Sunday, March 18, 2012

A Tale of Three Camps

As we approach an important juncture in the form of a business cycle high point in June 2012, virtually everyone has taken one of three positions concerning the road ahead for the stock market, economy, and the job market. The size of the three camps has been changing over time as sentiment rose and fell over the last three years from the March 2009 low.

Here are the three camps and their general positions on the road ahead for the stock market, economy, and the job market.

Bulls ---  This is the largest of the three camps. Most people have an optimistic outlook on the future of the stock market, economy, and the job market. With the DJIA back above 13000 and the S&P 500 back above 1400, exuberant optimism has returned with fervent calls for more bull market, more economic recovery, and more job creation. We are already at a juncture where many optimistic people are making large extrapolation leaps, such as an analyst calling for Dow 116,000 (!) on market watch, and economists raising their expectations for economic growth for 2012, as well as increased expectation for acceleration of the job creation rate in the job market.  As the stock market continued grinding higher on weakening fundamentals, people continued to get more and more bullish. People are now much more bullish than they were at the peak of the Supercycle degree advance in 1929.

Hyperinflationists --- The majority of people that believe that the worst is yet to come are forecasting hyperinflation. The premise of the hyperinflation scenario in the eyes of most people in this camp is that the Federal Reserve continuing to print money and the Obama Administration continuing a policy of stimulating the economy with more and more debt will eventually push the United States past a critical tipping point and usher in hyperinflation. The organization National Inflation Association is well known for its hyperinflation stance, but there are many others as well. Most of the people in this camp are expecting hyperinflation to start no later than 2014.

P3ers -- There are a handful of people in this camp. The "P3ers" name comes from the the super bearish stance that many people familiar with the Elliott Wave Principle have -- that the stock market is tracing out a supercycle degree expanded flat with Primary wave [3] down just around the corner, with the expectation that the markets will unravel at a very fast clip once the bear market rally is over. This camp peaked in size in October 2011 as the DJIA hit a low of 10404 for the year after falling from 12876 at the May 2011 peak. Even the majority of super bears that are not familiar with the Elliott Wave Principle are still expecting the markets to unravel at a very fast clip when a sovereign debt default occurs in Europe.

There are issues with all three of the positions, as can easily be demonstrated:

Bulls -- While the stock market, economy, and job market appear to be healthy on the outside, there is a lot of rot on the inside. The rally from the March 2009 low is not confirmed by the DJIA / gold ratio (the stock market in terms of real money), and the rally continues to unfold on decreasing volume and decreasing momentum. While the economy appears to be healthy on the outside (nominal GDP has been rising since August 2009), economic output has actually been declining in real terms since the peak in 2000 (see this chart) since the rise in nominal GDP reflects the devaluation of the dollar as well as a phenomenon known as Pollyanna Creep. While the economy appears to be creating jobs again and the unemployment rate appears to be falling, the improving job market numbers are almost entirely due to the Obama Administration cooking the books (much like the phony Texas Miracle in which the Rick Perry Administration cooked the books in Texas), the internals of the job market as shown in a Business Insider article show that the "recovery" in the job market is a phony mirage. The actual unemployment rate in the United States is 23% according to information on Shadow Government Statistics, with the unemployment rate at 20% at the start of the Obama Administration Period.

Hyperinflationists -- While the actions of the Federal Reserve and the Obama Administration appear at a first glance to be sowing the seeds of hyperinflation, it is important to recognize the difference between currency inflation and credit inflation. The well known hyperinflation episodes, such as the Weimar Republic hyperinflation from 1921 to 1924 and the Zimbabwe hyperinflation in 2008, were all fueled by currency inflation. Inflation in the Western World (not just the United States) at the present time is fueled by credit inflation, and the US dollar is actually backed by debt. There is an over-bloated credit bubble that is now 38 years old. The bursting of credit bubbles lead to deflation.

P3ers -- While there has been fast market declines in the recent past (such as the Great Depression, where the DJIA fell from 380 to 41 in just 3 years), a 4000 year historical perspective indicates that it is generally unreasonable to expect the markets to crash in every instance that a bear market of Supercycle or larger degree unfolds. The Great Depression was exceptionally brief as far as depressions go, history tells us that depressions generally last around 15 - 25 years. The major depression of 1720 to 1784 (Grand Supercycle wave [II]) turns out to have a relatively short duration for the type of correction, as history tells us that major depressions usually last 80 - 120 years.

There is much to be said about "The Great Deflation" and its expected duration. Elliott Wave International originally expected "The Great Deflation" to end in 2016 with the forecast made in 2008 after the markets peaked in 2007 with a downside target of 400 - 1000 on the DJIA. The scenario would have been plausible had the bear market rally ended in April 2010, which would have given 6 years to complete the rest of the five wave decline from the 2007 peak. The bear market rally is now 3 years old, which all by itself is enough to make the continuation of "The Great Deflation" beyond 2016 inevitable. Four years is not enough time to complete Primary wave [3] down of an expanded flat, much less complete the rest of the five wave sequence from the 2007 high.  The issue here is the duration of "The Great Deflation" as forecasted by Elliott Wave International back in 2008. The house of (credit) cards is too big to completely collapse by 2016 even if the collapse were to start now.

The P3 scenario (as proposed by Elliott Wave International in 2008) was effectively voided when the DJIA took out the May 2011 high (of 12876) earlier this year.

I propose that the markets are telling us that "The Great Deflation" is unfolding as a multi-decade period of gradual and steady decline in the stock market, economy, and the job market with a complex topping process unfolding at the present time. At the climax of "The Great Deflation", the DJIA will be at around 550, the (actual, not official) unemployment rate will be around 60% in the United States with similar numbers in Canada and Western Europe, and real economic output is expected to be at 1930s levels. As per the main wave count, the climax of "The Great Deflation" will be in 2042.

Here is the main wave count showing all of "The Great Deflation" period:

Here are three charts showing the top alternate wave count. This count also has the low point of Supercycle wave (a) in 2042.

Top Alternate Count -- Next 12 months:

Top Alternate Count -- Next 4 years:

Top Alternate Count --- 2000 to 2042:

It is still possible that Supercycle wave (a) is unfolding as an expanded flat, as originally proposed by Elliott Wave International in 2008. However, the expanded flat scenario is an alternative scenario at this time. If the expanded flat scenario is in fact unfolding, it will still take much longer than originally forecasted to reach completion.

Here is a chart showing the expanded flat scenario. The low point of Supercycle wave (a) would occur in 2030.

The difference between the main wave count and the expanded flat scenario is when the bottom falls out. In the expanded flat scenario, all the bubbles would likely burst all at once around June 2012. In the main wave count scenario, only 1 or 2 bubbles would pop in June 2012 and the last of the bubbles would pop in 2021. There are 8 bubbles at the present time according to "The Bubble Bubble" blog which has news on all the bubbles.

All three wave counts call for a multi-decade period of gradual and steady decline in the stock market, economy, and job market with the climax most likely reached in 2042, but not earlier than 2030.


  1. Hi. I really enjoy your work. What do you think about an expanding triangle since 2000?



    1. The "expanding triangle" would work if it is a megaphone pattern.

      A megaphone pattern is another possibility. In that scenario, markets would hit new all time highs in nominal terms sometime in late 2012 to early 2013, but fail to do so in terms of real money (gold). After the megaphone is completed, then markets decline in nominal terms for the next 18 - 30 years to the downside target outlined in the charts above (Dow 550 and 42 SPX).