In a forum post that I made on the 17th of February I agreed with Sentient Trader user Silent One that the US market (the S&P 500 to be exact) would soon turn down to form a trough of the 40-week cycle.

Silent One had already explained his reasoning behind the fact that this trough should happen before the end of March.

I went further by looking ahead and suggesting that this 40-week trough would very possibly be a “straddled trough“:

“I absolutely agree with your analysis in terms of an impending 40-week cycle trough. As the market has climbed and climbed I have started thinking about straddled troughs, because it seems likely to me that this 40-week will turn out to be a straddled trough, with the market rising after the trough, and then beginning to fall hard into the 18-month (and 4 1/2 year trough).”

Since that post (which was made the day before the high of 18th February), price has of course come down and formed a well-defined trough on the 16th of March. This is a very likely candidate for the expected 40-week trough. In this post I would like to elaborate on my comments about price action following the 40-week trough, and I would like to present a case for a straddled 40-week trough.

Has price formed the 40-week trough?
Has price formed the 40-week trough?

A Straddled Trough

A straddled trough is a trough which seems insignificant considering the length of cycle that is the longest cycle in the set of market cycles experiencing synchonized  troughs at the same time (what JM Hurst called a “nest of lows”). The typical shape of price movement surrounding a straddled trough is fairly symmetrical, as can be seen in this example of a 54-month straddled trough:

The notorious straddled trough of August 2007
The notorious straddled trough of August 2007

Of course the symmetry breaks down after a while because of the interaction of other market cycles, but a closer look at this straddled trough shows how symmetrical the peaks are on each side of the trough:

31 days from the peak to the trough
31 days from the peak to the trough
56 days from the trough to next peak
56 days from the trough to next peak

If 31 and 56 days doesn’t seem very symmetrical to you, I should remind you that we are talking about the two peaks of the 54-month cycle, relative to the position of the trough of that cycle. The nominal length of the 54-month cycle is 1637 days, and so in percentage terms the first peak occurred in the last 2% of the cycle prior to the trough, and the second peak occurred in the first 3% of the cycle wavelength after the trough.

The Current Situation

Now let’s turn our attention back to the current situation in the markets. I present here an analysis in which the 18-month market cycle experienced troughs in March of 2009 and July of 2010. I am proposing that the trough on 16 March this year is the 40-week trough which marks the mid-point of the current 18-month market cycle, and I am also suggesting that this 40-week trough will turn out to be a straddled trough.

The 18-month cycle picture
The 18-month cycle picture

Let’s take a look at the evidence:

  • The 18-month market cycle from March 2009 until July 2010 exhibits a perfect cyclic shape for a cycle with an upward underlying trend which is weakening:
    • The peak of this cycle is time-translated to the right
    • The second trough (July 2010) is higher than the starting trough (March 2010)
    • If you are familiar with the Sentient Waves that Sentient Trader trades then you will see that the waves reflect the same situation of an upward underlying trend which is weakening:
      • Wave One is strong and long in duration
      • Wave Two is weak and very brief
      • Wave Three is strong, but not as strong as Wave One (indicating a weakening underlying trend)
      • Wave Four is stronger than Wave Two, of almost equal strength to Wave Three, and of longer duration than Wave Two, and shorter duration than Wave Three.
      • The overall Wave Shape is a Bull D, a shape that often precedes a neutral Bear E or Bull E.
  • The first 9 months of the current 18-month market cycle have been indicative of  a strongly upward underlying trend, in a Bull A pattern that is not as strong as the Bull A pattern that played out in the first 40-week market cycle of the previous 18-month market cycle. There are two obviously weaker aspects to this cycle:
    • Wave One is not as strong (the angle of rise is lower)
    • Wave Two is stronger and longer.

All of this evidence points to the fact that the underlying trend of the current 18-month market cycle (from July 2010 to near the end of this year, or beginning of next year) is neutral. A neutral underlying trend is the perfect scenario for a straddled trough, particularly when the first half of the cycle (the 40 week cycle from July 2010 to March 2011) shows a positive underlying trend. This should be balanced by a negative underlying trend in the second 40-week cycle.

If we are in the midst of a straddled 40-week scenario, then what is likely to happen? As mentioned before the peaks surrounding a straddled are generally fairly symmetrical.

27 days from peak to trough
27 days from peak to trough

As you can see in the above picture 27 days passed between the peak and the trough of the 40-week market cycle, and 19 days have passed since that trough. If this is going to be a perfectly symmetrical straddled trough then we would expect the next peak in 8 days (the 13th of April), but perfect symmetry is unlikely.

What does seem likely is that the market will soon form the peak of the current 40-week market cycle, an early peak which will then lead to a market tumble to round about the 1000 mark where the next 18-month (and of course 40-week) trough will be formed (by the end of 2011 or early 2012).

Of course only time will tell whether the recent trough is indeed a trough of the 40-week market cycle, and whether it will turn out to be a straddled trough. In the meantime I will certainly be treating the markets with some caution!