Calling Tops

If one  is so inclined into calling major tops and bottoms in the markets it will become quickly apparent that with some practice, calling bottoms is much easier than calling tops.  In recent times the March 2009 and October 2010 bottoms were on a relative scale much easier to call and much easier to handle than the July 2007 and May 2011 tops.  A couple of things are at play in these scenarios: 1) most investors are either long all the time or get long well before the bottom, this leaves little competition for action on the real bottom day, a few people step in and away the market goes, and 2) most investors are never looking for a top and keep buying in spite of obvious warnings, making the decline always appear as a big surprise to them.

When we look at the details of these tops and bottoms using weekly data we see that it took almost a year between the top in the week of July 20, 2007 and the week that the market dropped 20 percent in the week of July 11, 2008. The top in the week of May 6 2011 was not realized with a 20 percent drop until five months later in the week of October 7 2011.  Looking at the bottoms, however, we see how fast everyone piles on after the market starts up. The rally after the bottom in the week of March 6 2009 took only 21 days until the week of March 27, 2009 to see a 20 percent rally and the bottom in the week of October 7, 2011 also took only 21 days to realize by being up 20 percent in the week of October 28, 2011.

The point is, tops happen and the market and CNBC don’t realize it until much of the damage has already happened.  The current situation is even more problematic, the top appeared to  occur on March 27, 2012, we are out almost a month and there is little unanimity of whether that was a top, and history says that is normal.  Part of the problem is that since 1987, the FED has been very involved in markets and while they cannot keep the eventual sell-off from happening they do make it difficult to call the eventual moves.