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September 16, 2012

Comprehensive Review of Cycles

An unusual number of inquiries have been arriving recently asking me to consider alternate cycle interpretations to those described in the Member Letter. Some of these challenges seem to be the product of other cycle newsletters while a few of the questions simply make no sense to me at all. Rather than handle these inquiries piecemeal, I've decided to perform a comprehensive review of our cycle states for the weekend letter.

Let's begin with the asset underlying, and purportedly driving, the moves in all other markets: the U.S. Dollar. The comment section has seen some friendly and constructive debate about the phasing of recent daily cycles, but the banter has been mostly academic since each interpretation leads to the same conslusion: the DX is within the grasp of an intermediate cycle decline and is sitting late within a daily cycle.

However, a question has now arisen regarding my phasing of the week of 30-Apr as an intermediate low. A shift in the intermediate phasing would be quite significant as our view that the dollar is poised to form an intermediate low would be in question. First, let's review the reasoning behind the late-April / early-May labeling. We can see several characteristics substantiating that call, despite the fact the cycle spanned a short, 9 weeks.

DX Daily May

Furthermore, intermediate dollar cycles typically commence with a very strong rally (we'll come back to this characteristic for another argument momentarily), and we can see above that the DX ramped four points higher during May. So this pivot possesses strong characteristics of an intermediate low.

What of the abbreviated duration? Well, the dollar often sees a truncated intermediate cycle form out of a yearly cycle low. Since the February ICL also marked the yearly low, seeing a short cycle is not abnormal, but rather expected. Therefore, after a review of these setups, I must maintain the labeling of an ICL under the week of 30-Apr.

Let's now address the question of whether another ICL could have formed since that April low. The primary development needed to confirm an intermediate cycle in decline is a failed daily cycle.

DX Daily

So we have failed daily cycles... indicating an intermediate cycle in decline... but nothing in the action suggests a new intermediate cycle has commenced. The dollar must therefore still be playing out the April cycle.

DX Weekly

At 19 weeks, the dollar is approaching the far end of its 15 to 22-week timing band for an intermediate low. Since daily cycles usually span a minimum of four weeks, this intermediate cycle does not possess enough remaining time to squeeze in another daily cycle within the normal timing band. In other words, when the current daily cycle finds a low, the dollar should also deliver an intermediate cycle low. So our last question with regard to the dollar pertains to whether additional clues are available to corroborate the expectation for an ICL.

First, I refer you back to the daily chart above. Notice how far below the cycle downtrend line price has stretched. In order to confirm a new daily cycle, the DX needs to break that downtrend, requiring at least a 2-point bounce. Remember the characteristicly strong rally with which intermediate cycles kick off? A quick 2-handle bounce would certainly qualify. That daily cycle down trend roughly matches the intermediate cycle downtrend, as well, so confirming one will confirm the other.

Second, have a look at the latest sentiment poll from

DX Sentiment

The reading is flirting with extremely bearish and is mired well within the range that typically coincides with ICLs. That sentiment chart was published Tuesday. Where do you think sentiment may now lie after the announcement of an open-ended counterfeiting operation and a continued sharp decline by the buck into the end of the week? I dare say that most people now believe the dollar has an appointment with perdition. In the long run, they are right, but no market ever goes straight down, and a combination of cycle counts and sentiment has the DX primed for one heck of a countertrend bounce. We only need one piece of nasty news out of Europe to trigger that rally, and a late daily cycle count suggests the catalyst should arrive presently.

The intermediate dollar interpretation holds important implications for gold where, over the last couple of weeks, I have slowly flip-flopped on my weekly count. Originally, I had believed that a 10-week cycle had formed out of the May low within the context of a triangle consolidation. At the time of that labeling, I noted that 10 weeks was peculiarly short, even for a cycle truncated by a triangle. I now believe that no ICL has formed since the May low, and present several pieces of evidence to support this view.

Apart from the congruence of an intermediate low for the dollar, we can see that the weekly count for gold works well for an impending peak.

Gold Weekly

Another key characteristic of intermediate gold cycles is the tendency for price to accelerate into peaks. The $180 surge over the last four weeks qualifies as such an ending move. As you can see, price is also approaching a very important pivot, providing an ideal resistance point from which to commence an intermediate decline.

Gold sentiment is also flirting with levels suggestive of an intermediate inflection point.

Gold Sentiment

As with the dollar, this sentiment reading has undoubtedly stretched given the action in the latter part of the week. So how close is gold to forming its peak? Let's narrow the view down to the daily level.

Gold Daily

The most frequent inquiry recently posed in both comments and by e-mail pertains to whether 31-Aug could hold a DCL, putting gold only 10 days into a daily cycle. My answer is an emphatic no. Cycle methodologies will certainly vary, but in my book, the day that holds a cycle high cannot hold its low. The only reasonable point at which to label the last DCL is therefore 15-Aug.

Gold holds yet another shared characteristic with recent dollar action in that its daily cycle has stretched far away from its trend line. As with the dollar, the implication here is that price will experience a sharp countertrend move once an inflection point is attained. Once again, the implication corroborates a typical cycle characteristic because the daily cycle holding an intermediate gold peak usually experiences at least a mini-crash off the top. The need for gold to tank at least $80 to break its cycle trend line therefore supports the notion of an intermediate peak in the making.

Remember that an intermediate low cannot arrive without a left-translated daily cycle. While I do not expect gold to suffer severe damage during its impending intermediate decline, I also do not believe the yellow metal will escape this basic cycle requirement. I will therefore be looking for an ICL in mid-to-late October as a point to get very aggressively long the PM sector.

If gold and the dollar are set for intermediate inflection points, will stocks presently peak, as well? I believe the answer is yes. First consider that the intermediate equity cycle is already 14 weeks old. Since an ICL is due between Weeks 18 and 24, the move into that low could begin at any time. As with gold and the dollar, sentiment under stocks also suggests an imminent peak. We can see that the intermediate score is now well within the danger zone:

SPX Score

Just as telling, smart money sentiment has plunged to a 29% confidence level. Readings under 40% usually greet intermediate peaks. A reading under 30% is beginning to become extreme.

Of course, a failed daily cycle will be required for an intermediate decline, and as we can see, stocks are in position to form a failed cycle:

SPX Daily

Timing-wise, the daily equity cycle is poised to fail. Left-translated daily cycles usually peak by Day 15 for equities, so a Day 8 count provides plenty of margin for stocks to roll over in conjunction with the dollar's impending low.

Back in June, when stocks were forming their last ICL, I described on the public blog why a V-Bottom would be an ominous sign for equities, as untested lows typically fail when price declines into the next intermediate low. The Week 14 peak currently sported by stocks puts a kink in that view because any high past Week 11 implies the cycle will form as right-translated... and RT cycles typically do not fail.

Of course, a RT cycle failed in 2010 as stocks dove into their yearly low. Whether the same anomaly will develop in 2012 remains to be seen. However, the primary point remains: stocks are poised to roll over into an intermediate cycle decline. Simultaneous intermediate-degree declines by both stocks and gold are usually not kind to mining shares, hence the reason I have vacated my trading positions and hold only my core. Similarly to the sentiment readings above, optimism for gold mining shares have also quickly become stretched.

Gold miners bullish percent

While bullish percent is not directly a sentiment reading, the indicator actually works quite well for judging when enthusiasm is pushing extremes.

Traders with opposing views are free, of course, to trade their own mind. However, I prefer lower-risk setups, and I currently sense a high degree of risk in the markets. To paraphrase a Docism from earlier in the week, missing part of a move is no crime, but losing money in fear of missing a move is simply reckless.


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