Well, is it a bear market rally or a bull market rally?

20 months after topping indicators started flagging we still can’t say for sure. That sounds incredible, but before the 1929 top the first topping indicators flagged from May 1928 onwards, and before the 2000 top the first topping indicators flagged from July 1998 onwards. So long difficult tops can and do occur.

In our current scenario we can pick out these 3 as the longest standing divergences from January 2014 onwards, then picking out May 2015 as the actual bull market peak:

Source: Stockcharts

Collectively these 3 indicators represent a shift away from risk appetite, which is a typical topping process identifier. Apart from these, it’s worth recapping what other clues were there way back at the start of 2014, so this is how things stood then:

The previous 2 years rally in US stock indices was made up of less than 20% earnings growth and more than 80% multiple expansion. The last 2 such occurrences in history were 1985:1986 (leading into 1987 crash) and 1997:1998 (leading into 1999 real Dow peak).

Compound annual growth rate in equities since 2009 was only exceeded in 1929, 1937, 1987 and 2000, all of which led to steep market declines.

Valuations (aggregating various measures) were the third highest in history after the 2000 and 1929 peaks.

Russell 2000 reached trailing p/e ratio 88; Amazon trailing p/e 1440; Facebook trailing p/e 148; Twitter reached $40bn market cap with zero profits.

Declining breadth in the number of countries participating in world equities rally.

Cluster of extreme Skew readings not seen since June 1990 before recession began July 1990.

Investor Intelligence percentage bears and bull-bear spread were both at 1987 levels (market crash).

NAAIM survey sentiment was in the 98th percentile = extreme optimism.

US household exposure to equities had risen to the same levels as the 2007 top.

Fund manager allocation to global equities at levels that previously led to a market peak or correction.

Rydex bull-bear and levergaged bull-bear ratios at an all-time record.

Margin Debt had escalated to 2.5% of GDP, only exceeded at the 2000 market peak.

And the list did’t stop there. But, we can unify these varied measures and indicators as (1) evidence of an unsustainable mania and (2) divergences in breadth and risk appetite. The first warned us of a coming peak and the second of a peak in progress.

At the time solar scientists believed the solar max was already through, but this didn’t turn out to the case until mid 2014.

Fitting in with this, at mid-2014 the bulk of other negative divergence topping indicators formed. We saw a similar bulk-flagging in Jan-Mar 2000 (before the August final roll over) and in June-July 2007 (before the October final roll over).

Here we see high beta to stocks, stocks to bonds, stocks to dollar and junk bonds as examples of that under-the-hood mid 2014 peak.

Shortly afterwards geomagnetism started to ramp up as is common post solar maximum and weighs negative on the market.

All four charts so far in this post show the same thing: peaks in the past and downtrends in place ever since. This aids our conviction for a bear market in progress.

A closer look at recent geomagnetism reveals this:

There has been an intensification of storms since around February this year, after which the market struggled to make any further gains. The latest spike down was right at the end of last week, meanwhile sunspots have dropped to close to zero, so for now solar influences are very much aligned for a bear market.

By the recent stock market low of late September, capitulative breadth, contrarian put call and sentiment readings had formed, out of which the market has made a sharp rally upwards to the current point. Bear market rallies are typically fast and furious so the strength doesn’t provide decisive confirmation of bull or bear.

The Zweig breadth thrust flagged at the recent low, and history shows that these have been potent rally initiators in bull markets but overall poor in bear markets. So again, that doesn’t particularly help us here.

Also, insider buying flagged at the recent low, but again, history shows us that this group is a dip buyer at both bull market correction bottoms and bear market pauses, so wise enough to be buying after falls but not wise enough to differentiate between a bull correction and a bear market.

Capitulative breadth returned to zero earlier last week (i.e. bullish edge gone) and Nymo hit a rare extreme of over 90 by the end of Thursday. Here are similar such Nymo prints from the past:

Fairly consistently they initiated a pullback in stocks either to the day or within a couple of days. At the start of this coming week we have the new moon and US earnings get going, so that, together with the very recent geomagnetism could help trigger the fresh reversal. But what then?

Drawing on historic examples of the kind of price pattern in progress, I suggest two possibilities, shown:

One is we reach up to the 200MA then are repelled back into the bear market. The other, and my favoured option, is we pull back lower, then make a lower high, then resume downwards.

Chris Carolan merges previous similar solar lunar years from the past and creates a model. I don’t know how successful this is but the method appeals.

It might fit with my favoured scenario of pullback, rally back up to lower high, then down again properly as of November.

October is typically the worst point seasonally geomagnetically, from which pressure then eases. Plus earnings may collectively surprise worse or better. These are two wildcards for the rest of this month.

ECRI leading indicators are still negative but maybe forming a higher low, whilst narrow money leading indicators for the US suggest weakness over the next several months. Financial conditions in US, Europe and Asia are united negative.

Source: Bloomberg

Biotech, the mania leader, and my biggest short, has only managed so far to make a bear flag down at the lows, post parabolic break. Gold and miners, my only longs, have taken off this last week, but as yet we can’t differentiate them from the bullish break upwards in oil (whether they are acting as safe havens or commodities).

To finish, if we step back and look at the big picture again, there is considerably higher likelihood this is a bear market rally rather than bull market post-correction resumption. The US indices are currently less damaged than most others but the wider world is more convincingly bearish. The Dow Jones World index shows a fairly telltale topping process:

And Leuthold provide a nice summary of matching divergences in the US into the May 2015 peak to the 2000 and 2007 peaks.

Source: Leuthold Group

The smoothed solar maximum was April 2014. Geomagnetism intensified as of August 2014. This is normal progression: positive pressure up into the sunspot peak, then negative pressure as both sunspots wane and geomagnetism ramps up in the following window. The influence on financial markets is captured here:

We can see that the solar-inspired speculative mania effectively ended in that window of mid-year 2014, with stocks making a topping process between then and May 2015.

Daily geomagnetism reveals an intensification in recent months.

Something similar happened in 2000.

Stocks were led into a 2 year bear.

Back to the current, the overdue snap in equities in August 2015 changed the picture. No V-bounce like in 2013-2014, plus a sharp escalation in complacent indictors. This is not like those 2013-4 corrections.

Various indicators which were stuck at bullish extremes in 2014 have now not only mean reverted but have moved all the way to bearish extremes. Amongst these are Investors Intelligence bulls, US equity outflows, capitulative breadth, Trin and a cluster of 90% down volume days. Collectively they represent bear market bottom readings, leading some analysts to call time on the current the correction in equities and predict a bull market resumption.

In that scenario we need to square why stocks only corrected 10%. In the first chart at the top we can see a year long stealth bear in progress, more apparent in some markets and indicators than others. So did stocks correct in time rather than price? Proponents of that option then have a problem with big picture indicators, in that both valuations and leverage are still a long way from mean reversion.

Source: DShort

Due to the lack of demographic tailwind, the bull mania was fuelled by debt: traders leveraging up and companies leveraging up to make buybacks. For the bull market to continue, both those would need to rise to new record highs. Given the sharp snap in equities in August, the appetite for that is likely absent, at least for some time.

Rather, in my opinion, that was the point at which the mania popped, at which record complacency and froth was finally shot down. The bear market bottom readings in certain indicators are indeed a sign of a bear market: a pause in the downdraft. These indicators show selling and fear and are only bullish if they revert. Case in point: in 2014 they were stuck at extreme bullish and did not revert, hence stocks continued to edge up. The question is why they were stuck at record bullish extremes, and the answer is the hidden force of the solar maximum. Now we have the twin powers of waning sunspots and intense geomagnetism, which are likely to keep these indicators bearish.

There is a common misperception that the economy (i.e. recession) causes bear markets, but the data in fact shows that the stock market leads the economy.

US quarterly GDP at past major stock market peaks:

Q4 2007 4.4%
Q1 2000 6.18%
Q3 1987 6.08%
Q1 1973 11.91%
Q4 1968 9.84%

Rather it works like this: demographics and sunspot cycles bring about the major peaks and troughs. In our current case, the rise into the mid-2014 solar max caused the speculative mania in the markets, identified by extremes in valuations, sentiment, allocations and leverage. Then the wane from the solar max and associated intensification in geomagnetism have brought about the burst. That burst isn’t complete until valuations and leverage have reverted sub-mean, a process that is already fixed in demographic and solar trends right ahead.

October is the seasonal peak intensity for geomagnetism. This is the reason for a cluster of major historic drops to lows in October. We are finely poised leading into it. Stocks have made a triangle consolidation following the August drops. Gold has a weak higher low, as a tentative basing. For equities a retest of the August lows would be historically normal following such sharp drops, whether bull or bear bigger trend. But, various indicators are already at bearish extremes, i.e. contrarian bullish, so we could move further sideways or upwards before heading down again. Friday was the new moon, so we are now tipping over again into negative pressure, and this is assisted by current raging geomagnetism. FOMC and OpX this week.

My view. Stocks are in a bear since May 2015. That means no new highs and another lurch down lies ahead. Given the collective shock at the August drop in equities – despite 40+ topping indicators forming last year – another leg down to lower lows would have a major effect on the masses. If indicators can’t pull up now from their current extreme bearish readings, then that’s the recipe for another sharp break downwards in the current geomagnetic environment. Odds are this can transpire as we move into October. Invalidation would be stocks holding up through this window, gold breaking down, and equities indicators pulling away from bearish levels.

The irrationality continues, but not for much longer.

After last year’s solar maximum, the cross-asset picture changed. Global stocks entered into a topping range whilst money flowed into the US dollar and treasuries, plus commodities (shown inverted) collapsed, all in a deflationary recessionary wave.

Source: Stockcharts

Global leading indicators turned down from that point and are now negative, like in 2000, 2008 and 2011.

Source: Goldman Sachs

China data turned sour.

Source: Sober Look

US earnings projections and economic data diverged sharply from the stock market.

Source: Zero Hedge

Also captured here in homebuilder stocks versus housing data.

Source: Not_Jim_Cramer

Buybacks fell away from their peak.

Source: Factset / Jessie Felder

And hedging moved contrarian.

Source: Sentimentrader / Sundial

In short, everywhere you look the footprint of the solar maximum can be seen: the subtle peaking in human excitement in terms of both economic activity and financial market speculation around mid-year 2014.

Source: Not_Jim_Cramer

Source: SpiralCalendar

Following the solar maximum comes the peak in geomagnetic disturbance which adds to the negativity. See here the major storms (red downward spikes) of July and August 2000 which coincided with the SP500 reversal, all following the solar maximum of March 2000.

This last week saw a similar occurence of a major geomagnetic storm, the massive red spike down on the right:

Put into a trend, geomagnetism has been diverging from the stock market since mid-2014, like the rest, and that storming serves to steepen the trend.

The TR-CRB commodities index has tracked the trend well. This is reality, whilst stocks are in a mania prone to a major reset.

Back in 2000, the SP500 finally gave up its levitation on 1st September. We probably don’t want to focus too much on the timing of that lag, but instead note that we have the same comprehensive leading removal of supports: solar maximum peaked; geomagnetism intensified; divergent earnings and economic indicators; buybacks and combined central bank printing peaked; saturation in allocations, sentiment and valuations; commercials and hedgers short; money flows into bonds and dollar.

With hindsight we can look back on the first half of 2014 as too soon for a peak in the mania as the solar maximum wasn’t yet done, but with a host of warning flags present in allocations, sentiment, leverage, valuations and more. We can look back on the second half of 2014 and see a typical topping process in a whole range of indicators: negative divergences in breadth and volatility, declining forward earnings and leading indicators, a deflationary wave in other assets and economic data, all occurring whilst price continued to levitate. And, I believe, we can look back on Q1 2015 as the completion of the missing pieces of the puzzle: commercials go short, insiders press sell, geomagnetism ramps up, data surprises to the downside more than expected.

Q2 2015 then should look like this: economic data doesn’t improve, realisation that earnings and leading indicators are staying divergent, geomagnetism continues to pester and turn the tanker of sentiment, stocks start to decline and in turn recession models start to wake up.

A host of leading indicators for the stock market suggest equities are overdue the major reversal, and it’s hard to find ‘fuel’ for prices to continue to rise into mid-year given the all-round picture from indicators, namely saturation and divergences. I therefore have not given up on the March-April seasonal low: a sharp leg down from here to kick off the bear market. Let’s see how this week unfolds: we need to see the telling price reversal, and until then patience needs to be maintained.