My Stock Market Prediction Using the Pride Cycle

This is a follow-up to my blog on October 10.

I've been watching the Stock Market recently and after looking at historical values for the various stock indices (DJIA, S&P), the GDP (Gross Domestic Product), the CPI (Consumer Price Index), inflation, etc., I have found an interesting pattern that I think can predict what the market will do in the coming years.

Postulate 1:
There is a basic growth rate of the economy of about 3%

Postulate 2:
Stock prices represent an inflation of actual production due to confidence and other emotional factors.

Postulate 3:
The ratio of stock prices to consumption (CPI) should reveal emotional driven cycles.

First, the GDP adjusted for inflation can be predicted very closely by a growth curve, or (principal value) X (1 + % growth rate)^(# of Years). The GDP has been growing at 3%.

Second, the CPI also grows at about 3%, however it fluctuates due to inflation.

The figure below shows a linear plot of the S&P Composite Index, the CPI and a 3% growth curve from 1870 to 2008.


It's hard to tell what is happening in the early years, so here is the same plot with a logarithmic scale. This shows that all 3 lines show about the same growth.


The next plot shows the ratio of the S&P to the CPI. What this shows is how the stock market has deviated from normal economic growth with apparent cycles in the data.


These cycles I compare to "Pride Cycles". Since Stock prices are determined by individuals, there is an emotional and spiritual aspect to price fluctuations. To explain the Pride Cycle, here is a diagram:


Here's a description of the stages in the Pride Cycle

1. Humility - People are humble, willing to do what they are told
   
2. Prosperity - Good leadership arises that leads them to prosperity
   
3. Pride - They get caught up in the prosperity and start getting proud
   
4. Contention - Due to pride, they elevate themselves above others.
   
5. Rebellion - They rebel against their leadership
   
6. War/Captivity - They are invaded, attacked or declare war
   
7. Famine/Disasters - They suffer famine, unemployment, etc (natural or other causes)
   
8. Weakness - They become weak
   
9. Humility - They return to humility and start the cycle all over
   

The most recent, complete cycle was from 1950-1980. Let's see how this compares:

1950-1980

1. Humility - We just finished fighting WWII. We returned home humbled by the traumatic experience.
   
2. Prosperity - Pres. Eisenhower (1953-1961) leads the country to great prosperity which include luxury cars, home comforts like vacuum cleaners, washing machines, toasters, food mixers and electric irons.
   
3. Pride - "Keeping up with the Joneses"
   
4. Contention - The Civil Rights movement (not necessarily bad).
   
5. Rebellion - The "Counterculture" movement in the late 50's to 60's (hippies, drugs, sexual revolution, etc).
   
6. War - Vietnam War from early 60's to early 70's
   
7. Famine - Stagflation and the Oil Crisis in the Early 70's
   

1980-Present

1. Humility - We just finished with Jimmy Carter and the mess the economy was in.
   
2. Prosperity - Pres. Reagan (1980-1988) leads the country to great prosperity.
   
3. Pride - "Yuppies", BMWs, etc.
   
4. Contention - Conservatives vs. Liberals.
   
5. Rebellion - Elect Barrack Obama (Just kidding).
   
6. War/Invasion - The 1990 Gulf War, Sept 11, 2001 Terrorist Attack, Afghanistan War (2001) and Second Iraq War (2002).
   
7. Disasters - Hurricane Katrina, etc.
   
8. Famine - Rising unemployment and falling market.
   

1870-1920
(Added Feb 2, 2009)

1. Humility - We just finished the Civil War.
   
2. Prosperity - Reconstruction Era.
   
3. Pride - Monopolies, Imperialistic foreign policy.
   
4. Contention - Labor Unions, Tariffs, U.S Supreme Court upholds racial segregation (1896).
   
5. Rebellion - Great Railroad Strike (1877), Haymarket Riot (1886), Riots of 1892.
   
6. War/Invasion - Philippine-American War (1898), Spanish-American War (1898), intervention in Nicaragua (1909), occupation of Haiti (1914), World War I (1917), conquered Cuba, annexed Hawaii and Puerto Rico.
   
7. Disasters - San Francisco Earthquake (1906), Wellington Avalanche (1910), The Great Dayton Flood (1913), Hatfield Flood (1916), Spanish Flu Pandemic (1918).
   
8. Famine - I think the disasters took care of any need for famine.
   

My Prediction (Revised Nov. 20, 2008)
The stock market needs to drop to the level of the relative CPI again. Depending on where the bottom is, these are the values for the growth curve for the next few decades.

Date	DJI Average Baseline
12/1/2008	1660
1/1/2010	1717
1/1/2015	2007
1/1/2020	2343
1/1/2025	2734
1/1/2030	3188

It is possible that our economy is growing faster due to technical innovations, however the CPI and GDP don't necessarily show it.

Today, the Dow dropped below 8000 (7552 on Nov 20th). This seems alarming, but I think it still has a ways to go. My prediction is the DJIA will drop below 2500 within 10 years. While this is about an 80% drop, there was a bigger drop from 1929 to 1932 when it fell 90%.

Of course this is my opinion based on limited analysis and I do not recommend making any decisions based on this related to stocks. I do recommend staying out of debt, making purchases with cash, and working towards reaching "Humility" as soon as possible.