What are market cycles?

What are market cycles?

Markets are said to experience cycles of various length and magnitude. Cycles tend to be defined in retrospect and it is not always evident what part of a cycle the market is in. Cycles can be of various length and magnitude, with current cycles existing as minor subtexts of the larger cycles.

In Elliott Wave Theory, for instance, cycles of various levels exist simultaneously, with the longer cycles exhibiting “self-similar” patterns to the shorter-term cycles, as in naturally occurring fractals in nature (since Elliott’s theory is that the market is a natural phenomenon, just like the breeding cycles of rabbits).

When most people talk about cycles, they are referring to periods of about 5 years that are part of what’s seen as a trend-pattern. They might also be talking about a period shorter than a year, or as short-term as a cycle during an hour of day-trading. Businesses have fiscal year long cycles, which sometimes affects and contributes to market cycles, as do seasonal cyclical behaviors of consumers.

Some stocks are known as cyclical stocks, because they are highly affected by the trends and cycles that present themselves in the market from time to time; this is in contrast to defensive stocks, which seem to perform about the same, typically without much upside potential, regardless of what part of a cycle the market is in.

Cycles are generally seen as having 4 stages. A period of sideways movement where price peaks and troughs stay within the same range is known as range-bound trading and signifies that the market is in the consolidation stage. The next stage would be a breakout into an accumulation or upward trend, also known as a markup stage.

Once a stock gets up to a peak where it goes a little sideways again, a lot of the smarter investors will be selling off their shares, believing the stock has hit it’s peak for the time being; this is sometimes known as the distribution or sell-off stage. After that, Stage 4 is a decline, where selling pressure piles on until the stock finds a new resistance level. At that point it might consolidate again, beginning a new cycle.

There are many other patterns that people look for besides this type of cycle shape, and, indeed, a cycle would be formed as an aggregate of many other smaller patterns and trends and, yes, cycles.

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