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What Does a Stock Market Top Look Like? An 'Intermarket' Analysis

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The following excerpt from the newly republished book "Intermarket Analysis and Investing" explains what characteristics to look for from combined economic, fundamental, and technical perspectives.

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In 1990, Michael E.S. Gayed, my father, published Intermarket Analysis and Investing, which outlined how to integrate economic, fundamental, and technical trends into the investment process. By integrating all three types of analysis into a sensible framework, his book exposed the inherent shortcomings of relying too heavily or exclusively on any single approach. Each school of stock market analysis is thoroughly examined so that the reader can understand each method and how they interact with other approaches.

The book has been out of print for over two decades, but I've spent the last year working to get it re-released for readers interested in the thinking and methodology behind my father's strategies (which I've naturally adopted). The analytical tools presented are as relevant today as they have ever been and provide context for how to look at the entire investable landscape to help identify profitable trading opportunities, analyze the interplay of stocks, bonds, commodities, and currencies, and increase one's longer- term success.

The following is an excerpt, used by permission of the publisher.


CHARACTERISTICS OF STOCK MARKET TOPS

Major stock market reversals do not follow set rules; however, when a large number of economic, fundamental, and quantitative factors are monitored, better forecasts can be achieved. Here, we will address such indicators as interest rates, commodities prices, the bond market, economic indicators, investor psychology, and the stock market, as they demonstrate typical market behavior. To organize the analysis, some of these indicators can be separated into categories.

Interest Rates

Near major cyclical peaks, rates have already been on the rise or are beginning to show signs of accelerating upward momentum. Additionally, inflationary pressures rise and the Fed fights unequivocally to raise prices. Short-term rates are likely to have gone higher and faster than long-term ones. Such a condition leads to an inverted yield curve, which signals the potential for a period of economic contraction ahead. The rise in short-term rates, such as the 3-month Treasury-Bonds and the Federal Funds rate, leads the rise in the prime, mortgage, and discount rates. The short-term rate rise's effect rapidly slows down business activities in all sectors of the economy.

Commodities Prices

Raw material prices are likely to be on an upward course because supply is unable to satisfy demand. The rise of commodities prices, especially industrial raw materials, combined with constraints in capacity utilization (usually exceeding 80 percent), indicates congestion in production, which fuels inflation. When judging the trend of commodities prices, it is important to differentiate between strength in a limited number of them or a widespread rise among industrial, energy, and food items. It is also crucial to analyze the price rise's cause and determine whether it is due to seasonal factors or a surge in consumer demand that existing capacity cannot satisfy. The CRB index's trend should be closely monitored, as it might foretell the future direction of commodities prices and reveal the outlook for inflation.

The Bond Market

The fixed-income sector leads the stock market near major cyclical peaks. As the economy reaches a mature stage of its expansion, accompanied by rising inflation, bonds are likely to be in a downtrend. The rising rates and advancing commodities prices are not welcome developments for the fixed-income market. The competition from short-term money market alternatives and the inverted yield curve foretell of an impending period of credit risk in the making.
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No positions in stocks mentioned.

This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

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