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Nautilus Capital Research www.nautilus-cap.com
The Case for a Cyclical Top May 25, 2011
Tom Leveroni, CFA Market Strategy Research Sales: John Karle, CFA 203-353-7620
James Cutting, CMT Technical Analysis
Shourui Tian, PhD Quantitative Analysis James Cutting, CMT 847-615-1618
The Case for a Cyclical Top
A Summary of Recent Commentaries
In our 2011 market outlook (1/5/2011), we detailed our forecast that the SPX cyclical bull market off the March 2009 lows
would likely continue up to the 1350 level this year before succumbing once again to the ongoing secular headwinds of a
generational deleveraging. With the first half of that prediction recently achieved on April 26th with an SPX close of
1355.66 , now is the time to address the likelihood of the second part — i.e. the onset of a new cyclical bear market for
stocks. In this report, using highlights from recent commentaries, we argue that data subsequent to our beginning of the
year forecast largely support our case and suggest that long-term risks now far outweigh rewards. Tactically, we are not
ruling out marginally higher highs in stocks in coming weeks, but would judge our call wrong if the SPX rally were to ex-
tend above 1410 (5% above recent high) and/or beyond this December. We expect the impending bear market will take
the SPX down 20% or more (below 1100).
Part I: Unfinished Secular Business:
Page 2 — Technical Profile of Secular Bear Markets (from 5.17.11)
Page 3 — Secular Excesses Remain
Page 4 — Secular Headwinds Swirling Again
Part II: Signs Warn of a Cycle Turn
Page 5 —– Technical Profile of Cyclical Bull Markets within Secular Bears (from 5.9.11)
Page 6 —– Deteriorating Technical Momentum (from 5.16.11)
Page 7 — Defensive Leadership (from 5.11.2011)
Page 8 — Excessive Optimism on Stocks
Page 9 — Decoupling of Stocks and Bonds (from 5.18.11)
Page 10 — Slowing Growth (from 5.2.11 and 5.10.11)
Page 11 — Rising Inflation (from 2.16.11)
Page 12 — Oil Shock (from 2.25.11)
Page 13 — Dr. Copper (from 3.22.11)
Page 14— Commodity Reversal (from 5.6.11)
Page 15 — Emerging Market Woes (from 5.3.11 and 5.19.11)
Part III: Handicapping the Next Cyclical Bear Market
Page 16 — Spotting the Top (from 5.20.11)
Page 17 — The Retest Pattern (from 3.29.11)
Page 18 — Forecast
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 1 of 19 The Case for a Cyclical Top
Part I: Technical Profile of Secular Bear Markets
— Excerpt ‘Daily Market Outlook,’ 5/17/2011
Inflation Adjusted Stock Returns
Today’s note takes a long-term view of inflation adjusted stock
returns. It has been our consistent contention that the current
cyclical rally, begun in March 2009, is taking place in the con-
text of an “incomplete” secular bear environment. The charts on
this page establish the empirical evidence for our view, with the
following key points:
1) The current cycle is running into all kinds of time
and price resistance (see chart left). It is very common for cy-
cles to retrace 62% (key Fibonacci ratio) of the prior cycle
2) Current 11 year secular decline is far short of the
average 19 year duration on the previous 4 secular bear periods
— chart below
3) The last cyclical decline in a secular bear period has
been particularly nasty when adjusted for inflation, averaging
58% over 5 years — see 4 charts at bottom.
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 2 of 19 The Case for a Cyclical Top
Part I: Secular Excesses Remain
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 3 of 19 The Case for a Cyclical Top
Part I: Secular Headwinds Swirling Again
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 4 of 19 The Case for a Cyclical Top
Part II: Technical Profile of Cyclical Bull Markets Within Secular Bears
— Excerpt ‘Daily Market Outlook,’ 5/9/2011
SPX Analog Update
The key development last week, in our view, was the 9% plunge in commodity prices (CRB Index). Our analysis in Friday’s note on large commodity
price declines coming off one year highs suggested that that was the type of action often seen around cyclical peaks in the economy and the stock market.
Duration On page 2, we add another variant of that analysis by looking at other
SPX Cyclical Bulls in Bull Duration % Decline of
Bull % Return Months of Next times when both the SPX and CRB had made one year highs in the past
Secular Bears Months Next Bear
Bear month, but the CRB had underperformed by > 7% (as is the case cur-
1907-1909 24 90% -27% 22 rently). We find only 6 occurrences since 1957 (the start of our daily
1911-1912 12 29% -44% 22 CRB daily) and there is strong bearish forward bias for both commodi-
1914-1916 23 107% -40% 13 ties and stocks. More importantly, 4 of the 6 signals were dead on cy-
1917-1919 22 81% -47% 22 clical peaks in SPX in 1976, 1980, 1990, and 2000. With this thought
1932 - 1934 19 169% -23% 6
in mind, we review our cycle analogs on this page of SPX cyclical bull
1935-1937 24 132% -54% 13
1938-1938 7 62% -46% 41 markets within secular bear periods. As one can in the charts below and
1966-1968 25 48% -36% 18 summarized in the table left, the current bull market (102% return over
1970-1973 32 74% -48% 21 26 months) has matched the average magnitude and duration of these
1974-1976 24 73% -19% 17 other historical recovery cycles. We continue to believe the market is at
1978-1980 33 62% -27% 21 high risk of cyclical peak and that further upside in SPX will limited to
2002-2007 63 96% -57% 17 1410. As for potential downside risk, using those same analogous peri-
AVERAGE 26 85% -39% 19 ods as a roadmap, the average bear market following these 12 cyclical
2009-Present 26 102% bulls was a 39% decline over 19 months.
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 5 of 19 The Case for a Cyclical Top
Part II: Deteriorating Technical Momentum
— Excerpt ‘Daily Market Outlook,’ 5/16/2011
Momentum Divergences At Cyclical Tops
The SPX fell –0.81% Friday and is off –1.89% so far in
the month of May, the beginning of its historically rocky
seasonal stretch. Our macro stance remains that the SPX
will make its cyclical top this year, and probably sooner
rather than later. One of our arguments for that view is that
technical momentum, as measured by the number of stocks
on the NYSE making new 52 week highs, has deteriorated
sharply and pales in comparison to the momentum of a year
ago as shown in the chart left. The charts below overlay
the last 11 cyclical tops in SPX (ones leading to a > 20%
decline) with NYSE new 52 week highs (source:global
financial database). As one can see, the current 13 month
momentum divergence is consistent with the 10 month
average lead time experienced at other cyclical tops.
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 6 of 19 The Case for a Cyclical Top
Part II: Defensive Leadership
— Excerpt ‘Daily Market Outlook,’ 5/11/2011
Defensive Leadership
We have been noting the rise of defensive leadership for several
months now but yesterday’s action really stood as a clear exam-
ple. Only 4 out of the 10 SP sectors made new highs yesterday
and all four were defensive — Healthcare, Utilities, Staples, and
Telecoms. Even if one removes those sector distinctions, and
just looks at Beta or volatility of each of the 500 SPX stocks,
one clearly sees that investors have clamored for more conserva-
tive issues of late. The chart right shows the SP500 High Beta
Index (SP5HBI) overlaid with the SP500 Low Volatility Index
(SP5LV1). In the past 3 months, Low vol stocks are up 6.56%
while High beta is down –0.56%. We view the current relative
deterioration of riskier stocks as consistent with our macro view
that the cyclical topping process has begun for SPX — see chart
bottom right.
20 Lowest and Highest Beta Stocks in SP500
3 Month Total
Ticker GICS Sector BETA
Return %
FDO Consumer Discretionary 0.54 20.94%
WMT Consumer Staples 0.58 1.06%
GIS Consumer Staples 0.58 9.45%
K Consumer Staples 0.60 8.16%
CLX Consumer Staples 0.60 -1.66%
HSY Consumer Staples 0.61 14.03%
CL Consumer Staples 0.61 9.07%
ABT Health Care 0.61 17.08%
HRL Consumer Staples 0.61 14.43%
SO Utilities 0.62 6.22%
CPB Consumer Staples 0.62 -1.09%
KR Consumer Staples 0.63 8.90%
AZO Consumer Discretionary 0.64 9.79%
LO Consumer Staples 0.64 42.01%
KMB Consumer Staples 0.64 3.88%
JNJ Health Care 0.64 9.32%
MKC Consumer Staples 0.64 10.36%
DF Consumer Staples 0.65 22.77%
MCD Consumer Discretionary 0.65 5.55%
BAX Health Care 0.65 14.93%
MU Information Technology 1.64 -6.10%
FITB Financials 1.65 -15.68%
MWW Information Technology 1.66 -1.83%
ZION Financials 1.68 -3.09%
GCI Consumer Discretionary 1.68 -13.09%
JOYG Industrials 1.69 -0.98%
AKS Materials 1.70 -3.73%
MI Financials 1.70 8.41%
TIE Materials 1.71 1.64%
HST Financials 1.73 -11.48%
PFG Financials 1.74 -1.38%
PLD Financials 1.74 6.94%
ATI Materials 1.75 7.26%
MEE Energy 1.78 -0.52%
JNS Financials 1.78 -15.53%
CBG Financials 1.80 13.37%
LNC Financials 1.82 -4.53%
HIG Financials 1.83 -6.91%
CLF Materials 1.89 2.48%
GNW Financials 2.01 -17.22%
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 7 of 19 The Case for a Cyclical Top
Part II: Excessive Optimism On Stocks
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 8 of 19 The Case for a Cyclical Top
Part II: Decoupling of Stocks and Bonds
— Excerpt ‘Daily Market Outlook,’ 5/18/2011
Stocks and Yields Decoupling; Small-caps Breaking Down
Today’s note makes two observations that support our case that the end of the
current stock cycle could be upon us. The first is that the stocks and bond yields
appear to be decoupling — i.e. deviating from the positive correlation (stocks
and yields moving in same direction) that has been the norm since 1998. We
are struck by the current decline in yields (10yr yield down 50 bps in past
month) in the face of generally rising stock prices as shown in the chart left.
One could easily rationalize this divergence citing the Fed’s artificial manipula-
tion of yields thru quantitative easing. We believe, however, there is a lot more
to the current drop in yields than mere Fed buying and that it more likely marks
an important shift in economic expectations that has occurred prior to both of
the last two cyclical SPX peaks in 2007 and in 2000 as shown in the charts
below. Our second observation is that the relative weakness we have been
awaiting in small-caps PRIOR to an SPX peak could finally be occurring now.
The chart at the bottom of the page shows that small-cap relative performance
tends to suffer after the Russell 2000 falls to a new 2 month low, as occurred
yesterday. Further, we would note that the small-cap relative performance
peaked 3 weeks prior to the current SPX high on April 29th, fulfilling (for the
moment) one of our key requisite technical conditions for a cyclical peak in
SPX.
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 9 of 19 The Case for a Cyclical Top
Part II: Slowing Growth
— Excerpt ‘Daily Market Outlook,’ 5/2/2011, 5/10/2011
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 10 of 19 The Case for a Cyclical Top
Part II: Rising Inflation
— Excerpt ‘Daily Market Outlook,’ 2/16/2011
US Producer Price Index A Long-term Look at Inflation
All Commodities YoY NSA SP futures have clawed back up 4 points this morning to around 2 year highs, drawing ever
Cross Above 10% closer to our long standing 1350 cycle target. Reiterating our stance from the past few
Fwd SPX Monthly Returns 1792—Present weeks, we are growing increasingly concerned that little long-term upside remains for
stocks from this juncture with substantial downside risk as the current advance is occurring
SPX Fwd SPX Fwd SPX Fwd against a backdrop of a statistically overstretched trend, deteriorating technical momentum,
Date
3 Months 6 Months 12 Months excessive optimism, rising long-term interest rates, underwhelming credit growth, and un-
3/31/1793 -0.14% 6.36% 4.69% derperforming Emerging Markets. Another palpable global concern is rising inflation, as
11/30/1794 7.07% 11.93% 3.39% attested by the increasing incidence of food riots. Though the headline US PPI year over
12/31/1800 0.22% 1.10% 2.58% year % change, released this morning, showed a modest downtick to 3.6%, the monthly
10/31/1804 -2.20% -3.30% -6.59% +0.5% gain in core PPI was the largest increase in 28 months. In the chart below, we pro-
2/28/1809 2.15% 1.08% -1.07% vide a very long-term perspective on the relationship between stocks and inflation and the
10/31/1812 2.27% 2.27% 1.14% conclusion is straight forward — elevated levels of inflation are bad for stocks. The data is
2/28/1822 -5.66% -6.60% -9.43% the US PPI All Commodities Year over Year % Change (PCACYOY Index in Bloomberg)
3/31/1835 6.36% 1.12% -2.80%
as goes back to 1792 (source: Global Financial Database). As one can see in the chart be-
8/31/1836 -6.02% -20.00% -10.81%
low, the current 5.7% yearly gain in this inflation gauge remains in a zone that has histori-
cally been bearish for stocks. The real danger zone to watch in coming months, however,
2/28/1839 0.50% -8.47% -14.95%
would be a yearly inflation rate of greater than 10% as shown in the table left.
8/31/1845 9.60% 6.24% -2.90%
4/30/1847 8.99% -3.37% -7.87%
7/31/1852 4.95% 2.97% -2.97%
9/30/1853 -1.05% 1.05% -18.95%
1/31/1854 -1.07% -15.96% -21.28%
4/30/1857 -10.30% -38.23% -14.71%
3/31/1862 12.91% 35.49% 63.09%
5/31/1862 8.95% 29.85% 60.01%
10/31/1879 5.54% -3.27% 13.85%
9/30/1881 -3.84% -6.06% -1.21%
5/31/1882 9.85% 2.85% 2.63%
4/30/1898 8.21% 9.24% 27.52%
8/31/1899 -5.49% -1.73% -8.95%
9/30/1902 -1.28% -9.57% -26.95%
6/30/1907 -18.43% -15.85% -2.70%
9/30/1909 -1.47% -4.99% -8.90%
2/28/1910 -8.63% -10.54% -6.43%
3/31/1912 0.00% 2.61% -8.34%
11/30/1915 -3.27% -1.27% 3.38%
9/4/1918 -1.63% 7.58% 21.55%
8/6/1919 0.92% -0.26% -13.03%
12/3/1919 -5.64% -12.35% -19.06%
1/3/1923 -7.86% -11.97% -6.86%
10/2/1933 8.79% -2.80% -3.44%
3/1/1937 3.29% -24.75% -41.00%
6/2/1941 -8.48% -15.21% -17.62%
7/1/1946 -11.88% -7.33% -8.02%
5/1/1948 -7.52% -9.25% -15.49%
10/2/1950 11.74% 10.30% 17.27%
3/1/1973 1.17% 1.23% -15.57%
1/2/1979 2.91% 13.54% 18.05%
10/3/2005 2.50% 1.65% 12.10%
1/2/2008 5.24% -3.59% -44.76%
3/3/2008 -8.53% -30.08% -37.01%
AVG 0.09% -2.69% -3.37%
AllMonthsAVG 1.04% 2.10% 4.36%
T-Stat -0.90 -2.39 -2.46
# Up 22 19 14
# Down 21 25 30
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 11 of 19 The Case for a Cyclical Top
Part II: Oil Shock
— Excerpt ‘Daily Market Outlook,’ 2/25/2011
Oil Spike Raise Risks of Higher CPI, Bear Market in Stocks, and Recession
The SPX fell –0.10% yesterday for a third straight decline off the Feb 18th high though the rebound late in the day has continued this morning with the
moderation of oil prices. Though the $7 reversal off oil’s intraday high might have generated a sigh of relief for stock bulls, our note this morning suggests
the longer-term damage to the economy, and hence the stock market, might already be done. In the analysis below, we define an oil “spike” as a 50% rise
in Brent crude oil over a 6 month period, as has occurred this week with the spectacular advance from 73 to 110 since August on the heels of Mideast tur-
moil. The table below summarizes forward results for the SPX, Brent Crude, US CPI, and US GDP. The chart below shows all these defined oil spikes
over the past three decades relative to the onset of increases in CPI and economic recessions. One noteworthy observation is that oil spikes have tended to
come in twos, with the first one generally signaling the start of a cyclical topping process for the SPX and the second one providing the nail in the coffin a
few months after the SPX peak. Similar to our comments in recent days on negative breadth surges near highs and increases in volatility (VIX), we believe
the current oil spike is another piece of evidence supporting our belief that a cyclical “topping process” has likely begun in the SPX. With the SPX essen-
tially achieving our longstanding 1350 cyclical bull market target last week — and against a backdrop of a statistically overstretched trend, slowing techni-
cal momentum, excessive optimism, rising long-term interest rates, rising inflation, lagging emerging markets, stagnant credit growth and real estate market
— we are willing to now bet that very little upside remains for the SPX from this point. We will have much more to say in coming weeks about what to
expect during that process but, in preview, it would not preclude a little more marginal upside and could generally drag on for many months before the next
Bear market decline would reach full force.
Forward Returns After Brent Crude Rises 50% in 6 Months (1988-Present)
SPX Forward % Return After Brent Crude Forward % Return After CPI % Change GDP Yearly % Rate
12 Months
Event Date 1 Month 3 Months 6 Months 12 Months 1 Month 3 Months 6 Months 12 Months 3 Months 6 Months 12 Months At Signal
later
3/31/1989 5.01% 10.76% 18.22% 15.57% -4.90% -10.78% -8.63% -6.44% 1.23% 1.88% 4.75% 4.1 2.7
8/22/1990 -1.60% 0.15% 15.30% 23.39% 9.80% 0.70% -42.23% -34.45% 2.22% 3.22% 4.37% 2.5 -0.7
6/4/1999 4.78% -0.28% 6.12% 11.26% 13.35% 33.25% 51.73% 82.09% 0.42% 1.45% 3.13% 4.9 4.2
10/10/2000 3.23% -6.39% -15.94% -20.87% -0.53% -20.94% -20.63% -31.30% 0.58% 1.44% 2.59% 4.1 0.6
5/20/2002 -5.01% -15.78% -16.67% -15.77% -6.94% 0.00% -11.49% -2.77% 0.39% 1.06% 2.18% 1.6 1.5
10/4/2004 -0.41% 6.90% 4.07% 8.06% 1.88% -15.20% 20.03% 35.96% 1.00% 1.74% 4.74% 3.1 3.1
7/16/2007 -6.23% 1.01% -8.60% -21.59% -9.18% -0.97% 19.26% 83.46% 0.63% 2.04% 4.86% 1.8 1.2
6/6/2008 -7.96% -6.11% -37.88% -30.98% 4.89% -17.17% -65.16% -52.41% 1.77% -1.10% -1.15% 1.9 -3.8
6/1/2009 -1.66% 9.03% 15.76% 13.56% 4.44% 9.25% 12.49% 4.53% 0.81% 1.55% 2.13% -3.8 2.4
2/23/2011 2.8
AVG -1.10% -0.08% -2.18% -1.93% 1.42% -2.43% -4.96% 8.74% 1.01% 1.48% 3.07% 2.3 1.2
AllMonthsAVG 0.64% 1.86% 3.82% 7.80% 1.07% 3.47% 7.18% 13.18% 0.64% 1.34% 2.69% 2.6 2.5
T-Stat -1.10 -0.69 -0.95 -1.45 0.14 -1.06 -1.03 -0.27 1.74 0.36 0.57 -1.59
# Up 3 5 5 5 5 3 4 4 9 8 8 7
# Down 6 4 4 4 4 5 5 5 0 1 1 2.0
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 12 of 19 The Case for a Cyclical Top
Part II: Dr. Copper
— Excerpt ‘Daily Market Outlook,’ 3/22/2011
10 Reasons to Sell Copper
In our March 8th “Dr. Copper” piece we presented an objective measurement for
signaling long-term copper tops (i.e.. a 10% decline after a tripling of copper price)
and noted the proximity of the next signal. We further linked these historical cop-
per peaks, as a leading indicator, to cyclical tops for both stocks and the economy.
Since that note, copper fell further triggering a 10% decline on March 15th, after a
2 year run up of 267%. Over the past week, copper has since bounced 5% offering,
in our view, an ideal tactical opportunity to place long-term bearish bets. Below,
we provide 10 reasons to make that bet:
1) Long-term Top Study (see table below): there have only been 8 other times
in history (back to 1800, source: GFD) that copper has tripled off a low then
declined 10%. All 8 times copper was lower 1 year out and 3 years out by an
average amount of 30%
2) Bearish Near-term Momentum Study (see March 8th note): since 1989,
there is a strong bearish statistical bias for copper 3-6 months after making a
new 6 week low for first time in 6 weeks, as occurred recently on March 9th.
3) Waning Technical Momentum: recent peak (Feb 14th) occurred on declin-
ing open interest, declining volume, and declining price RSI
4) Institutional Exuberance: “Large Spec” net long positions in futures
(mainly hedgefunds) reached a 6 year high last month at + 32,000 contracts
5) Retail Exuberance: the 50 day average of retail bullishness reached 80%
bullish last month (source: Daily Sentiment Index, trade-futures.com), the
highest in 5 years. Also, shares outstanding (money flow) into the JJC
(copper ETF) has plunged 19% in the past 3 weeks after a bubbly mountain of
inflow since its launch in 2008
6) Technical Resistance: at every time frame — see 3 charts right
7) Contango in Forward Curve: copper futures have spent much of the last
decade in backwardation, a condition reflecting tight supplies. The forward
curve (front month / 12th month) has now fallen back into contango in recent
weeks
8) Housing Starts Plunge: the bear market in housing appears to be getting
worse, as witnessed by last week’s multi decade low in Housing Starts
9) China Copper Imports Plunge: (CNIVCOPP Index in Bloomberg) in Febru-
ary fell to their lowest level since the 2008 crisis, reflecting China’s attempt to
cool inflation and its real estate market with more restrictive monetary policy
10) Inventories Rising : Comex Copper inventories have jumped 32% since the
beginning of the year
Signal of a Long-term Copper Top
Forward Copper Returns After Declining 10% After a > 200% Rally, 1800-Present [Datasource: Global Financial Database]
Event Date 1 Month 3 Months 6 Months 1 Year 2 Years 3 Years
4/30/1865 -9.09% -18.18% -25.45% -9.09% -17.27% -40.00%
12/21/1916 -8.00% 16.00% 0.80% -24.80% -16.80% -43.20%
4/5/1937 -14.71% -17.65% -17.65% -41.18% -33.82% -26.47%
7/9/1956 -13.04% -13.04% -21.74% -36.41% -45.65% -31.52%
4/20/1966 -4.13% -1.76% -23.44% -42.89% -38.69% -21.07%
5/16/1974 -16.03% -31.15% -47.51% -53.32% -43.19% -50.00%
12/29/1988 6.40% 1.59% -21.53% -24.99% -17.39% -31.04%
6/1/2006 -4.08% -3.18% -12.34% -4.65% 1.13% -35.65%
3/15/2011
AVG -7.84% -8.42% -21.11% -29.67% -26.46% -34.87%
AllDaysAVG 0.34% 1.03% 2.12% 4.01% 7.85% 11.30%
T-Stat -3.16 -1.83 -4.82 -5.60 -5.87 -13.26
# Up 1 2 1 0 1 0
# Down 7 6 7 8 7 8
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 13 of 19 The Case for a Cyclical Top
Part II: Commodity Reversal
— Excerpt ‘Daily Market Outlook,’ 5/6/2011
What Yesterday’s Commodity Collapse Could Mean
Driven by historic declines in silver and crude oil, the CRB Index fell –4.90% yesterday only a few days removed from making a 2.5 year high. We studied
large 1-day commodity declines back to 1957 and, without ay filters, found no significant forward directional bias for either the CRB or the SPX. How-
ever, when isolating declines that occurred in the vicinity of a one year high in CRB, we do see some significant tendencies. Specifically, the CRB & SPX
returns after those sharp CRB declines near a high are summarized in the table and chart below. As one can see, there tends to be a strong CRB rally over
the next 3-5 months before fizzling out. In contrast, the SPX, while also bouncing near-term, eventually succumbs to a significant decline over the next
year that is over 20% peak to trough on average — i.e. a bear market. Similarly, looking back even further (1914-present) on monthly data, we find that
the current pattern in CRB, an 8% decline after a 50% rally, is a typical precursor of bear market declines for stocks while it is less bearish for commodities
themselves — see table and chart at bottom.
CRB & SPX Daily Returns After CRB has a 3 standard deviation decline within 2 weeks of a 1 Year High, 1957-Present
CRB Forward Daily % Return SPX Forward Daily % Return
Event Date 1 Day 20 Days 60 Days 252 Days 1 Day 20 Days 60 Days 252 Days
3/1/1961 -0.32% -1.33% 1.79% -0.23% 0.66% 2.36% 4.46% 10.67%
11/18/1963 -0.52% -1.01% -0.81% -1.30% 0.10% 3.90% 7.87% 19.77%
10/20/1969 0.00% 0.87% 1.16% 2.22% 0.77% -0.05% -4.96% -12.63%
11/18/1969 -0.19% 0.39% -0.19% 0.58% -0.51% -7.46% -10.22% -13.64%
10/2/1972 0.17% 0.41% 12.78% 58.09% 0.13% 0.39% 7.16% -1.59%
12/13/1972 0.45% 1.34% 9.90% 48.47% -0.27% -0.10% -3.02% -21.31%
12/18/1972 -0.53% 3.70% 11.78% 49.85% -0.48% 1.67% -4.05% -18.89%
3/13/1973 0.20% -2.10% 13.92% 46.98% 0.44% -1.98% -7.55% -13.39%
6/6/1973 -1.76% 5.39% 14.05% 12.18% 1.47% -2.43% -0.41% -13.42%
5/18/1987 0.14% 1.35% -2.26% 4.77% -2.45% 6.32% 15.96% -9.75%
6/29/1988 1.67% -7.19% -8.17% -10.00% 0.93% -1.83% -0.45% 20.23%
7/11/1988 1.44% -2.34% -5.96% -9.87% -1.00% -0.21% 0.03% 20.87%
8/5/1993 -0.49% -0.94% 0.31% 6.77% 0.12% 2.94% 4.40% 2.29%
6/20/1994 -0.25% -0.29% -1.91% 0.71% -0.91% -0.36% 2.92% 19.70%
7/5/2000 -0.69% 0.52% 2.73% -6.29% 0.72% -0.52% 0.83% -15.70%
3/17/2008 1.92% 4.59% 11.85% -45.50% 4.24% 4.53% 4.61% -39.05%
3/19/2008 -1.69% 8.02% 14.83% -41.98% 2.39% 5.17% 4.74% -39.62%
11/12/2010 0.80% 5.36% 11.80% -0.12% 3.44% 10.15%
11/16/2010 -0.27% 7.64% 14.03% 0.02% 4.83% 12.80%
3/15/2011 0.01% 6.18% -1.95% 2.52%
5/5/2011
AVG 0.00% 1.53% 5.35% 6.79% 0.22% 1.16% 2.38% -6.20%
AllDaysAVG 0.01% 0.22% 0.67% 3.09% 0.03% 0.57% 1.71% 7.26%
T-Stat -0.03 1.53 2.64 0.52 0.58 0.80 0.43 -2.85
# Up 9 13 13 10 12 11 12 6
# Down 10 7 6 7 8 9 7 11
CRB & SPX Monthly Returns After CRB declines 8% After Rallying > 50%, 1914-Present
CRB Monthly % Return SPX Monthly % Return
12
Event Date 1 Month 3 Months 6 Months 1 Month 3 Months 6 Months 12 Months
Months
Jul-17 2.44% 6.21% 8.47% 9.34% -2.96% -12.63% -17.02% -14.74%
May-23 -6.82% -7.12% -2.73% -16.86% -7.71% -4.47% -2.57% -1.89%
Aug-33 -2.32% -6.56% 3.09% 8.88% -11.35% -10.90% -3.06% -17.59%
May-37 -4.09% -5.45% -21.25% -32.83% -5.27% -1.32% -31.68% -42.99%
Apr-47 -5.34% -7.56% 13.55% 5.87% -0.92% 8.12% 5.79% 6.13%
Jun-51 -4.66% -4.16% -4.28% -14.47% 6.87% 10.97% 13.41% 19.08%
Oct-73 3.02% 16.75% 10.18% 20.79% -11.39% -10.82% -16.60% -31.76%
Mar-80 0.04% 11.01% 23.80% 15.66% 4.11% 11.90% 22.89% 33.22%
Sep-06 0.09% 0.55% 3.70% 9.19% 3.15% 6.17% 6.36% 14.29%
Jul-08 -5.93% -35.55% -47.08% -38.17% 1.22% -23.56% -34.84% -22.08%
May-11
AVG -2.36% -3.19% -1.26% -3.26% -2.42% -2.65% -5.73% -5.83%
AllMonth-
0.20% 0.70% 1.47% 2.92% 0.59% 1.84% 3.70% 7.70%
sAVG
T-Stat -2.26 -0.87 -0.43 -0.94 -1.48 -1.19 -1.57 -1.77
# Up 4 4 6 6 4 4 4 4
# Down 6 6 4 4 6 6 6 6
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 14 of 19 The Case for a Cyclical Top
Part II: Emerging Market Woes
— Excerpt ‘Daily Market Outlook,’ 5.3.11 & 5.19.11
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 15 of 19 The Case for a Cyclical Top
Part III: Spotting the Top
— Excerpt ‘Daily Market Outlook,’ 5/20/2011
# of Trading Days Cyclical Top Patterns
Cyclical Bull At the start of the year, in our 2011 outlook, we forecasted a cyclical top in SPX around the 1350 level in SPX by August of this
Spent Within 5% of
Market Peak year. We have spent the time since then highlighting the many leading indications that our forecast remains on track, for example:
Price Peak
diminishing NYSE new highs, defensive leadership, small-cap under-performance, EM underperformance, crude oil spike, copper
1/19/1906 23 weakness, decoupling of stocks and bond yields, etc… We now feel there is enough evidence to start shifting from “leading” indi-
11/19/1909 113 cators to the more coincident or even lagging signs of a cyclical top. Today’s note proposes three technical conditions to watch
166 that have generally occurred at, or just after, the last 23 cyclical tops since 1900. The first observation is that cyclical tops take a
9/30/1912
long time to form. The table left shows that, on average, the market spends 120 trading days (6 months) within 5% of the final
11/21/1916 32 price peak, both before it and after it. Then, the typical first technical trigger near the top is the occurrence of the 3 month rate of
11/3/1919 18 change turning negative having been positive for a long stretch. Currently, the SPX has spent 80 trading days within 5% its April
22 29th peak (so, in the ball-park) and its 3 month rate of change is just turning negative right now — see chart below. The second
9/3/1929
and final trigger, one’s last chance to recognize the top, is typically a “retest” pattern where the market retraces about 2/3rds of the
2/5/1934 195 initial decline off the peak. The six charts below (1909,1937,1962, 1966, 1981, 2007) hopefully provide clear examples of what
3/10/1937 47 to look for, but feel free to contact us for further discussion.
11/9/1938 54
5/29/1946 123
6/15/1948 117
8/2/1956 165
12/12/1961 101
2/9/1966 251
11/29/1968 153
1/11/1973 80
9/21/1976 212
11/28/1980 187
8/25/1987 41
7/16/1990 237
7/17/1998 69
3/24/2000 193
10/9/2007 170
Current 80
Average 120
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 16 of 19 The Case for a Cyclical Top
Part III: The Retest Pattern
— Excerpt ‘Daily Market Outlook,’ 3/29/2011
Cyclical Top “Retest” Table The Retest Pattern
The SPX fell –0.27% yesterday, nearly staging an outside day reversal, on
Retest Re- Retest Dura- the heels of a weakening in commodity prices that is spilling into today’s
Cyclical Top Initial Decline
Retest Date tracement tion (trade
Date %
Percentage days) session. The rally since the March 16th low has retraced two thirds (66%)
of the decline off the Feb 18th high. At the risk of being overly provoca-
6/17/1901 -12% 8/26/1901 51% 34
1/19/1906 -10% 4/3/1906 52% 50
tive, today’s note provides some reason to carefully consider the impor-
11/19/1909 -4% 12/29/1909 73% 27 tance of the current juncture. We have already clearly established our
9/30/1912 -5% 11/21/1912 39% 37 longer-term view — i.e. that a
11/21/1916 -21% 3/20/1917 48% 80 cyclical top in SPX will made
11/3/1919 -13% 1/5/1920 33% 40 this year from around our
9/16/1929 -10% 10/10/1929 67% 18 1350 bull market target. The
7/18/1933 -21% 8/28/1933 63% 29 table to left of the 23 cyclical
3/10/1937 -19% 8/13/1937 61% 109
tops over the past century
11/9/1938 -11% 1/4/1939 62% 36
5/29/1946 -10% 8/14/1946 43% 53
highlights a relatively consis-
8/2/1956 -10% 11/5/1956 58% 66 tent tendency for tops to be
12/12/1961 -7% 3/15/1962 67% 64 “retested” within a month or
2/9/1966 -7% 4/21/1966 76% 49 two of the top. The median
11/29/1968 -10% 5/14/1969 79% 109 percentage retracement of the
1/11/1973 -8% 3/14/1973 44% 42 initial decline is 62% in the
9/21/1976 -8% 12/31/1976 96% 70 span of a median 42 trading
11/28/1980 -9% 1/6/1981 82% 25
days putting the current SPX
8/25/1987 -8% 10/5/1987 67% 28
juncture (66% retrace in 24
7/16/1990 -9% 8/16/1990 17% 23
7/17/1998 -10% 8/19/1998 28% 23
trading days) right in that historical wheelhouse. Though we are still al-
3/24/2000 -11% 9/1/2000 96% 112 lowing for more wiggle room for the final top to be made (1350-1410 zone
10/9/2007 -10% 12/10/2007 69% 43 thru the end of 2011), a roll over from the current juncture will be pretty
MEDIAN -10% 62% 42 concerning in light of these historical retest patterns.
2/18/2011 -6% 3/25/2011 66% 24
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 17 of 19 The Case for a Cyclical Top
Part III: Forecast
Duration Months of Next
SPX Cyclical Bulls in Secular Bears Bull Duration Months Bull % Return % Decline of Next Bear
Bear
1907-1909 24 90% -27% 22
1911-1912 12 29% -44% 22
1914-1916 23 107% -40% 13
1917-1919 22 81% -47% 22
1932 - 1934 19 169% -23% 6
1935-1937 24 132% -54% 13
1938-1938 7 62% -46% 41
1966-1968 25 48% -36% 18
1970-1973 32 74% -48% 21
1974-1976 24 73% -19% 17
1978-1980 33 62% -27% 21
2002-2007 63 96% -57% 17
AVERAGE 26 85% -39% 19
2009-Present 26 102%
** Market data provided by Bloomberg unless otherwise noted. SEE IMPORTANT DISCLOSURES ON THE LAST PAGE OF COMMENTARY
Nautilus Capital Research Page 18 of 19 The Case for a Cyclical Top
Disclaimer
Important Disclosure. The information provided in this material has been prepared by Nautilus Capital, LLC (“Nautilus”) for institutional investors and is
intended strictly for research and informational purposes only. This material is not intended for natural person individual clients and no claim or represen-
tation is made thereto. All information contained herein is considered current as of the date listed on the first page of this material. This material has been
prepared solely by Nautilus and is provided without warranty of any kind, either expressed or implied. All information, including that used to compile
charts, is obtained from sources believed to be reliable, but Nautilus does not guarantee their reliability. The information contained herein has not been
independently verified. When evaluating the results of any prior Nautilus trading models or recommendations, one should also consider that Nautilus may
substantially modify the methods it uses to evaluate investment decisions. Nautilus uses various methods to evaluate investments which may, at times,
produce contradictory recommendations with respect to the same securities. Pricing information listed in this material is indicative and is not intended as
an offer or solicitation for the purchase or sale of any derivative or other financial instrument. The opinions expressed herein are subject to change without
notice, and you should always obtain current information and perform due diligence before making any investment decision.
Nautilus, its owners, and its employees may buy or sell for their personal accounts, investment products identical to those analyzed and/or recommended in
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Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, invest-
ment strategy, or product made reference to directly or indirectly in this research material, will be profitable, equal any corresponding indicated perform-
ance level(s), or be suitable for every investor. Subsequently, investors must make their own investment decisions based upon their specific investment
objectives, financial situation, and utilizing their own financial advisors as they deem necessary. Nautilus, its affiliates, employees, and any third party data
provider, shall not have any liability for any loss sustained by anyone who has relied on the information contained in any Nautilus publication.
Hypothetical composite models developed by Nautilus are constructed to serve as a general directional forecasting guide for the corresponding index.
Models are typically prepared on a short-term and long-term basis. Each model is composed of several individual factors that are scored independently
based on their utility in forecasting the index in isolation.
The hypothetical performance results of the models have inherent limitations. No representation is being made that any investment will or is likely to
achieve profits or losses similar to those shown herein. In fact, there are frequently sharp differences between hypothetical performance results and the
actual results achieved by a particular investment or trading program. One of the limitations of hypothetical performance results is that they are generally
prepared with the benefit of hindsight. In addition, hypothetical trading does not involve financial risk, and no hypothetical trading record can completely
account for the impact of financial risk in actual trading. For example, the ability to withstand losses or to adhere to a particular trading program in spite of
losses are material points which can adversely affect actual results. Because hypothetical results do not involve actual trading, the results do not reflect the
deduction of transaction and custodial charges or the deduction of management fees, the incurrence of which will have a negative effect on actual perform-
ance. In addition, for reasons including variances in actual holdings; variances in fees and expenses charged; market fluctuation; the date on which invest-
ing begins; and any contributions or withdrawals; the performance for a specific investor may vary substantially from the information presented in this ma-
terial. There are numerous other factors related to the markets in general or to the implementation of any specific trading program which cannot be fully
accounted for in the preparation of hypothetical performance results and all of which can adversely affect actual trading results.
** Market Data used in proprietary modeling, charts and studies provided by Bloomberg
Nautilus Capital, LLC
www. nautilus-cap.com
James Cutting, CMT
Thomas Leveroni, CFA
Technical Analyst / Research Sales
Chief Market Strategist
james@nautilus-cap.com
tom@nautilus-cap.com
Phone: (847) 615-1618
Phone: (508) 883-1919
Cell: (847) 209-6200
John Karle, CFA
Shourui Tian, PhD
Institutional Trading
Quantitative Analyst
john@nautilus-cap.com
Shourui@nautilus-cap.com
Phone: (203) 353-7620
Nautilus Capital Research Page 19 of 19 Daily Market Outlook
