Monday, July 20, 2009

A Key Insight

I mentioned a few posts back that for several months I've been doing some research on the stock market and stumbled upon the Elliott Wave Institute website. I read up on The Elliott Wave Principle, the underlying theory behind the science of Socionomics.

In short, the Elliott Wave Prinicple proposes that mankind is born with an internal mechanism the governs a collective social mood. This social mood moves in a repeating pattern and has a dynamic form that is self-similar from small to large degrees in what is called a robust fractal. So, at any given time, collectively, we are at some degree of hope or pessimism. The stock markets are the most immediate reflection of our collective social mood. Rising hope is reflected in a bull market. Increasing pessimism is reflected in a bear market. The Elliott Wave is reflected in similar form in an hourly chart, a weekly chart, monthly, on up to the scale covering the centuries that data is available, and the form repeats itself.

Socionomics studies all of the social implications of the wave theory. According to the premise, the Elliott Wave governs social, political, economic, and cultural trends. If this is true, isn't this a HUGE insight? If you know where you are on the wave, at all of the various degrees, you could predict with some reliable degree of probability where things are going, couldn't you? Robert Prechter, father of the science of Socionomics says, yes, absolutely.

I find this proposal fascinating. If we, society in general, are all moving in a similar direction and you understand the direction, it has tremendous implications for not only investing but also business forecasting and predicting trends in fashion and entertainment, not to mention having a deeper understanding of current social events.

Prechter and his followers say that entertainment trends are easily predictable. In a bull market, Disney movies, romantic comedies, and other light-hearted themes are popular. In a bear market, horror and monster movies ride the tops of the charts. Notice the popularity of vampires in the last few years? We've been in a large degree bear market since 2000. Prechter also predicted in his 2002 book Conquer the Crash, that newer, more brutal sports would become popular. Notice the UFC craze in the last few years?

What this means, if true, is that we (globally) are on the cusp of the biggest crash in about 300 years. That's what the Elliott Wave Prinicple shows on the charts. Big time, scary stuff.

Do I believe it? Yeah, I guess I do. I'm fairly educated. I've taken numerous classes in economics in business school and I think I have a pretty solid grasp of the fundamentals of modern economic theory. The funny thing is, economists' forecasts hardly ever agree with each other, and when a majority of them agree, they are invariably wrong. Ask twenty economists what caused the Great Depression and you'll get 20 different answers. And this 80 years after the fact. If they can't explain what already happened, how can they possibly hope to predict what is going to happen? The Elliott Wave Prinicple, from what I've learned in my studies, has a very good track record of forecasting the big trends, and with some degree of reliability, the smaller ones.

It's a difficult concept to grasp, this theory, because it proposes that our mood isn't affected by social events, but rather, social events are affected by our mood. It basically turns conventional wisdom inside out.

Gangsta rap doesn't make kids want to kill cops, they already want to kill them; the music is just an expression of their mood. Sure, you might have a few isolated incidents where a kid got inspired by a song, but I'm inclined to believe he was already leaning that way.

What about how the stock market jumps up and down on Fed announcements and earnings reports and so forth? Well, if you look at the charts, there might be a short term spike or drop, but the overall trend quickly kicks back in to correct it.

The implications of this theory are far reaching. I've only scratched the surface here, but my imagination can get carried away pretty easily as I observe what's going on around me from a socionomic perspective.

It's a powerful insight. It explains a lot about what's going on right now, and I do believe we are in a historic time, where big changes lie ahead. I don't know what things are going to look like in five years, but I do believe they are going to look much different. And, according to the wave theory, we should be coming out of this downturn in 3-5 years, for a decade or two, anyway.

So, what does all this mean? Well, for starters, despite what you hear a lot of people say, now is not a great time to buy real estate or make any long term investments in the stock market. Wait a few years and take another look.

Free advice, that last part. Other than that, I highly recommend going to the Elliott Wave Institute website and checking it out. If the theory is wrong and I'm completely fooled, I'll have a good laugh about it down the road.