.

On average the market rallies 270 days or nearly 9 months after a major correction in the markets crosses back above the 200 MA. This means that the rally will last at least until early spring as the SP500 didn't cross back above the 200 MA until July 10th meaning the rally has really just begun. It's important everybody catches that part. Its not the market low of March 9th, but rather the point where the market became technically strong by crossing the 200 MA.

Probably the most likely comparison was the 1942-43 rally that lasted a whopping 372 days. In a lot of ways this economy has been compared alot to the depression. Since we never reached a depression level, the rally will likely not last as long, but could still easily hit the 2nd longest so somewhere between 328 and 372 days.

Its also worth noting that of the 4 historical examples that exist, the first significant correction began in either early spring or mid July. A couple of reasons probably lead credence to this outcome. First, taxes must be paid in April so its not odd to see the market rallies end because of forced selling to pay taxes. The '71 and '04 rallies both ended in the March/April time frame. Not to mention that the great internet bubble ended right around tax selling time. Might not be as likely of a scenario if most people won't need to raise cash from tax gains created in '09. Second, the major rallies in '43 and '75 both broke down in mid July. Typically traders head to the beach come mid summer so the markets might have been hit by traders cashing out positions before heading on vacation. The path of least resistance would've been down after such long runs.

So for the market to correct now, it would take historical prescience. Now that's highly possible with the market especially when a theory becomes common knowledge and everybody tries to game it. In this case, as we reported earlier today most of the top analysts are bearish on the markets hence giving more validity that the market will continue to rally into year end. The rhyme of history predicts it as in all 4 cases the market holds its gains way into the next year either spring or mid July.

Maybe history won't rhyme this year but with money managers chasing performance and tax theory always suggesting that investors wait until next year to cash in gains it very much backs up the theory of a correction-less rally. Now if it becomes certain that capital gains taxes will indeed increase in 2010, then that might throw a curve ball encouraging more sales in '09. If not, investors will hold gains into '10 and depending on the level of market gains will either cash in to pay taxes in the spring or they will likely hold until vacation time.

Regardless, it's definitely a buy the dips market until the spring until the trend breaks.

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