Drawing the Lines on Bull and Bear Markets

When it comes to trading, I feel that it is important to always be cognizant of the long term trend of the market. Although all of the charts displayed in this blog so far have been daily charts, I do analyze weekly and monthly charts as part of the decision process.

In fact, when I take a position in a stock, I will prefer it if the stock's monthly, weekly, and daily trends are all in alignment. In my experience, this tends to increase the probability of a profit, and, more importantly, the magnitude of the profit.

The following chart shows how I define the long term bull and bear cycles of the market. The chart below is a monthly chart of the S&P 500, and goes back about 15 years:

The area in orange represents the 26 month moving average, and the area in blue represents the 9 month moving average. As you can observe, the S&P 500 has, like a giant pendulum in a clock, swung from bull and bear markets on several occasions in the last decade and a half. Needless to say, we are now in a bear market.

One thing I wanted to point out is that my use of 9 and 26 month moving averages is quite arbitrary. Those who think that they need to use Fibonacci numbers, or use some type of proprietary combination are on the wrong track, in my opinion. What's more important is that you have rules that you are comfortable with, and that you follow those rules.

The fact that we are in a bear market means that I will be net short stocks most of the time. I think this makes sense, since going long stocks in a bear market usually means going against the flow of the market, although there will always be stocks that will outperform the market.

Any buy and hold, long only type investor runs the serious risk of severe capital depreciation in this type of market. I feel that going with the flow of the market instead of buying and hoping that markets will eventually rise over time is a more logical approach. I am confident that this blog will illustrate this over time.