A Market High is Nigh...But What Kind?

By Woody Dorsey  OCT 04, 2006 12:47 PM

What is this market phase? What kind of high is it?


What Kind of High Am I? 

I concur with many of you that a “High” is nigh. But what kind of High? The weekly chart below shows the Dow Jones (have you heard of that Index?) and a smoothed moving average of my firm's proprietary sentiment. What does sentiment tell us? Not that much. Sentiment is often generic rather than specific unless there is an acute emotum tell or a cohesion of other cognitive metrics. Technicals can often be more telling than Sentiment at this stage. Again, sentiment (or Psychology) is only one symptom of the market. We would all like to see markets top and bottom on the same levels of sentiment. But, sentiment levels, like stochastics or P/E ratios, are only data which always have to be interpreted. Quanta are less intelligent than Qualia. What is this market phase? What kind of high is it?

Observing the Phases of the Market

The market moves through a series of psychological phases. Market highs and lows are qualitatively different. Although current sentiment levels are similar to the levels at the May highs, the market is different. You know that. You feel the market. There is a more extreme set of divergences and a more dissonant euphoria. The final move in a market is the most difficult one for educated investors to accept. They know the end is coming and they are cognitively conditioned to fight the tape. They will of course be right but seem almost destined to be painfully early. My firm also had originally thought that the May highs were the terminus of the rally from the 2002 lows; but realized a month ago that the market was recycling up from the June panic lows and that May was only a momentum high or the end of the Discovery phase (see pages 103-104 in “Behavioral Trading” for a discussion of these phases.) Thus, the market has been and remains engaged in another, final rally which will satisfy an adoration or mania moniker. But this is nothing like the Mania of 2000! No it is not, but it is a similar phase on a different order of magnitude. The 2000 Mania was a major mania and this is a lesser or minor mania.

Investing According to the Phases of Psychology 

My firm is suggesting that the current profile is similar to the final trend up from the Fall of 1999. The market looked like it had reversed but it actually recycled back up and put on an “unbelievable” final rally. Note that many investors don’t believe in this rally either. A mania or adoration phase is usually “unbelievable.” The Seven stages of Bear Market Behavior shown below was our forecast from 9/28/2001. Understanding how psychological phases unfold can offer a unique perspective on the market. For instance, the understanding that the market had recycled up in an adoration phase can’t buy you some patience for now.

When will It End?

While the market is in a generic adoration environment, upside can continue. What we look for in this situation are timing factors that may isolate when Adoration will end. Given, the history of prior breakouts, seasonals and other architectural timing factors, we think there could be say 4-6 weeks to go. At any rate, Technicals may now be more telling now than sentiment. Actually, the ideal signal would be a price, sentiment and concept torque. That is, a dramatic and cohesive reversal of the triune(3 brained) bullish rationale.

How Can Humans Tell the High?

We humans can send a man to the moon, but we are far from understanding our own psyche or the markets. The “unbelievable” or, cognitively “unacceptable,” occurs more often than we expect. No one likes that. Stocks are in a silly season but we may loosen up and try to play along with it. What kind of high is it? It is an Adoration/Mania high. Do you believe it? Mr. Market may make a believer out of you yet. He doesn’t want to tell you about the high…at least not yet. That is his job. Let him do his job.
No positions in stocks mentioned.

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