Tuesday, September 28, 2010

The 64 Month Bull Market Fractal

I don't know how familiar you may be with the emerging science of fractal market analysis, but there is an element of it that has a direct bearing on gold right now. To briefly overview fractals, they have found that stocks and indexes have a strong tendency to move in repeating chart patterns at various scales (self-similar, they call it). So a stock may consistently produce say a 2 year pattern which is also evident at a 2 month time frame. Sounds silly, I know. The theory is that there are well known fractal growth patterns in nature, crystals growing under a microscope and about any basic growth in nature; and these are abundant with self-similar, geometric, repeating patterns. They've known about these nature patterns for many decades, but only recently has anyone thought that financial markets may grow by these fractal patterns too. When they investigated, they found that the unchanging human nature did indeed infuse fractals into the trading charts.

David Nichols, a pioneer in this investigation, finds that there is a 64 month parabolic fractal signature that seems to show up at about every major bull market. The duration varies a couple months or so, but the pattern is a "sprouting" of a parabola, a bullish change in previously sleepy trading, followed by parabolic growth into a violent top about 64 months later. As an example, he points to Toll Brothers as a proxy for the housing bubble (click to enlarge charts):

The months are marked 1 through 65 for the parabolic progression. The Japanese Nikkei bubble of the '80s did the same thing:

I won't flood this piece with the other charts, but the same thing shows up in the Dow of the 1920s, the Nasdaq of the 1990s, and other bull markets. It also shows up in the more notable bull crazes of individual stocks. For example, Intuitive Surgical ISRG was such a craze:

Here the "sprout" of the parabola was a subtle change in trend from sideways or down to up.

Then there was Hansen Natural HANS, remember that hot potato?

Like the Nasdaq chart, the gain was so dramatic, you have to magnify the start point area to see the "sprout" point:

So what does all this have to do with gold today?

Nichols reckons the change in behavior "sprout" point as September 2005, although gold was already in an uptrend by then, but a very weak one. Since this chart was done, we have pretty much been following the fractal.

The end of this gold parabola is early 2011. This brings up some difficult questions. If the gold bull market is to end in 5 months, does that mean the entire commodities bull also dies in 5 months? It's hard to imagine a commodities bull without gold being a part of it. Do all the world's debt and currency problems go away in the next 5 months? That would be nice, but I somehow doubt that will happen. The hard assets/paper assets cycle runs about 12 to 18 years; our present commodity cycle is barely 9 years old with much more paper difficulty lying ahead:

So how can it be that the 64 month gold fractal is happening now, ending in 2011 and disrupting the cycle?

I'm not a fractal expert, but it strikes me that the parabola is just a part of a bull market, and it can occur either in the middle or at the end. In the case of the Nasdaq and the Nikkei, it occurred at the end. In another case that Nichols points out, the recent oil bubble, you have to seriously doubt that the bull market is over. There definitely was the parabola:

The parabola is clearly history. Does this mean that oil will never be over $100 again? It has already gone back to over $80 during a recession and its aftermath. At some point in a recovering global economy, demand will begin outpacing supply as it was starting to do 4 years ago.

If you examine the Intuitive Surgical and Hansen Natural charts above, you see that once the parabola phase was over, pricing remained high - even making new highs. I suspect that this will be the case with both gold and oil.

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