Kf Cycle update

Category: Winter Update

Created on 20 January 2014
Written by Rohit Srivastava

India's Kondratieff Cycle : By Rohit Srivastava


Catch Me If you Can - Like in the movie, its not easy.
Leonardo DiCaprio, is in the news on the street, and for some reason he, more often than not,
is found playing characters with an unsound mind, and doing it perfectly. As the street
displays greater confidence that the worst if behind us. My confidence goes up that the worst
only lies ahead. The winter cycles final leg will have sucked in all the money it can and the
subsequent contraction will see a decline across the board. The old saying "Don't catch a
falling knife" will be as true here as ever, as convinced investors will step into the next
decline to buy into the future. The market will challenge your catching skills, Its the market
challenging you - "Catch me if you can"
It will be impossible to tell whether the market makes a last spike up in response to
the RBI or not, factors keep deteriorating against any sustainable bull phase. The
wave structure remains of Z ending, Z marks the final leg of any corrective move up
or down after which trends reverse for 4-6 quarters. The chart below shows the over
all structure of what is forming. Once wave E of Z completes we should enter a bear
market for the rest of 2014. This would be the final phase of the Kondratieff winter in
which all stocks or sectors would face a setback allowing for corrective steps to be
taken so that the economy can move ahead clearly.


The Trade for the year ahead would be.
Sell Equities, Long USDINR, and Long Gold.
As discussed in Trading places - An asset class shift in the December LSR, apart from
Oil we have seen a rally in most commodities. While that in base metals might be
temporary and will last with a lag to equities till the world economy slows down,
Gold might hold out longer due to the Kondratieff winter. I will use two charts to
explain this phenomena.
First the chart from last months LSR that shows the business cycle.; Note that when
equities reach a high and turn ahead of the economy many times commodities
continue to trend up with a lag and top out later. For this reason i sported an asset
class shift ahead last month. We did get a rally in most commodities since then.
However crude prices gave up abruptly and might not be in this game right now.
Copper prices are still holding on and need to be watched for the next move. Gold
though fell initially and formed a double bottom near the 1180 mark between June
and December,
[B=bonds][E=equities][C=commodities]. This chart is based on the idealized Business
cycle by Martin Pring.


While commodities offered a near term trading opportunity based on this they
would top out leaving only Gold as the key commodity holding out during the next
bear phase. The basis for this is the Kondratieff cycle study by the Long wave Group.
In their recent November newsletter that you can read completely free at this Link,
they put out a more refined chart of the cycle. In the chart that I published in my
original article on India's Kf cycle they showed 200 years of data of interaction
between interest rates inflation gold equities and commodities, but unless you have
a sharp eye for it you would not notice the repetitive pattern in there. The simplified
chart put out by them below makes it clear what is visible in those charts. Note below
that bonds bottom [interest rates peak] just before the Autumn bull market. India
Witnessed this after 1996 when interest rates peaked and kept falling for years. Rates
are moving up right now [2004-2014] only as a pause in the face of an overheated
economy, once the Indian economy starts to cool off so will rates for a long time to
come. Next as we enter the winter phase the chart below makes it clear that Gold
goes up, commodities equities and real estate go down and bonds will bottom with
a lag [falling rates] and start rising later for a long time to come.

This model makes it very clear what to expect next. What has been most difficult is
that its taken longer than expected for most winter based forecasts to play out
around the world. This came to the discredit of Kf analysis. Two reasons why this
happened is that first Globalisation extended the Kf cycle in the US market for an
additional 10 years than what is normally expected. After that record monetary action
has kept building fresh bubbles but keeping the contraction from playing out
naturally. In the Indian context we have failed to fully take advantage of
globalisation. And now we are at a point where we want to choose monetary
expansion but inflation threatens us. It comes down to this, will we risk hyper
inflation to save the country of a debt ridden corporate sector. We will know in a
week. The good news is that the low level of debt in the government will give it a lot
of headroom to step in when the next economic crisis hits. Still the CPI chart for Rural
labourers shows the first sharp dip in months. Is this a temporary phenomena or a
clear trend change needs to be watched. Eventually a deflationary phase involves
falling inflation once growth peaks out. Interest rate risks that were so far associated
with only inflation going forward would be affected by local credit problems in the
private sector and global interest rates. Thus it might be too early to call the interest
rate peak in India, even as inflation finally gives in.


SOCIAL MOOD : MARKET IMPLICATIONS
The case for the role of social mood in economic cycles was brought to the fore by
R.N. Elliott and even more strongly by Robert Prechter. Negative social mood shows
up in events around us and in society and in mass movements. Politics remains the
biggest mirror of social mood as politicians will do everything to appease the
masses. That is why negative social mood also votes for change and in doing so
causes bull and bear markets. Then it should be possible for us to plot political and
social events with the markets. I will make a small attempt to show some
observations from history and what they might mean.
Mumbai has been witness to two very significant terrorist attacks in the last 20 years.
What amazed me is the timing of these attacks. The first one was in 1992, Mumbai
blasts that included the Bombay stock exchange. The timing was at the end of wave
Y of a bear market that was over 9 months old. Wave Y is the 3rd wave of a bear
market. In 1992 markets were in the Harshad Mehta scam bear market. Wave Y also
coincided with riots linked to the Babri Masjid event in 1992. Were these events
stand alone?


The next most significant attack was that on "The TajMahal Hotel" Mumbai, and this
occurred right after wave Y of the 2008 bear market ended. It was later followed by
clashes in Mumbai between locals over residency issues that brought the city to a
halt for a day. Both the events therefore in 1992 and 2008-09 occurred at the end of
3rd waves [Y].


As theory holds it markets reflect the mood and a fallen market reflects the already
negative social mood that manifests itself into social events. Societal tensions civil
war or war itself are many of the manifestations. But negative mood does not
develop in a day, and thus the events that show up in society occur after weeks or
months of development. Terrorist attacks probably involved months of planning but
the starting point of these moves lies in the changing mood as reflected in the
markets. Also the rise and fall of right wing and left wing parties or new populist
parties can be a function of the public mood. Let us delve into this a little further.
Let us look at the election dates of the entire Sensex history and see how the markets
responded to it. First 1979-1991. Markets were mostly dull before the elections but
moved up a lot afterwards. This was also a bull market, Spring season in the Kf sense.


1991-2003. 1996 was the only period that was followed soon after by a bear market.
In 1999, the bull did run for a few more months before the Y2K bug gave in. Note
that this was a period of coalition politics and several elections. What is also not
captured here is formation of multiple coalitions within the period after the election.
But then did the 'Chandrashekhar' or 'VP Singh' governments affect the markets in a
big way in the early 90s? Or did the 'Kesri government" do so later?


2003-2013. Two unusual elections because of the circuits they caused in the market.
But in both ocasions the market did well later.


My conclusion from the above charts is that where ever a government formed at the
center and held ground markets have done well during the one year after an
election. But when the economy was facing challenges, the social mood turned
negative and it voted in coalition governments and the behaviour or the market was
often contrary, either rising before the elections and falling thereafter or falling
before and rising thereafter. Sentiments played a greater role. In most cases however
markets were dull and range bound in the months before the elections especially
during the bull market years.
But what lies in the months ahead and what clues does social mood give? Based on
the wave count I have presented we are still within a bear market period and social
mood has been turning down, however it received two mood lifts inn 2009-2010, and
2012-2013. The manifestations are as below.
It should not be surprising that the mandate at the elections has started to get
fractured again as the mood is changing. What happened in Delhi might not be a
one off event. And the most recent process, that of the rise of the AAP started with
the 2010-2011 bear market. It needs no mention that it all started with the 'Anna
Hazare movement' that caught fire. And just when? 9 months into the 2010-2011
bear market and his fast got national attention, such that our own 'Amir Khan' had to
go and meet the man that won everyone's heart. But did you notice that the August
low at the end of the third wave [Wave Y] occurred exactly on the day that 'Anna'
broke his fast?. It should also not surprise you if you believe in the theory of social
mood that in the coming months as the market formed a bottom and started
another face lift recovery the original movement lost its initial momentum. And the
reason might be just this. Social mood began to Wax again [improve] as reflected in
the rising markets subsequent to that.


The AAP that formed later probably took a Longer term stance and stayed around.
Just in time for the next change in social mood...or were they early? Look at the
timing of the state elections. The preceding rising trend of the stock markets shows a
positive mood. But if you have seen my wave counts we are in wave Z of the advance
up since 2012, the last stage where social mood will already be turning down but has
not done so completely. Note 5 years into a bear market, 2013 was a bear market
rally that was in its 8th quarter, last leg. So even as the media wrote him off he made
a stellar debut, however his failure to get a landslide has to do with social mood
itself. Because the elections were held at the end of a period of social mood recovery
he was unable to win a landslide, the mood had not yet turned down completely in
his favor. If these elections were held a little later into a bear hug the outcome may
have been very different.


So will a bear market after wave Z as forecast in the months ahead mean a landslide
for the AAP? Not necessary but it can mean that they will have a big hand at the
center. However there is one more angle to the whole thing that I should not loose in
this analytic enthusiasm.
This might also explain the Congress win in 2009. The world has faced several
financial crisis in the past 5 years and that plays an important role in the larger
decision making process of the electorate. While social mood changes can cause a
shift in public vote to new parties or to left and right wings, it does not always
become a national mandate. There were several elections in the last couple of years
especially in the troubled parts of Europe, specifically Greece and France. At one
point as unemployment was high parties from the extremest groups gained traction.
However when it came to the formation of government they lost out in re-elections.
Why did this happen. It takes an extreme in mood for people to completely give up
on the current form of governance. Usually when the economic loss is so huge
already that there is nothing to lose people will vote for extreme change. But when
the chips are down but not out and faced with the threat of a future default and the
subsequent financial loss, people choose otherwise. So the fear that right wing
parties might have chosen to exit the Eurozone and cause more upheavals to the
economy became a larger fear than the desire for change. Thus it took the great
depression in the 1930s to see the rise of Hitler. Really! How far an extreme
movement succeeds depends a lot on how far the social fabric of the country has
already been dented. Therefore while people might vote for change they might
remain confused depending on how bad the economic conditions are in the next six
months. If faced with risk of loss like in 2009 they will vote back a strong government
to keep status-quo so that jobs are not lost and savings are not destroyed etc etc.
But if financial and economic losses have already been taken by the people and they
don't care, and they will vote for a new power. The next six months should be the
most interesting therefore as a study of this social mood outcome.