Gold's Big Fractal Fork In The Road Revisited

Back in 2010, I was following the fractal analysis of David Nichols on gold. He was a gold bull, but he was predicting the end of the gold bull market to occur around February of 2011. I was a gold bull too, so his prediction filled me with great consternation. I had been going over the past predictions of Nichols and knew that he was stunningly accurate most of the time, especially in the mid-range time frame of a few months or so. It made me wonder just what he was smoking. I studied the reasons why he was predicting the end of the gold bull in February - and found them to be very convincing.

I'm going to revisit what he was saying back then, and go over some additional fractal considerations I had found that gave me hope for the gold bull surviving past February a year ago. Allow me to excerpt two articles I wrote in 2010 "The 64 Month Bull Market Fractal" and "Gold Is At A Big Fractal Fork In The Road".

From the first article on the Nichols fractals:

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 Egyptian stock market 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. "

To see other examples of this 64 month parabolic fractal, just click the link above to the rest of the article. Nichols equated the end of this parabolic fractal to the end of a bull market. But I have found many examples where the fractal did not mean the bull's end - see article. Oil is one such case. Remember oil's recent parabolic run? It was from a sprout point in early 2003 going to the top in 2008, and it ran 63 months ! Does that mean we'll never see $130 a bbl again anytime soon? Don't bet on it. Bull markets can do the parabola fractal, cool down, then go into other forms. I show several examples of this in the article.

In September of 2010 when I wrote the above article, it certainly appeared that gold was going to be yet another case of 64 months, then a big cool down. Nichols portrayed the fractal thusly:



If you count out the months from a Sept. '05 parabola origin, you arrive at February, 2011, give or take a month or so. But as I pointed out, that end point for the gold bull creates a lot of misfits in the big picture. We are nowhere near the mania end of a parabola. Investor ownership of gold is still near historic lows, around 1% of assets, compared to historical norms of 5% or more. And as I complained in 2010:

"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?...

In a September, 2007 statement, he [Nichols] says, "The most important investment theme for the next 10 years will continue to be the frenzy for tangible, hard assets ... and the best market to take advantage of this monumental trend is gold."

So here is where a fork in the fractal road is developing. Those of us who see a continuation of the currency/demand induced commodity bull market for years may have trouble digesting the 64 month bull market fractal that Nichols has recently posited as beginning with the parabolic sprout in September 2005 and abruptly ending in February 2011. It's enough to give a fiat money hater indigestion. In my article linked above on the 64 month bull fractal, I point out the amazing prevalence of this fractal - it's everywhere. And gold is showing all the signs of following this pattern. So do the world's debt and currency problems all go away over the next two months? Does the commodity bull cycle suddenly end now? Has Nichols changed his mind about the investment theme for the next 10 years? In 2008, he stated "this bull market in gold should last for many more years." His 64 month gold fractal seems to contradict this...

So what right does this fractal stuff have to upset the applecart of sound fundamental considerations? Maybe we should just forget all about this fractal hocus pocus. Well, not so fast. Nichols seems to have only recently stumbled upon the 64 month thing. But just maybe there are other scales of this same fractal out there that we should be thinking about.

First, you have to consider the basic structure of this fractal. It is composed of two parabolas separated by a distinct downtrend phase about midway. For examples, look at the currency parabola of 1920s Germany and the stock market of Denmark in the 90s: (click on charts to enlarge)




The shapes of the components vary, but the structure keeps recurring with the downtrend in the middle being a year or less with the overall time within a couple months or so of the 64 months. This is by far the most common scale of this fractal. But it does seem to occur in other sizes. There is a 3 year version. As examples of this, look at Homestake Mining, the premier gold miner of the '30s, and the Brazilian inflation of the early '90s:



These fractals do the same thing in different scales. That's what fractals do. They are all different with the only common denominator being that all the main components are sized proportional to the overall size of the fractal. The 3 year mid-course downtrends are small, less than a year, and barely noticeable; but they're there and much more clearly seen in the amplified versions of this fractal.

Could it be that there is a much larger scale of this same fractal that gold may actually be following in lieu of the common 64 month size? Does such a thing exist? It very well may. Look at these examples: the Thailand stock market of the late '80s and early '90s



The large size seems to cluster around about a 9 year length with everything scaled up including the variance on how long it runs and the duration of the downtrend in the middle, which runs around 2 to 3 years. The next example is the stock market of Turkey



This 9 year iteration has the mid-course downtrend run a whopping 3 1/2 years. This is also an example of a parabolic rise not meaning an end to a bull market as is commonly thought. The Turkish market could hardly be considered busted when the parabola was over. The next king-size example is the Australian dollar



Given that the downtrend size in the middle ran a little over 2 years, you get the impression it wanted to run to more like the 9 year length before being interrupted by the end of the world in late '08.


... the Swiss stock market of the '90s



There is one other pertinent example of the large version of this fractal, and that was gold in the '70s. It featured a two year downtrend in the middle in 1975 and 1976. The length of this downtrend is about the most reliable predictor of which scale fractal is being carried out. The distressed buy and holders of gold during those two years would like to have known this basic fact back then. Well, we here in 2009ville know. This time around, the mid course downtrend gauge has been completed as of a little more than a year ago, and it was nearly two years, suggesting that it is indeed the large scale fractal we are in, replicating the previous gold bull"

It's been a year now since the fork in the road was encountered, and it appears the larger scale fractal is what we are in. We are tracking the second of the twin parabolas. This was the projection I was making back in 2010. Here is a closer look at what gold has done:


One thing that strikes me about this fractal thing is that it projects exactly the same thing for the future of gold that Jim Sinclair does, as my my article on his model details. Jim Sinclair does not base his highly accurate projections on fractals, so these are two very independent means of analysis pointing to the same thing for gold - the high road.

Performance Check Of "Good Stock Investing"

Back in 2009, when I started this blog, I posted that:

A primary purpose of my blog will be to present posts on individual stocks. Sector and overall market thoughts I love to research and write about, but I'm mainly a bottom up stock picker. I am trying to become a better market direction analyst, because, as Cramer often says, half a stock's movement is usually just its sector movement.

What I'll be presenting is for "informational use" only as the paranoid legalese disclaimers stress (Do read the Terms of Use Agreement on this site if you can stay awake to the end). I am not acting as anyone's financial adviser with this web site, because the role an adviser fills is to manage risk level between investments and an individual. You could be in a heap of trouble if you rely on me for that!

Well, I haven't been writing much on individual stocks lately, so let's focus on that for a moment. First let me say that I've instituted a ban on stocks domiciled in China. Jim Cramer has brought this point out on his Mad Money show repeatedly. He categorically refuses to endorse any China stock except for BIDU. I feel the same way, only I don't even favor BIDU. Cramer says they don't do accounting and reporting the same as the rest of the capitalized world. Without going into detail, he simply says things to the effect of "I don't trust their numbers". Well, I go a lot by cash-flow numbers, and I just don't think the China stocks behave the same as our stocks do around reported cash-flow (or other numbers). I don't know if this is by fraud or just doing things differently or what, but they seem like a different animal to me. And technically, they behave differently also. So awhile back, I banned all stocks that do reporting out of China. I've posted on 3 or 4 of them in the past, but I'm going to look at just all the American stocks.

ETFs are fine with me. They are the best way to invest in commodities, two of which I love - sugar and gold.

The following list of 25 positions are 20 stocks, 2 ETFs, and 3 stocks from my Instablog at Seeking Alpha that aren't here at this blog.

POSITION, WRITE-UP DATE, VALUE OF $10K INVESTED, RETURN, HOLD (YR)

LABL Multi-Color Corp. 7/27/09 $15525 +55.2% 2.4
KSW KSW Inc. 8/04/09 $12057 +20.6% 2.4
WRLS Telular Corp. 8/18/09 $26746 +167.5% 2.4
HW Headwaters 10/16/09 $6298 -37.0% 2.3
MSN Emerson Radio 12/14/09 $8900 -5.4% 2.1
NGD New Gold 12/30/09 $32800 +228.0% 2.1
VSEC VSE Corp. 10/11/09 $6635 -33.6% 2.3
AZK Aurizon Mines 11/13/09 $10957 +9.6% 2.3
GLD gold ETF 7/05/09 $18555 +85.6% 2.5
SGG sugar ETF 6/21/09 $17917 +79.2% 2.5
TAYD Taylor Devices 5/15/11 $18833 +88.3% 0.7
SLP Simulations Plus 9/01/10 $16774 +67.7% 1.4
SFEG Sante Fe Gold 10/11/10 $9100 -7.0% 1.3
ARMH ARM Holdings 7/01/09 $48804 +380.3% 2.5
CROX Crocs Inc. 1/15/10 $29611 +196.1% 2.0
RCKY Rocky Brands 3/23/10 $12734 +27.3% 1.9
KBX Kimber Resources 4/09/10 $9339 -3.8% 1.8
MFRI MFRI Inc. 4/15/10 $10098 +0.5% 1.8
MTW Manitowoc 1/08/10 $12481 +24.8% 2.1
PZG Paramount Gold and Silver 12/24/09 $17230 +72.3% 2.2
BOOM Dynamic Materials 12/24/09 $11896 +8.2% 2.2
XPL Solitario 12/18/09 $8000 -20.0% 2.2
CGC Capital Gold 12/09/09 $45700 +357.0% 2.2
JBSS John B. Sanfilippo 11/20/09 $7897 -21.0% 2.2
PLM Polymet Mining 4/9/10 $4710 -52.9% 1.8
_______ _____
+67.9% ave. 2.1 ave.

The average result so far is + 67.9% with average hold of 2.1 years. The S&P 500 by comparison since late 2009 is up about 25% over that time frame.

I used to be a big bull on anything oil related starting back in 2004 when nobody believed us peak-oil nuts. But nowadays oil is at a level where it has a built-in brake against much further advance - it's called demand destruction. As oil goes much above the Brent $120 area where it's at now, it starts to smother the economy. The only good performance you can expect from oil at this stage is from geopolitical mayhem or short-lived, dangerous demand spikes, both of which are unpredictable. Like all commodities, the best strategy is to buy the massacres.

There is an energy area that I like and that is the natural gas pipeline MLPs. I think we're starting a huge, steady, and stable growth of nat gas replacement flows supplanting oil, coal, and all the other problem fuels for everything including transportation as we go past conventional crude's peak. The cash-flow rich and high yielding nat gas "toll booths" like Kinder Morgan Partners KMP will prosper, and they have the added benefit of climbing back hard after any market shocks. And we'll have some. The market shocks are where these should be bought.

If you don't like the outrageously complicated tax treatment of limited partnerships, you can do away with that and individual company risk with two new ETFs that track these stocks. They are Alerian MLP (AMLP) yielding 5.94% and SteelPath MLP (MLPFX) yielding 6.27%. I would wait for the next thrashing of the market to think about buying them.

Another area that will likely outperform is the smartphone revolution. I've been harping on this theme with multiple articles since August, 2009. A very prevalent view back then was that smartphones were already baked into the market, but Cramer said the market was underestimating the "tsunami" as he called it back then, and I agreed.

Well, the smartphone revolution is proceeding. They are evolving from an expensive toy to a staple like a bar of soap. And stocks like AAPL are now behaving less like a risky tech stock and more like a utility, nearly impervious to market mayhem. But is that really making for an out-performance story in the related stocks? Cramer is pretty tech savvy and picking the good tech stocks was one of his strong points as a fund manager. So when he instituted his Smartphone Index on his Mad Money show 8/12/09, I was interested. He picked out 21 names, and I puzzled over why he didn't include some. So I made up my "supplemental" smartphone index. I am a tech idiot, so I selected my stocks based mostly on current and past monetary performance first and speculation on detailed future product popularity second. Here's how they've done:

Original Cramer Smartphone Index

STAR +45.8%
TLAB -33.9%
ADCT +81.4%
CIEN +41.7%
TKLC -32.1%
CTV + 21.2%
QCOM +45.3%
BRCM +39.6%
NETL +150.0%
XLNX +82.0%
SWKS +126.4%
RFMD +8.9%
ONNN + 22.1%
CY +75.2%
TSRA -23.1%
SNDK +181.2%
CSCO -4.8%
GOOG +34.2%
RIMM -79.2%
PALM -62.0%
AAPL +204.2%

___________
+44.0% ave.




My Supplemental Smartphone Index

LLTC +38.8%
WRLS +294.5%
ARMH +361.7%
OVTI +29.2%
AKAM +199%
CREE -8.5%
ERTS -16.7%
STX +124.2%
__________
+115.3% ave.

Cramer has rotated stocks in and out of the index since this original list (some were bought out). I took the liberty of tossing the China domiciled names from my original list (CHU, SYNA, CHA, NTE) but the others are unchanged. I don't even know the current make-up of Cramer's index, but I know he added ARMH quite a while back. If you take the combined index of all 29 stocks, you get an index up 63.7% since August, 2009 vs +47.6% for the Nasdaq. If you want an even more diversified approach, there is a smartphone ETF introduced early last year (FONE) with some 70 stocks in it. The smartphone revolution will probably continue to offer out-performance.

The Slow Train Wreck Difference

In two earlier articles (The Market Technicals - Get Back In The Water? and The Fear Roller Coaster - Are We There Yet?) I pointed out some striking similarities between now and mid-2008 - the lull before the annihilation. Here, I'd like to add some more similarity, but then consider a major difference.

Technical formations have predictive power because they resolve themselves up or down at a rate much better than 50%. How useful they are depends on how far away from 50%. The head and shoulders formation, for example has about a 65% success rate for predicting a trend change. One of the formations with the highest success rate is the descending wedge at about 90%. This is a bullish signal where a quieting down trend breaks strongly to the upside. If you apply it to the VIX, the market's fear index, you get another bullish signal (bearish for the stock market).

If you look at what the VIX did during 2008, you see not one, but two descending wedges:



The formation was 2 for 2 over this time with both breaking sharply to the upside. Both ran the VIX briefly below the critical 20 level that typically divides bull from bear markets, but it couldn't stay there for long. And they both dropped the VIX below the 140/200 day ema moving average pair for a short time and induced a negative divergence between them.

So what's the VIX doing now?



Egad ! The very same thing. We're definitely in a descending wedge and it has put us below a VIX 20 and the moving average pair. So are buyers of the present rally chumps being set up for the kill? Is it the end of the world again once this formation breaks?

Well, let's just curb our apocalyptic fervor. The market is way overextended on the upside and a correction is likely not too far away. But there are powerful fundamentals at work that make now much different than 2008. There is the basic and powerful economic cycle that tends to overrun a lot of other concerns. In 2008, it was on the downside. Now it is going the other way, albeit in a very subpar recovery so far.

But maybe more important than that is something that Michelle Caruso Cabrera of CNBC points out about the European banking crisis, which presumably would be the catalyst for another end of the world sell off. She is CNBC's guru on the scene in Europe, and she calls what is happening there now a very slow train wreck version of the very fast and surprising train wreck that hit the US in 2008. And Jim Cramer has said that, even though half-measures being implemented, the kicking of the can down the road, is reviled by us all, it buys time for the banks to collateralize and capitalize and do whatever needs to be done - critical time that they did not have in 2008. What made the sell off of 3 years ago so bad was the prospect of a lockup of the financial system, but now the Germans and others have made it clear that they will print money as needed to prevent that.

A market correction is very likely soon, which will break the wedge on the charts and carry out a repeat of the downturn, but how severe that downturn will be is very uncertain. That will all depend on how well the banks and governments in Europe are using their time to ready themselves for defaults, CDS kick-ins and who knows what. The shape of the upcoming correction will give us a clue as to how severe it will be. As in May of 2008, we now have poked our nose above the 140 day ema, but the turn out of the first VIX wedge back then sent the S&P decisively back below the 140. If a correction now looks to be holding near the 140 nicely, then we may have some clear sailing ahead. It would be a very positive sign for the market.

But if it breaks strongly back below the 140, batten down the hatches. Europe's troubles don't seem to matter lately, investors are fatigued with it. But in the next major correction, they will revisit what they're doing over there, and if they like what they see, we may derail from the 2008 path to apocalypse - the slow train wreck difference. A sell off to a little below the 140 on the Russell would be your 10% bull market correction, so how the next significant downturn behaves around this critical moving average pair is going to be critical. One should be cautious until then.

Safe Haven Confusion And Gold

Ever since the 2008 credit crisis sent droves of investors diving into safe havens, there has been much disagreement on just what is a safe haven.   Real estate has always been a nice alternative to the other markets, but lately it's been the genesis of all our other problems.   Bonds have likewise been the alternative to a shaky stock market, but now bonds are a dirty word, being the embodiment of the dirtiest word of all - debt.   Then there is gold. But the '08 credit scare smacked it around alongside everything else, except the US dollar.

So is the USD, the traditional safe haven, the one to turn to now?   It is the world's dominate reserve currency.   And even though "currency" is something of a dirty word now, isn't the USA and its currency the prettiest pig in the pen?   There are detractors of the USD who point to things like the Swiss franc because Switzerland has little of the debt issues of the US, Europe, or about any other major currency printer.  Currency in general is an attractive safe haven because of its relative stability.  If it goes the wrong way, you won't get hurt too badly.

Just perusing some actual headlines over the last couple years or so, I get dizzy following the fingers pointing me to a safe haven:

"Is Gold Now The Last Safe Haven Standing?"
"Gold Squashed By US Dollar Safe Haven Buying"
"Swiss Franc Is Now A Cheaper Safe Haven"
"Neither Gold Nor The Swiss Franc Retains A Safe Haven Status"
"The Dollar Has Become The Currency Of Last Resort"
"US Dollar Losing Safe Haven Status"
"Gold Not a Safe Haven - Don't be Fooled"

 It makes my head spin.

OK, let's think about this logically.  Or would that be our first mistake?   Whether it's logical or not, gold has to be considered a currency.  While most of gold's demand is jewelry, the thing that moves the price needle in times of investor upheaval is investor demand.   Despite Ben Bernanke's congressional denial, gold is money, which is why banks and governments hold it in reserve instead of, say, aluminum.   The US dollar index is a measure of the US currency strength relative to a weighted basket of 6 competing major currencies.  To be fair, gold should really be included among the dollar's competitors.  Instead, the euro is given a whopping 58% weight in the basket.  Can you imagine what the dollar chart would look like if you substituted gold for the euro at a 58% weight?  It would be one ugly chart indeed over the last 10 years.

If you grant the US dollar the position of safest paper currency in the world over the last 40 years, and I think even the current detractors of the greenback would do that, then what would happen if you compared it one-on-one with gold as an event safe haven?  If you were to construct a chart of all the modern stock market scares, defined as those events which ran the market's fear gauge, the VIX, to values over 40, and looked at the US dollar index performance relative to gold over the time frames of the debacles, what would be the safe haven score between the two?   This would be strictly a currency comparison - the best of the paper issues versus the metal one.   But since currency is usually the most stable of all the other safe havens, even real estate, art collections, or what have you, this would be a track record of the best of the best of the safe havens.   Here is what such an ultimate safe haven chart would look like: (click on image to enlarge)



There was no VIX back in 1973, it was invented in the '80s.   But if there had been, it almost certainly would have run to well over 40.   So I have awarded it an honorary position on my chart of debacles. The '73 bear has only been equaled by the '08 horror.

So this is a Dodge City salon brawl between all the safe haven contenders, and it makes me wonder where the dollar's title of "chief safe haven" comes from. Granted that its -3% average over the 6 stock market dives isn't bad, but wouldn't gold's +39% have to be considered better?   You could say that gold is undependable because it goes through bull and bear markets.  But 2 of the 6 cases above were during bear markets in gold, and gold still outperformed the dollar.

Investors fairly new to the market may only remember the '08 crisis and how gold was shaded by a nice climb in the dollar.  But over the course of this huge decline in stocks, gold actually winds up even - about what the dollar's long-term average is.   So gold's worst showing roughly equals the dollar's average.

This anomaly of 2008 may not be easily repeated.   This scare event was about a liquidity lock-up and a systemic failure.   So gold, being less liquid than dollars to buy a hamburger with, was dissed in favor of dollars.   We have a repeat of this banking crisis in Europe now, but this time it is a very slow motion train wreck in lieu of the very fast motion surprise version of '08.   Now the banks are collateralizing and capitalizing as we kick the cans down the road to buy time and embark on a print-money-as-needed policy to slow down the train wreck to a case of stagnant economies and who knows what, but maybe not a repeat of the '08 horror.   This may return gold to its more typical safe haven behavior as it did in the August 2011 case.

This chart also shows another major consideration.  It pits a safe haven that has been outperforming paper currency over 40 years of sound money against a safe haven now frenetically being debased with the printing press.   If gold has been the better haven in the past, when we had sound currencies, it certainly should be in the future, when we probably won't.  Yet we see an exponential rise in dollar safe haven trading matched only by the exponential rise in the supply of dollars.   Compare that with the flat gold production numbers we have in the world today.  And the FOREX market cap dwarfs the stock market and even the bond market, with the entire gold industry market cap less than that of Walmart!

Investors diving into the dollar for safety from today's problems is like Dorothy diving into a windmill to escape the approaching tornado.  If there is ever a radical reallocation of the flight to safety trade, market cap-wise, it will be like pouring a bucket into a thimble - potentially explosive for gold.

This radical reallocation is foreseen by many analysts, like Simon Black of Sovereign Man:

Dubai, Greece, Latvia, Ireland, Spain, UK, etc. all give investors a lot of reason to worry. Ironically, when things get really bad in the rest of the world, investors rush into the US dollar as the ultimate flight to safety.  I know I don’t have to tell you that this line of reasoning is utter nonsense. Institutional money managers realize it too– the prospect of loaning money to the largest debtor in the history of the world for 30-years at less than 5% is certifiable lunacy.

With a stable currency like we've had for 40 years, the above graphic shows gold to be the superior safe haven.   If we get the kind of currency meltdown many predict, we could see a radical improvement in gold's already best-of-the-best safe haven status.   As Simon Black goes on to say:

In a flight to safety, institutional money still flows into the dollar.  Gold will not truly break out until there is a bifurcation in investors’ mentality regarding safety.  To put it more clearly, when worried investors start piling into gold instead of the US dollar to protect their assets, this is the sign that we are charging towards the top.  For now, it’s not happening yet

But what if it is starting to happen now ?

The Market's Technicals - Get back In The Water ?

The current condition is, in a word, seductive. We have drifted back up from the volatile, scary days of August. Europe is taking measures, albeit can-kicking measures. The US recovery is bumping along, albeit a grossly sub-par recovery. If we are to believe the government's figures (a big if) unemployment is going down.

But there are disturbing signs emerging that the main horror show is yet to be. Before I get into the charts, consider this basic fact. We have been in a "recovery" for going on four years now. In this day and age, four years is actually more like the lifespan of an expansion and a bull market. As I pointed out in my last post about the fear roller coaster, there is a striking similarity between the end of the 2003 -2007 four year run and the 2008-2012 version. If we are in a post debt bubble adjustment period, maybe 4-5 years is all the shelf life we should expect from a bull move - like the 1932-1937 five year bull phase.

Now to the charts. And they certainly agree with this notion of an expiration date of a four year run. In the roller coaster piece, I outlined the larger scale fractal nature of the 2003-2007 period and the 2008-2012 approaching period. Now let's zero in on a more detailed technical view of now compared to 2008 (click on image, right click on image then select "view image" then click to magnify)


As you can see, there is an astonishing similarity. This similarity takes on more significance when you consider that it is in response to very similar market dynamics. In 2008, it was the US banks and their ability to function. Now it is the very same thing with the European banks, who throw around about four times the money of the US banks. But then, these banks are so interlinked, that distinction may be muted.

The main technical feature of 2008 was the large head and shoulders top that was put into place, then the intense, VIX spiking selloff coming off the right shoulder of the top. As we technical types like to say "volume tells the truth" and this selling told no lie about the future direction of the '08 market. We had the very same ultra-high volume with the August selling, and it moved us through a critical break of the neckline of the head and shoulders top.

That in and of itself often can be misleading, as in the case of the mid 2010 weakness where everyone was watching the head and shoulders formation there, and we got a break of the neckline and massive shorting, followed by much covering. But this break was not accompanied by the kind of volume increase in the above charts, and it also did not lead to the 140/200 crossover, which doesn't happen that often and most usually has much follow through in a major trend change. We have seen both of these conditions with the 2008 neckline break and the current one.

What we have going now is a critical test of the broken neckline as resistance. This is typical and it took place in 2008 in May through June. It is happening now starting in November. Note how closely the two above charts match in the time frames involved. This means that we are now at the June '08 juncture and we're beginning to walk through the valley of the shadow of death - a time span of about three months. We will either break away from this course soon or complete it.

Until we know which it is, a very defensive portfolio makes sense. This could be a huge overweight in cash, with a core holding of gold that you don't trade, and not much else, except maybe a little VXX, the volatility ETN, which would go ballistic in another '08 style event. Or, it could mean a line-up of mainly very high yielders, the natural gas pipelines, utilities, and such. But keep in mind that these will get hit in another steep selloff - they just recover more quickly and more surely than the other stocks, but they will get hit. A large cash stash waiting to buy these brief low points would be better.