This week I thought I would revisit some charts involving historical PE's and the Inflation Adjusted S&P Composite as researched by Robert Shiller. The first chart shows that significant Secular Bear Market Lows in the Inflation Adjusted S&P Composite haven't occurred until the PE Ratio has dropped back to around the 7.0 level. This was the case in 1921, 1932 and 1982 (points A). Currently the PE Ratio based on Shiller's data is just above the 16 level. Meanwhile I have added the upward channel for the S&P Composite using a Log Scale as well and it will be interesting to see in the longer term if the bottom of this channel will eventually be tested before a Secular Bear Market Low occurs.
Next if we take a look at the Inflation Adjusted S&P Composite using a Linear scale instead of a Log scale notice the longer term upward trend line connecting the 1932 low and the 1982 low would eventually come into play near the 400 level if this current Secular Bear Market continues to drag out for several more years. Meanwhile the current chart of the S&P Composite looks similar to that from late 1960's through the mid 1970's as it developed an ABC affair which was then followed by a decent oversold bounce from late 1974 through the mid part of 1976 (points C to D). The current bounce from the March low is acting rather similar to what occurred back in the mid 1970's. Furthermore notice once the rally in the mid 1970's ended the Inflation Adjusted S&P Composite then went through an elongated correction over a 6 year period with the bottom not occurring until 1982 (points D to E). As mentioned above if you extend the longer term upward trend line out roughly 5 to 6 years it would eventually be around the 400 level by 2014 to 2015 so if a similar elongated correction were to develop then a drop to 400 certainly isn't that far fetched.
Meanwhile if you look at some historical charts of the S&P Composite the one period that also looks similar to the past few years is from the 1937 to 1938 time period. Both periods exhibited a nice 5 Wave corrective pattern to the downside in which they lost well over 50%. After the 5 Wave pattern ended in early 1938 this was followed by an ABC rally in which the S&P gained 62% over a period of 9 months. Meanwhile since the early March low the S&P 500 has gained 56% and if we see a similar pattern evolve then one should expect some type of Wave B pullback before the final C Wave occurs. Now considering how far Wave A has risen it's certainly possible Wave C will be shorter in length than Wave A and could peak somewhere in the 1121 to 1158 range as I have alluded to before. Also notice that after the ABC rally ended in late 1938 this was followed by an elongated correction through early 1942 (points C to D) as the S&P eventually retested the low made in early 1938.
Finally when looking for stocks to invest in a chart pattern to look for is called a Flat Base. Many times after a stock has moved higher it will consolidate for a period of time before rising again. For example IMMU rose from $1.00 to $2.75 from April through early June and then developed a Flat Base from June through early July before breaking out again with an eventual rise up to $7 just over a week ago.
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