Will 2012 have any Lehman moments for markets?

Once upon a time, the legendary prophet Mark Messier, in the greatest tradition of Joe Willie Namath, guaranteed an important playoff win against New Jersey. After the game, he was asked how he felt about coming through on his guarantee. He said, “Maybe I ought to just keep my mouth closed next time!”
Well, I never guaranteed it but we did come here and tell you there would no “Lehman” type meltdown for Europe in 2011. With four trading days to go and no politicians in sight right now that looks like a pretty good bet. So what about 2012? It’s a long year and I don’t have the same confidence but here’s what we all need to understand about ‘Lehman moments.’

You can’t have a panic when people are expecting it. That’s an oxymoron. People must be caught by surprise. When you understand that, it’s much easier to understand how financial markets work. Unfortunately, billions have been lost because people fail to comprehend that simple premise. The concept that isn’t so simple is the timing cycles need to be ripe in order for a panic to materialize. 99% of the time there isn’t even a chance for a panic because we are not in a window or near the completion of an important cycle. Quite frankly, I can come here and tell you I strongly doubt that anyone else has reported that Lehman materialized 233 trading days off the Dow 2007 top and the TARP acceleration materialized 233 trading days off the NASDAQ top which was 3 weeks later. That was historic and happens once a generation. The only other time I’ve seen such a condition was last year in Nat Gas where the pattern was down 233 hours in an already oversold condition and then it gapped down. When we marry the psychology to technicals is when we can fine tune even further because we know that most time windows won’t produce anything too historic. For instance, we ended up with a small degree black swan event in the beginning of August because the market was at the terminating point to an important cycle (610 days) and the back end of cycles are usually the most violent.

The rare event which I still study to this day is why did a panic materialize in 2008 at the 233 day window when it usually produces a major turn? Instead we got an acceleration point. You don’t have to understand it, all you need to do is accept the possibility IF conditions are ripe. I’ll throw in one more wild card. If the nation was born in July 1776 which we know is true, the time distance from July 1776 to September 2008 is a tad bit over 232 years (well within the plus or minus 1 margin of error for Fibonacci 233). That could explain why we had the acceleration as opposed to the turn.

I don’t mean to get overly scientific with you but the point is panics will materialize when the time cycles are ripe. More importantly, you have to consider what people are expecting and what might catch them by surprise. Right now, the only thing that could really catch people by surprise is a crash by the Shanghai Exchange. Why? People are expecting Europe to meltdown and politicians have been preparing for months. In 2008, nobody was preparing for it, that’s why it happened. In 2011, nobody with clear head could imagine that responsible leaders could possibly advocate the US default on its debt when it didn’t have to.

Right now, the SSE sits just off an important low on the intermediate term pitchfork with excellent Gann calculations. The higher probability is we should a bear market rally, but as we’ve seen with Lehman, the right calculations sometimes lead to acceleration. If it doesn’t start bouncing soon then something is amiss. With the square of 9 readings I have on Shanghai we should for all practical purposes see a multi week bear market rally. But a couple of weeks back the Chinese Premier told the world that China had inflation contained. The markets really didn’t believe him and the SSE remains one of the few outposts that didn’t experience a Santa Claus rally. This is not a prediction and the time cycles aren’t really ripe for it but we do have square of 9 readings and for whatever reason the pattern stubbornly refuses to bounce.

My other concern is a VIX that sticks in the 20’s yet didn’t come anywhere near the fear levels seen at other important market lows since August. If you listen to television, market pundits tell you it’s because traders are getting used to an environment with less volatility. Sounds like complacency to me. What is weird about financial markets is that complacency can show up at any time. China is down for months yet now that we get near the bottom of the pitchfork, they think inflation is contained. I’d have felt much better if they thought inflation was off the charts!

On the other hand, the SPX made a very important technical breakthrough last week. Triangle or no, I’m very interested when an important chart breaks a multimonth trend line. When I connect the dots dating back to July 7, this is the biggest violation of the line for the SPX since that trend line formed. As we hit the new week, we find the SPX trading above the 200 day moving average for only the 2nd sequence since markets started declining. I realize it’s made a few flirtations with a breakthrough but this is biggest one.

Next page: Reconciling the signals

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