With the stock market now breaking through a critical support, Dow 10,000, an update seems to be in order. The Dow high of 11,722 set in January exceeded Comeau's predicted upper range of 11,600 by about one per cent. That's a sucessful call matched by few investments pros. With this point established, we can redetermine Comeau's projected Dow low. From a Depression era low of 43 to the high of 11,722, there's a difference of 11,679 points. Comeau is anticipating a huge 50% retracement, or 5,839 Dow points, within two months of the high date. That means that the Dow should touch 5,883 by mid-March. The loss of wealth entailed by such a drop would be measured in the trillions.

One aspect of Comeau's predictions that has brothered me is that his expected decline within the tight two month timeline is simply unprecentated in US financial history. Even the 1987 crash was "only" about 23%. When trying to understand events, it's importantto ascertain what are the similiaries and what are the differences. Back in 1987, derivatives were just really starting to influence market moves.

-- Sure M. Hopeful (Hopeful@future.com), February 25, 2000

Answers

Sorry for the break, my ISP and computer has been crashing all morning.

The best definition of what is a derivative I ever heard was: two bookies making a side bet between themselves over their client's bets. Derivatives are often complex, computer driven trades involving arbitage positions between classes of assets, attempting to cash in on small differentials. The short gold, long stock trades covered in the gold forum is a good example of a derivative in the process of turning sour. It was a very telling moment when Greenspan suggested that derivatives should NOT be regulated. Think about this, when was the last time a bureaucrat was hesitant to expand his power base? To make serious money, derivative trades often involve taking huge positions.

Greenspan is held in high regard by Wall Street, mainly because he was able to contain the effects of the 1987 stock market crash by the liberal injections of that financial elixir, cheap credit. Even Greenspan has referred to the subsequent danger of "moral harzard" in trading. If the big players feel that Greenspan will bail out them out if they lose, then they have no fears of loss and go for increasingly riskier positons. Estimates of the derivative market have been as high as $175 trillion dollars. This fact might be the key to understanding what might happen if the stock market again experiences a 1987 type crash. As an aside, the chart pattern of 1987 and our current market are very, very similar. A crash would entail huge losses by the big players, and in a time frame too compressed by them to unwind their postions. Greenspan was able to handle one LTCM crisis; would he be able to contain the effects of say 2, 5, 10? at the same time? The cascade effects of cross current defaults would produce the sell at any cost panic neccesary to cause such a massive decline.

King Canute II (994?-1035) was a Danish prince who later became the ruler of Denmark, Norway, and England. He was a skillful warrior and able administrator. There is a famous legend, related by the English historian Henry of Huntington, how Canute grew tired of the flattery of his courtiers. Ordering his throne to be placed on the seaside beach, he took his seat, and then ordered the tidal waves to stand still. He knew what was within his ability to control and what was not, and didn't need the false praise. My point is, there are limits to what Greenspan can do.

-- Sure M. Hopeful (Hopeful@future.com), February 25, 2000.

One aspect of Comeau's predictions that has brothered me is that his expected decline within the tight two month timeline is simply unprecentated in US financial history.

No, its not. US financial history did not begin and end with the two day correction of 1987.

On Sept 1, 1929 the market stood at a record high of 382. It fell to 320 on October 3 [Wave 1], rose to 352 on October 11[Wave 2], and then dropped, hittiing Wave 3(down) = 238, Wave 4 (up) = 274,and finally the end of Wave 4 at 198 on November 10th That was a drop of 49% in two months, tracing out a clear 5 wave decline.

That first leg down (17%) would be about equivalent to today's DJIA hitting 9500 -- which just happens to be an area of strong support for the Dow. However, Robert Prechter is targeting March 6-10 as the date for hitting this first low.

The time factor in all of this is not as important as the scale of the decline. No matter whether it takes two months or six months, it will be a dizzying ride down for those who stay in the market -- most people. Then, the market will climb back up -- making a correction from the trend, which is now down. Rejoicing in the streets, the "buy on dips" people will be estatic. Then, another peak, then the really big plunge, which will be the 3rd of the 5 largest waves down. That brings a sickening feeling to the pit of the stomach -- but may not happen until this summer (about the time we get $2 gasoline prices, LOL)

Commeau predicts a 50% decline, which is a standard level of retracment for all markets in a correction from the trend. It may or may not end there. Commeau takes his start of the rise as the 1929 crash. If one wants to work one level higher, the data released by Robert Prechter would place the start of this series of waves as 1724, with an adjusted market level of roughly 1. [Data from At The Crest of The Tidal Wave by Robert Prechter.] The crash of 1929 was the 4th wave of the next lowest cycle. It serves as a target for the final retracement of this downslide.

Note that the 1929-38 market market floundered, rose a bit, fell a bit, and didn't hit bottom until July 1932, at a whopping value of 41.22. This was roughly 11% of its initial value. Retracements are often bound by 38.2%, 50%, and 61.8% values. Occasionally they will retrace as much as the 1929 crash wave did. Once the major trend reverses, the market usually retraces back into the range of the previous fourth wave, which in this case would be from 42 to 381 on the Dow, e.g., the range covered by the 1929 crash era.

So, there is ample precedence -- in all markets -- for a 50% retracement. The first 50% isnt too bad.....its the next 50 that hurts.

Unfortunately, most people have the same conception.....that markets rarely decline by large percentages, and that a 10 to 15% correction is all that will be in store for them.

-- rocky (rknolls@no.spam), February 25, 2000.

Rocky,

Thanks for your informative posting. But perhaps I didn't make myself "perfectly clear" about the projected 50% drop. I was thinking in terms of a sustained, uninterupted drop to the 50% retracement level. You are correct, of course, about what happened during the 1929-1932 crash. As I look over that chart, you can see the (in)famous spring rally after the October crash, when investors rushed back in, the equivalent of today's "dip" buyers. Even after that failed the chart shows a number of weak, short-lived rally attempts all the way down. I have read that numerous traders lost a lot of money trying to pick the bottom. Sort of like the mirror image of our present day bears trying to guess the top.

To my mind, the only way to have such a 50% crash is if the derivative players get burnt bad, and a cascade effect starts. Even in the aborted crash in 1987, there were some minor bank runs against banks that didn't have FDIC insurance. The problem with a derivative fueled crisis is that the damage is done behind closed doors, and by the public hears of it, the run is already on.

It's going to get interesting.

-- Sure M. Hopeful (Hopeful@future.com), February 25, 2000.

Yeah, the Dow goes down and the NASDAQ goes up. Instead of a wave its more like a teeter totter effect.

-- Guy Daley (guydaley@bwn.net), February 25, 2000.

Sure,

I don't think we'll see a sustained drop to 50%, if by sustained you mean that there will be no upward corrections. And, I'd agree with you that there probably never has been a 50% drop without any counter trend rallies. My point was that, even with the countertrend rallies thrown in, in 1929 the market dropped (approximately) 50% in (approximately) two months, so the precedent is there.

I don't expect this downslide to be without such rallies (also known as "dead cat bounces").

The point is that the top was called (and by several people) fairly accurately, and that the trend has reversed and is now down.

-- rocky (rknolls@no.spam), February 26, 2000.

Sure M. Hopeful,

Sure enough your concern about how unmanageable "2, 5, 10, 20 simultaneous LTCMs" would be sounds pretty similar to a Y2K event, 'just about when the price of gas exceeds $2', etc. I agree. Hmmm...

But let's not be exclusively US-centric about these coming scenarios, as in the current context the role of foreign investors is essential (which wasn't in 1929 by the way). Wall Street today, whether many may know it or not/like it or not, gets billions from abroad, meaning not just England (as it used to be) but literally every country in the world, directly or indirectly. And foreigners follow the Dow, not the NASDAQ so much.

In the coming weeks we will probably witness a sell out from abroad from people that don't follow/don't care about Clintonomics or Greenspinomics. Many a big fish will play it safe, get his/their money out, and let "the Americans f*ck themselves up this time".

And then the downward ball will grow, and US 'dip' buyers will get burnt. So I'm not sure we need to wait till June for these things to happen...

Furthermore, what about banks/liquidity/price of property in these scenarios?? Anyone want to take a shot at it ?

Take care

-- George (jvilches@sminter.com.ar), February 26, 2000.